When last week’s credit-related market slump started reversing the stock market’s 2007 gains, it seemed clear that the Bush administration would act quickly to restore confidence in credit markets. Some actions it has taken have helped to do this. But it now appears to be considering a Treasury Department report that proposes a $19 billion tax hike almost sure to make things worse.
Buried in an innocuous-sounding paper on “Business Taxation and Global Competitiveness,” the Treasury Department proposes getting this money over a decade from credit unions. Not only would the 90 million or so Americans who belong to credit unions end up paying this tax directly, but the tax would likely ripple through the economy, restricting already tight access to credit, and making just about everything a bit more expensive.
Quite simply, credit unions provide a vital balance wheel for America’s lending economy and a key source of financial liquidity. While they control only about six percent of all deposits, cannot lend out as great a percentage of assets as stockholder-owned banks, and face all sorts of limitations on whom they can serve, credit unions provide higher deposit-account rates and lower loan rates than banks. One very extensive 2002 Federal Reserve policy report finds a direct correlation between credit-union membership and the rates consumers get from all lenders. As America appears ready to undergo a credit crunch, credit unions can help soften the blow.
Because they operate as non-profits and return excess funds to the members who have deposits, credit unions don’t pay federal income taxes. The fact that most credit unions operate in a business-like fashion shouldn’t confuse anyone. In fact, a wide variety of business-like organizations including the Associated Press, camping outfitter REI, the Best Western hotel chain, and dozens of insurance companies enjoy non-profit tax exemptions as well.
While taking away Best Western’s tax exemption would only result in slightly lower profits for some hotel owners and slightly higher room rates for guests, an end to the credit-union tax exemption would undermine a significant piece of America’s lending economy, lead to higher lending rates, and increase the already rising cost of credit. Since just about every transaction in the economy involves somebody getting credit, anything that raises the cost of credit will likely ripple through the entire economy. (That is, of course, why Federal Reserve–set lending rates matter so much.) Many people might not notice the difference right away — even if credit unions vanished entirely, the price of milk and bread would probably increase only a penny — but, multiplied across every transaction, this could cost the average consumer several hundred dollars a year.
Raising their taxes, of course, wouldn’t shut down credit unions. Thanks to conservative fiscal management practices, almost all would stay in business with or without their current tax treatment. Because they have few suppliers in the traditional sense, have no stockholders, and compensate their executives at non-profit levels, credit unions would simply pass the tax increase directly to their members. Some would pay higher fees and interest rates. More importantly, credit unions would also cut back on loans and accounts that simply break even — loans and accounts that many stockholder-driven banks would consider a poor allocation of fiscal resources. What’s more, with sub-prime mortgage lenders in crisis, higher taxes on credit unions would further dry up credit for people who already have a difficult time getting it.
If taxing credit unions would vastly improve America’s fiscal standing, perhaps there would be some case for it. As it is, the revenue one Treasury study projects — which nobody has double-checked — would not even cover the federal government’s asthma and allergy research efforts over the next ten years.
If the federal government or the banking industry strongly feels that credit unions have unfair advantages relative to banks, then it should level the playing field by giving those same advantages to banks. (And, for that matter, should give banks’ current advantages to credit unions.) For the most part, however, both Congress and the president would do well to maintain the status quo. Placing new taxes on credit unions would harm the public welfare, damage America’s credit markets, and hurt the economy.
– Eli Lehrer is a senior fellow at the Competitive Enterprise Institute.