By Ray Birch
WASHINGTON—Has the celebration among credit unions over the preservation of the tax exemption in the new tax legislation caused them to completely miss another big issue–the competitive advantage banks have received?
Two analysts have told CUToday.info that the reduction in the corporate tax rate will lead to greater investments by banks in their businesses and resulting greater competition for credit unions, including in loan and deposit pricing.
“I think what is flying under the radar, among the euphoria of credit unions maintaining their tax exemption, is the fact that their 35% competitive advantage just got reduced to 21%,” said a consultant who works for both credit unions and banks and who requested anonymity. “I know for the banks the tax cut is a big deal.”
While credit unions and their trade groups largely focused on celebrating the preservation of the CU tax exemption in the tax reform bill recently signed by President Trump, CUToday.info has launched a series examining the additional implications for CUs.
In addition to potential stock buybacks or increased dividends, analysts told CUToday.info they expect banks will use the any bottom line increases resulting from the corporate tax reduction to:
- Grow faster
- Invest in resources—technology, infrastructure, product enhancements, delivery channels, etc.
- Invest in people—increasing competition for talent
- Be more price competitive
The consultant contends that banks’ deeper pockets will impact CUs significantly, and it two primary ways.
Hanging On
“First, small credit unions that were barely hanging on, with effectively zero competitive advantage, will continue to see consolidation, possibly at a faster clip,” the source explained. “Second, larger credit unions that had a marginal competitive advantage will now see that it has evaporated, and will find it more difficult to grow unless they become more productive.”
The consultant ran the new tax formula on the earnings of a $1.8-billion community bank client.
“Their pretax ROA is 1.97%,” the source told CUToday.info. “Using the old tax rate, their ROA is 1.30%, which is very strong and keeps their shareholders very happy. Under the new tax rates, their ROA will be 1.55%, which is a difference of 0.25% ROA. That’s a lot of ROA they suddenly have at their disposal as an offensive weapon to go attack the marketplace with—especially with a group of already happy investors who would prefer more marketshare instead of a larger stockholder dividend . . . The more I get into what this tax change means, working with hard numbers, the more I’m understanding how profound the tax implications will most likely be.”
The consultant stated that already a small community bank has indicated it will make some competitive improvements with the money.
“A smaller community bank, which has a young leadership team and wants to grow, told me the tax cut opens up enough income to allow them to hire two revenue producers they would not have been able to hire,” the source said. “It is going to allow them to accelerate their rate of growth . . . I don’t see anyone talking about this, but it’s going to happen.”
Carrie Hunt
NAFCU EVP/General Counsel Carrie Hunt agrees.
Impact On Competitive Environment
“There will be an impact on the competitive environment with banks having the lower tax rate,” said Hunt. “This will give banks more flexibility—more cash, more capital, freeing up funds on the banking side. So how that plays into the market overall is something that certainly is a concern, and credit unions will have to see if they need to make any changes.”
Hunt emphasized that credit unions don’t fear competition, “but the competition needs to be fair competition. We will see some market changes in the next several years.”
Hunt believes that banks having more cash means more money into the economy, which is not a bad thing.
“But how that will play out in local markets remains to be seen,” Hunt said.
Hunt agreed that it’s already tough enough for credit unions to compete with the big pockets of the banks and now they will have to dig deeper.
“I do think this is a big boost to banks’ topline,” she said.
But when it comes to consumer behavior, Hunt added, “It’s too soon to tell what the ultimate impact will be.”
So Many Changes
Hunt said NAFCU will be watching for the effect on consumers from changes in mortgage interest deductions, home equity loan instructions and other tax deductions.
“There are so many small changes in this tax reform package that it’s hard to say one is bigger than another and will have a huge impact,” Hunt said. “We will have to wait to see what the totality of the changes have on the overall economy.”
Hunt emphasized that with the new tax bill that NAFCU’s primary goal has always been to preserve the credit union tax exemption.
“Again, it’s very positive that credit unions kept their tax exemption,” said Hunt. “Now there is going to be a bill for technical corrections for issues that have come up, but I don’t anticipate that will create any major policy changes. But that is something we will continue to look at as well.”