State Governmental Affairs

National Conference of State Legislatures (NCSL)

CUNA's Statement to NCSL on Credit Union Tax Exemption

Despite the banking industry's significant profits, growth, and expansion over the past several years, they continue to argue that credit unions have an unfair advantage because credit unions are tax exempt. At a time when banks are asking Congress to expand their tax exemption through the S-Corporation law, they are also asking that the credit union exemption be repealed. The banking organizations argue that credit unions should no longer have this exemption because some credit unions are large, they offer more services now than in 1934, and because some credit union members have become more affluent.

To this day, credit unions are still without capital stockholders, are still organized and operated for mutual purposes with democratic principles, and continue to operate as non-profit organizations. The original reasons for granting credit unions their tax exemption are just as valid today as when the exemption was initially granted.

The History of the Credit Union Tax Exemption

A 1917 U.S. Attorney General’s opinion serves as the basis for exempting state-chartered credit unions from taxation. (There were no federal credit unions at that time.) The Attorney General’s opinion made it clear that institutions "organized and operated for mutual purposes and without profit" should not be subject to the tax imposed by the 1913 income tax law.

In the aftermath of the collapse of the banking system, Congress increased regulation over banks and sought ways to ensure that banks faced sufficient competition to keep their monopolistic tendencies in check. Congress found the growing credit union movement to be the perfect alternative to banks, especially in the area of consumer credit.

Congress formally took steps to implement this plan in 1934 by passing the Federal Credit Union Act.

A bill to explicitly exempt federal credit unions from federal income taxes was introduced two years later in 1936 and passed in 1937. Supporting testimony in the House of Representatives emphasized that credit unions were "mutual or cooperative organizations operated entirely by and for their members." There was never any link between the granting of the tax exemption in 1937 and the size of credit unions, the services offered by credit unions, or the members credit unions serve.

In 1951, the Tax Equalization Act reviewed the tax-exempt status of a number of corporations and cooperatives. It affirmed credit unions’ federal tax exemption, because credit unions maintained their one-vote-per-member democratic form of representation. Mutual savings banks and savings and loan associations lost their exemptions, largely because many converted to stock institutions.

The history of the credit union tax exempt status is not unique in our society. A similar tax status has been granted to other entities organized for service and not-for-profit. For example, for-profit hospitals are taxed, while non-profit hospitals are not. Their services are the same; however, recognition of the non-profits' contribution to society - providing more affordable health care - give them the basis for their tax exemption. The size of the hospital and the number of patients it serves does not affect its status, just as the size of a credit union or the number of its members should have not impact on its tax status.

Taxing Credit Unions Would Do More Harm Than Good

Taxing credit unions would do more harm than good, not only to credit unions, but to consumers. Since credit unions have no profits, taxation would come out of the reserve cushion that they maintain for unexpected downturns in the economy or unpredictable changes in the marketplace.

Taxation also would greatly diminish credit unions' function as cooperatives by reducing their ability and willingness to take care of their own problems. Currently, credit unions finance their own separate regulatory, liquidity, and insurance programs and haven't asked the government for any assistance. Taxation would increase the pressure on credit union managers to eliminate free and unprofitable services. Small loans, financial counseling, small share draft accounts and loan rebates would be among the victims of such pressures.

Since credit unions cannot retain income at the corporate level, but instead pay distributions to members who are then taxed on them, not imposing a corporate income tax on credit unions made sense in 1934, and continues to make sense today.

A plan linking taxation to size would penalize efficient managers, discourage smaller institutions from expanding, and overall, curtail the movement's ability to grow and fulfill consumers' demands for reasonably priced financial services. Furthermore, there is no evidence to suggest that credit unions stop behaving like cooperatives once they reach a certain size. Larger credit unions frequently provide more services and greater personal attention because they have the advantage of economies of scale.

-CUNA State Issues Subcommittee

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