Rogue federal credit union

Bankers seek a level playing field

with the increasingly competitive credit union industry

The Supreme Court will hand down its decision in the AT&T Family Federal Credit Union case in the next few months, and credit union representatives will try to get the 105th Congress to pass H.R. 1151, a bill which would expand a credit union's ability to attract members. While highly visible components of the battle between the banking and credit union industries are playing out in Washington, D.C., the real battle is taking place out of the spotlight in communities all across America, including the Upper Midwest. In Moose Lake, Minn., for example, Larry Peterson, president of the First National Bank, wonders why the Moose Lake Federal Credit Union can afford to spend five times more on marketing than he can. In Racine, Wis., Jess Levin, president of the First State Bank, is concerned that a joint venture between one of his customers and the Teachers Federal Credit Union will ultimately mean new commercial business for the credit union. And bankers everywhere wonder how far the credit unions will stretch the meaning of common bond.

Bankers have long complained that credit unions do not have to pay federal income taxes, that they are not subject to the Community Reinvestment Act, and that common bond rules are becoming meaningless. Credit union managers argue they don't pay taxes because they are non-profit organizations that don't make a profit; that Congress decided only banks need CRA, and that common bond rules are governed by federal regulators who take into account safety and soundness when considering field of membership for a particular credit union. Bankers argue that the issues are more complicated. For example, despite their non-profit status, many credit unions do make money. The income becomes retained earnings which many credit unions use to fund pricey marketing campaigns, provide travel and lodging to industry conferences, and otherwise compete against banks. Bankers also complain that credit unions can set up shop just about anywhere, including locations in which home office protection laws would otherwise prevent the establishment of a new bank. Also, the bankers say, some credit unions make commercial loans despite their supposed focus on consumer services.

"Where does the tax subsidy go?" asked Peterson, reviewing financial figures from the Moose Lake Federal Credit Union, a $51 million institution serving customers in three cities. Peterson notes that the Moose Lake Federal Credit Union made $587,000 in 1995. "Had they been a bank, $237,000 would have gone to state and federal income taxes," he said. Using documents provided by the credit union, Peterson noted it spent $59,928 on travel and conference expenses in 1995; it spent $76,139 in 1996. "In 1996, we spent $830 on travel and conferences," he said. "I was told that at their credit union, every board member and officer is entitled to one outof-town trip per year. I can tell you this bank didn't pay for one airline ticket last year; we can't afford it," Peterson said, noting that last year his bank paid $345,000 in state and federal income taxes. The Moose Lake credit union spent $141,475 on education and promotional expense in 1996, he said, while his bank spent $30,000. Peterson also said salaries at the credit union are disproportionately high.

"Excess earnings are supposed to go back to the members, but I don't see that. Their savings rates might be higher than mine, but their loan rates are about the same as mine. It seems to me that income is going to salaries, more travel and more advertising."

A study recently conducted by a Wake Forest University accounting professor confirms Peterson's suspicion. Yvonne Hinson Stewart reports that credit unions use their tax exemption to cover higher personnel and fixed overhead costs. In her report, "Who Receives the Benefit of Credit Unions' Tax Exemption?" she says most credit unions do not offer significantly higher rates on savings accounts or lower rates on loans.

Peterson said other cooperative institutions are required to refund to members excess earnings at year-end; he said he would like to see credit unions do the same.

Tom Griffith, president of the Iowa League of Credit Unions, said members own the reserve that builds up at some credit unions. "Building up a reserve is the only way a credit union can build capital," Griffith said. "They are not like a bank that can go out and sell stock. Additional capital can only come to a credit union through its balance sheet."

Griffith noted that in the rare event when a credit union is liquidated, members get all of their savings back, plus their pro-rated share of the reserve balance.

Tough Competitors

Levin, a past president of the Wisconsin Bankers Association, knows how tough the credit unions are to compete against. The Educators Credit Union in Racine is open to everyone in the education system in seven counties, including Milwaukee. Levin said the credit union has grown substantially in recent years. "I wouldn't mind competing against them if it was a level playing field and it was on the basis of service," he said. "I don't like to have to compete against them on the basis of their tax subsidy."

Levin said three credit unions that had deposit relationships with his bank pulled $1 million out of his bank within three weeks of a speech he delivered in 1990 in which he said credit unions compete unfairly. Now he's concerned that he may have an issue with a large insurance agency that uses his bank. The agency recently entered into an arrangement with a credit union to jointly market insurance products with credit union services; Levin is watching to see whether the arrangement ends up pulling business away from his bank.

Levin said bankers have to be willing to speak up against credit unions even if it means losing some business in the short term. "Bankers must be willing to put the interests of the industry ahead of their own personal interests," he said.

Many bankers are bothered by community credit unions whose members demonstrate little in common. Peterson quoted a National Credit Union Administration rule saying that a community credit union must serve a "single geographically defined area where residents interact." He said residents in his home town of Moose Lake rarely interact with residents in Hinkley, Minn., or Sandstone, Minn., yet all three communities are served by the same credit union.

Bob Weiss, president of the First State Bank of Excelsior, Minn., said that Minnesota law requires him to notify every bank within a three to five mile radius when he opens a new office. "A credit union can open up without notifying anyone," he said.

Griffith dismissed the complaint saying that banks don't have to notify existing credit unions when they come into a new community. "Credit Unions get permission from their own regulator when they establish a new location," he said. "The regulator takes into account safety and soundness considerations before granting the credit union permission to expand."

Although credit unions are supposed to serve consumer interests, bankers consistently argue that many credit unions make commercial loans. The National Credit Union Administration reports that in the state of Iowa alone, 30 of the state's 214 credit unions have 539 "member business loans" outstanding involving $37.6 million. The vast majority of those loans - 251 - were made by the Dupaco Community Credit Union in Dubuque. The $171 million institution has four locations, 100 employees and 32,000 customers. Other leading business lenders in Iowa are the Collins Credit Union in Cedar Rapids with 66 business loans outstanding, the Deere Community Credit Union in Ankeny with 51 outstanding business loans, and the University of Iowa Credit Union with 31 outstanding business loans. (For a list of the credit unions in the Upper Midwest with more than $1 million outstanding in business loans, see the "Etcetera" feature on page 30 of this issue.)

Fighting Back

The banking industry is becoming increasingly agitated over the growing competition. Although the national trade groups have identified credit union inequities as a concern for decades, the efforts to level the playing field have heated up in recent years. The Supreme Court decision in the AT&T Family Federal Credit Union case will clarify the current law regarding common bond. If the banking industry wins, occupation-based credit unions generally will only be open to the members of a single group. If the credit unions win, a single occupation-based credit union will be able to open their doors to just about anyone who wants to join.