Why do credit unions have an income tax exemption?

The on-the-nose yet accurate answer to the title of this article is, “Because Congress says they do.” And, in fact, Congress has re-affirmed the credit union income tax exemption multiple times since its inception in 1937—first in 1951 and most recently in 1998.[1]

The real question should be, “Why did Congress grant, and why does it continue to grant, credit unions an income tax exemption?”

It begins in 1917, when the US Attorney General Thomas Watt Gregory gave a legal opinion regarding credit unions organized in Massachusetts, “Credit unions . . . being in substance and in fact the same as ‘cooperative banks . . . organized and operated for mutual purposes and without profit’ . . . are exempt from taxation.”[2]

While this opinion included state-chartered credit unions, it included all institutions organized for “mutual purposes and without profit.”

Notice that there is no mention of services rendered or number of people served or size of organization. Rather, Gregory attributes tax exemption to structure and purpose: mutual, without profit.

In the aftermath of the collapse of the banking system in the early 1930s, Congress found the growing credit union movement to be the perfect alternative to banks, especially in consumer credit. Why? Here are a few interesting quotes from bankers, themselves:

  • “Retail Credit, such as is now associated with the broad pattern of consumer needs, was shunned as a synonym for Original Sin.”[3]
  • “Now, remember the days in which your great-grandfathers were running banks and would no more make a loan on a personal basis than the man in the moon. If a person came in to ask for a personal loan, they would throw him literally and bodily out of the institution. This was the day and the era in which people borrowed money who were poor, who were workers, who were clerks, who were in the factories, and for their entire lives stayed in debt to the loan sharks. We asked for the competition of S&Ls, we asked for the competition of credit unions.”[4]

So, to help the average person, Congress passed the Federal Credit Union Act in 1934. According to the National Credit Union Administration, “The purpose of the federal law was to make credit available to Americans and promote thrift through a national system of nonprofit, cooperative credit unions.”[5]

Three years later, in 1937, Congress passed a bill to explicitly exempt federal credit unions from federal income taxes. 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 no mention of credit unions’ tax exemption being linked to the services they offered or the number of members they served or what group of people they served.[6] [7] There was relatively considerable testimony about how credit unions were able to help the average and person obtain credit.[8]

The system has no element of profit making whatever. It was designed to meet the needs of the humble folk of the land, of those who had no credit resources. . .therefore, there is all the more reason why we should lose no opportunity to advance the interests of a system that is doing more good to the humble folk of the land than perhaps any other recent invention,” said Rep. Robert Luce, R-Mass. (Emphasis added.)

In none of the official records does any policymaker tie tax exemption to anything except the structure of credit unions: not-for-profit cooperatives. Never is size, services, field of membership, or any other aspect of credit unions mentioned.

This was reaffirmed in 1951 when the thrift institutions lost their tax exemption.  As recounted in a 2001 Department of the Treasury report:

In 1951, thrift institutions lost their tax exemption, but the credit union exemption was retained. The Senate report to the Revenue Act of 1951 stated that mutual savings banks and savings and loan associations were losing their tax exemption because they had evolved into commercial bank competitors. In addition, thrifts had evolved from mutual organizations to ones that operated in a similar manner to banks. Finally, the exemption had given thrifts a competitive advantage over taxable commercial banks and life insurance companies.[9]           

Interestingly, the Department of the Treasury study points out a few things that banks say should cause credit unions to lose their income tax exemption: the savings and loans had evolved into commercial bank competitors, and had a competitive advantage over taxable banks.

In fact, bankers, typically list several reasons that credit unions should pay income taxes. Credit unions:

All of these statements are, to one degree or another, true. Many credit unions are multi-billion dollar institutions that offer a full range of products and services. They retain earnings—because the law, regulators, and sound business practice require them to. Credit unions were born out of the need for the average person to have a financial institution because banks wouldn’t serve the average person; so once banks decided there was money to be made serving the average person—yes, credit unions competed with them.

Yet all of the banker arguments, while being true, also miss the point—which is emphasized in the 2001 study: mutuality remains. Thrifts lost their tax exemption because they were commercial bank competitors, had an unfair advantage, and had lost their mutual structures. Credit unions retain their mutual structure. Therefore, they merit the continued income tax exemption.

Bankers seem to suffer from a severe case of amnesia when they re-cast history to say that the credit union tax exemption came because credit unions were small, had limited services, and didn’t compete with banks. They conveniently forget the “mutually owned” part of the equation. That would be like changing the Pythagorean Theorem to a2 + b = c2. It’s just missing a key component and no longer works!

Returning to the history lesson, the credit union tax exemption was reaffirmed in 1998, when HR 1151, the Credit Union Membership Access Act, was passed. This law enacted many changes to the credit union charter—among them allowing for expanded fields of membership and arbitrarily limiting member business lending as a point of concession by credit unions. It was a prime opportunity to remove credit union income tax exemption. Yet, credit unions remained exempt from income taxes.

The recent tax reform of 2017 again presented an opportunity to remove the credit union tax exemption. But, despite banker efforts, it was never really even considered. Credit unions—mutually owned cooperatives that operate for the benefit of their members—have proven their value to the nation, and retain their tax exemption.


[1] https://www.richmondfed.org/publications/research/econ_focus/2017/q2/feature2

[2] Digest of American Income Tax Cases, prepared by Lyle T. Alverson, New York, Baker Voorhis & Company, 1921. Page 88. Page 102 of the pdf found here: https://archive.org/details/cu31924019978976/page/n101/mode/2up.

[3] First Security Corporation—1st 50 Years. P. 22.

[4] Carl E. Bahmeier Jr., who was with the South Dakota Bankers Association, at the Montana Bankers Association convention in June 1960.

[5] https://www.mycreditunion.gov/financial-resources/calendar-events/federal-credit-union-act

[6] See the Congressional record for the date given, starting on page 12,218, available here: https://www.congress.gov/congressional-record/73rd-congress/browse-by-date

[7] See the Congressional record for this date, starting at page 358, available at: https://www.congress.gov/bound-congressional-record/1937/11/24/house-section?p=0

[8] See the 82nd Congressional Record, Volume 82, Part 1 (November 15, 1937 – December 7, 1937), available at goveinfo.gov, here: https://www.govinfo.gov/app/details/GPO-CRECB-1937-pt1-v82/ 

[9] Starting on page 28: https://view.officeapps.live.com/op/view.aspx?src=https%3A%2F%2Fhome.treasury.gov%2Fsystem%2Ffiles%2F136%2Farchive-documents%2Freport30702.doc&wdOrigin=BROWSELINK