Some Answers about Credit Unions

An Analysis of H.R. 1537

A recent, widely circulated advertisement from the American Bankers Association asks some questions of the credit union industry. They’re good questions and, in some cases, may be reasons to oppose or support a bill, the Credit Union Regulatory Improvement Act (H.R. 1537), that’s currently before Congress.

Although the questions were not directed to us, we’ve been very active on banking and credit issues. Thus, we thought that it might be useful to share our free market perspective. Some answers follow:

10. If some credit unions wish to expand lending to all types of businesses, why not have them convert to become banks as some credit unions have done?

A credit union that wishes, above all else, to lend to all types of business without restriction should, indeed, convert to a bank. (Although it needs to do so through the democratic process that governs credit union operations.) But, as we’ve discussed in another paper, “Taxicab Medallions and Heirloom Tomatoes to the Rescue,” (available on H.R. 1537 would not blow open the doors on credit union business lending but simply allow it to grow in a modest fashion. Credit unions that truly want to do an enormous amount of business lending will find H.R. 1537 a disappointment.

9. How was the making of fraudulent construction loans in Florida by recently failed Colorado and Michigan credit unions consistent with the purpose of serving people of modest means?

It wasn’t. Fraud always hurts people; this is why it’s a crime. A credit union that served many people of modest means, stayed in business, and committed fraud would be criminally culpable for the fraud, regardless of its service to customers of modest means. Credit unions are businesses—albeit non-profit ones—and should be able to make whatever loans they believe best serve member interest. Furthermore, there’s no federal law that says only people of modest means can join credit unions. Likewise, it’s an enormous leap to attribute the problems of any one industry player to the entire industry.

8. Eastern Financial Federal Credit Union was just forced to take a huge loss on a $30 million condo project. What was it doing funding a condominium development in the first place?


7. Why was Cal State 9 Credit Union issuing speculative home equity lines of credit that resulted in it being placed under conservatorship in November 2007?

We know nothing about Eastern Financial Credit Union or Cal State 9 Credit Union except that, were we members of either, we’d likely try to vote out their current management. Again, however, the conduct of any one industry player shouldn’t determine the regulatory fate of an industry. The same types of questions should be asked about every bank or credit union loan that’s ever gone bad. All loans involve risk. That’s why lenders charge interest. Credit unions, like all businesses, sometimes make bad business decisions. When a credit union makes a serious blunder, its member should vote out the management. Nothing about credit unions, however, suggests that they are more (or less) likely to make bad decisions than any other type of institution.

There’s no reason, in any case, why credit unions shouldn’t be allowed to make any type of loan they think serves member interest. Each credit union serves a defined field of membership and, if a credit union’s field of membership would benefit from condominium development loans or supposedly “speculative” HELOCs, there’s no reason why it should face a bar on offering them.

6. As tax-exempt institutions, shouldn’t credit unions be concentrating more on fulfilling their mandate of serving people of “modest” means, rather than trying to expand loans to real estate developers?

No. The Competitive Enterprise Institute, The American Bankers Association, The Credit Union National Association, and the Best Western Hotel Chain all enjoy partial tax exemptions. None exists primarily to serve people of modest means. Indeed, institutions like the New York Yacht Club that more-or-less require great wealth as a prerequisite for membership also have a type of tax exemption. Unlike banks, furthermore, credit unions are run on a democratic basis: anyone who owns an account at a credit union has an equal vote in its operations. Non-profit status per se does not necessarily require that an organization do anything to serve people of modest means.

The credit union industry says that it does a pretty good job serving people of modest means. It may or may not but really shouldn’t matter. Tax exemptions exist for a variety of reasons and, in fact, economists across the political spectrum—from Bruce Bartlett to Robert Reich–have come to agree that we’re better off with some combination of consumption and/or personal income taxes than we are with taxes on corporations (non-profit and for-profit alike). For those who seek a “level playing field” there’s a compelling case for making all banks tax exempt. But there isn’t a strong case for getting rid of the credit union tax exemption.

In this context, furthermore, it’s important to note that credit unions exist to serve customers in their field of membership (FOM). A credit union’s FOM can be any defined group of mutually connected people. If a credit union’s FOM happens to include lots of real estate developers, then it might have gain special knowledge about real estate issues and have an important role in financing real estate investments.

5. If credit unions in Massachusetts can comply with Community Reinvestment Act (CRA) requirements, why can’t all credit unions?

Of course all credit unions could comply with CRA. So, for that matter, could individuals who make loans to friends. The relevant question isn’t whether or not credit unions can comply with CRA, the question is whether or not they should. Two reasons suggest they should not. First, CRA was designed as a law to regulate banks to deal with a particular perceived problem in the banking industry. It makes no sense to apply a bank law to credit unions. Second, quite simply, CRA hasn’t accomplished its goals. A review of the literature on CRA reveals that it hasn’t really achieved its goals of increasing lending to underserved communities.Indeed, the original assumptions that motivated the legislation–that banks acted in a discriminatory fashion—were based on flawed data. The CRA also imposes significant burdens on lenders and has a social cost that far exceeds its benefits to society.

As an interim measure, Congress should consider repealing the CRA as it applies to smaller banks that are the most likely to compete with credit unions.

4. The National Community Reinvestment Coalition (NCRC) found that credit unions are not doing as well as banks in serving low-income and minority consumers. Since credit unions receive a valuable tax benefit, shouldn’t they be required to measure their service to low- and moderate-income consumers?

No. Credit unions shouldn’t be required to measure their service to low- and moderate-income consumers, but neither should banks. Essentially, this question is based on the assumption that credit unions and banks exist to serve the “public” interest. This is wrong. Conventional banks exist to benefit the stockholders and nobody else. Credit unions, likewise, exist to serve their members and nobody else. Even if it is true that banks do “better” at lending to low- and moderate-income consumers (and they probably do not) that should not matter; credit unions can only service customers in their defined field of membership. If Congress wants credit unions to increase lending to low- and moderate-income consumers, then it ought to let credit unions serve them wherever they live or whatever groups they might belong to. Rather than demanding credit unions submit to examinations and reporting standards, regulators should remove the barriers on credit union fields of membership so that they can serve more low- and moderate-income customer. See the CEI paper “Let Credit Unions Grow” (available on for more on this. Although it doesn’t go as far as it should, H.R. 1537 helps credit unions expand into low and moderate-income neighborhoods.

3. Presently, there are 123 credit unions with over $1 billion in assets—making them larger than 82 percent of banks. At the same time, the number of small credit unions has declined by over 1,700 institutions since the beginning of 2002. Is this what Congress intended?

We don’t know what Congress intended. If Congress wanted to preserve small credit unions for their own sake, then current policy has been ineffective in doing so. It’s more important to ask whether the consolidation of credit unions changes the unique benefit they provide. By at least some measures, it does not. Larger credit unions can often provide better services and often engage in more “break even” activities like (in the case of the single largest credit union) placing barely-break-even ATMs on every sizeable ship in the United States Navy. Credit unions are businesses and face the same competitive pressures that have caused many banks to consolidate. The Credit Union National Association has told us that the three largest banks are each larger than the entire credit union movement. Particularly in this context, it’s not clear why public policy should prefer small credit unions to big ones. More research, however, is needed on the costs and benefits of credit union consolidation.

2. Federally-insured credit unions have made nearly $6 billion in business loans to non-credit union members. How is funding non-member loans consistent with the purpose of credit unions?

Technically they’ve purchased pieces of loans (mainly from other credit unions) rather than originating those loans themselves. This, however, appears to be a distinction without a true difference. As member-oriented organizations, however, credit unions probably will achieve their goals best if they avoid dealing with non-members even in this indirect (although perfectly justifiable and legal) fashion.

Current law, however, make the status quo almost inevitable. Right now, the government limits the percentage of loans that credit unions can make to businesses to 12.25 percent of the organization’s overall portfolio. When members demand more loans, credit unions often have little choice but as to sell their loans to anyone who will buy them.

Because it would not eliminate the loan cap altogether (simply raise it to a rather arbitrary 20 percent), H.R. 1537 would not end this practice of indirect non-member lending. Members of Congress concerned about this indirect lending to non-members should consider efforts to ease the cap beyond what was envisioned in H.R. 1537 or even remove it altogether.

1. Why should members of Congress cosponsor H.R. 1537 if the credit union industry cannot answer these questions?

Members of Congress should consider these questions, answers from us, answers from the credit union industry, additional information from the banking industry, and whatever other information they think relevant in deciding whether or not to co-sponsor H.R. 1537. On balance, the bill is a series of half-way measures that frees the market only around the margins. It deserves deliberate, careful consideration. It does reduce the level of political oversight of the economy but does not go as far as it should. Free marketers should look on it as a building block for further action.

Further Reading More Publications from CEI and Associates

For more information about credit unions, the following articles and papers provide analysis and commentary from the Competitive Enterprise Institute’s free market perspective. All papers are available on the web at

Ripples Make Waves: We Shouldn’t Tax our Credit Unions By Eli Lehrer; National Review Online At the beginning of the credit-related market slump, the Treasury Department released a report that proposed eliminated credit unions’ tax exempt status, resulting in a $19 billion tax hike in an attempt to help. In his article Eli Lehrer explains why the plan is almost sure to make things worse, claiming that the tax would “ripple through the economy, restricting already tight access to credit, and making just about everything a bit more expensive.

Taxicab Medallions and Heirloom Tomatoes to the Rescue By Eli Lehrer; The Competitive Enterprise Institute,06139.cfm In this comprehensive study, Eli Lehrer addresses the potential benefits the Credit Union Regulatory Improvement Act (CURIA) could have for certain categories of small business and the concerns banks have about “uneven” competition. The study concludes that CURIA will not substantially increase the amount of credit available for small businesses and stresses the importance of deregulation for credit union business lending.

Let Credit Unions Grow By Will McBride; The Competitive Enterprise Institute In this paper, Will McBride explains how the traditional structure of credit unions based on a restrictive field membership “is an historical anachronism” and how in the current regulatory scheme and business environment the restriction is less a way to protect credit union members, rather acting as “an effective way to shut out competition between banks and credit unions”

The Credit Union Regulatory Improvement Act Frequently Asked Questions By Eli Lehrer and Michelle Minton; The Competitive Enterprise Institute,06140.cfm Eli Lehrer and Michelle Minton provide a free market perspective on the Credit Union Regulatory Improvement Act (H.R. 1537, aka CURIA) by addressing frequently from business, regulators, and consumers.