Credit Union

Small non-profit firms providing credits to members only.

Author: Adin Lykken
Adin Lykken
Adin Lykken
Consulting | Private Equity

Currently, Adin is an associate at Berkshire Partners, an $16B middle-market private equity fund. Prior to joining Berkshire Partners, Adin worked for just over three years at The Boston Consulting Group as an associate and consultant and previously interned for the Federal Reserve Board and the U.S. Senate.

Adin graduated from Yale University, Magna Cum Claude, with a Bachelor of Arts Degree in Economics.

Reviewed By: Osman Ahmed
Osman Ahmed
Osman Ahmed
Investment Banking | Private Equity

Osman started his career as an investment banking analyst at Thomas Weisel Partners where he spent just over two years before moving into a growth equity investing role at Scale Venture Partners, focused on technology. He's currently a VP at KCK Group, the private equity arm of a middle eastern family office. Osman has a generalist industry focus on lower middle market growth equity and buyout transactions.

Osman holds a Bachelor of Science in Computer Science from the University of Southern California and a Master of Business Administration with concentrations in Finance, Entrepreneurship, and Economics from the University of Chicago Booth School of Business.

Last Updated:November 29, 2023

What Is a Credit Union?

Many of us hear about financial institutions daily, but what do financial institutions refer to and mean? Unfortunately, many of us know about them very little because each country has its regulations and rules that implement some of them.

We already know banks, commercial and investment, and insurance companies offering multiple services, but how much do we know about Credit Unions (CUs)? What is a financial institution?

Financial institutions refer to the firms that facilitate the flow of funds between parties who are savers and borrowers. They usually sell claims to generate income and use this money to buy other claims from clients, businesses, and governmental units to give them money to operate.

These claims usually comprise:

They dominate and compose the financial sector globally by offering a broad spectrum of financial services to different large sizes of firms and consumers. In addition, they vary in size, financial services, and geography.

Thus, they offer highly demanded services, mainly in developed countries whose citizens and residents continuously need those financial services. Moreover, they play a crucial role in any country's economy as companies, individuals, and governments rely heavily on them.

As they play a vital role in the economy, any failure in one of these would bring loss to others which is something that we saw earlier in the last decade and the frequent occurrence of a financial crisis.

Examples include commercial banks, brokerage firms, life insurance companies, and more. These firms are usually called financial intermediaries. They are classified into groups such as investment funds, contractual savings institutions, and deposit-type institutions.

Focusing on deposit institutions, they generally issue various checking or saving accounts and time deposits and use the generated money to make loans for different end-users.

This category includes commercial banks, credit unions, and saving institutions (Thrift Institutions). 

Understanding a Credit Union

What are depository institutions and their relationship with CUs? What is the nature of CUs, then?

A depository institution is a firm that facilitates the process for depositors to deposit their money, similar to storage. Those depositories, including a bank or firm that has securities and can trade them, offer liquidity and lend money from the deposited amount.

Also, the main funding for these institutions is through their customers' deposits to give loans for different purposes like business, real estate, or other customers. In addition, it issues time deposits or saving or checking accounts.

These are small, non-profit, and consumer-based firms whose respective members wholly own (customers) as their services are limited only to those members.

They are in the form of a member-owned financial cooperative firm, so these members manage these institutions. Accordingly, they are exempted from federal tax income due to their collaborative nature.

These institutions provide credit at competitive rates, other financial services, and thrift for their members. Their investments are mainly in the form of short-term consumer loans.

Their liabilities are checking accounts, known as share drafts and saving accounts, called share accounts.

In the U.S.A., insurance is offered by the Federal Deposit Insurance Corporation-FDIC customer deposits and accounts with up to specific limits. It is an independent agency established by Congress in 1933 to stabilize the nation's financial and economic system.

It is one of the two agencies that offer deposit insurance to depositors in American depository institutions. The other one is the National Credit Union Administration-NCUA which provides insurance and regulates these entities.

NCUA and American Share Insurance- ASI are two primary providers of depository insurance in that country.

ASI is a private corporation founded in 1974 in Ohio, U.S.A. that insures shares in a few state-chartered CUs. 

Corporate Credit Unions (CCUs)

They are known as central credit unions and usually offer their services to CUs, including fund clearing, product and service delivery, and operational support.

Also, they provide financial settlement services like automated clearing houses, electronic transfer funds, and ATM transactions.

In the U.S.A, these entities are operated by their respective states and have relationships with CU leagues that work in that state. These are cooperative federations for all the CUs as this is applied to the U.S.A and Canada.

CCUs went into consolidated movement in the 1980s because of the limited resources they were exposed to with the increased demand or failure of these institutions.

Also, there was a rigid movement by the stronger and bigger ones to offer their services to those operating outside their state and broaden their scope of customers served.

Their membership consists of other CUs within a country, and their services are not limited as they offer liquidity, investment opportunities, and deposits. In addition, they provide short-term and long-term investments.

Usually, the short-term investment in the U.S.A would be in the form of federal funds, which are overnight borrowing between these entities to maintain their reserves, while the long-term would be as governmental instruments.

They act as the credit union's credit union and are owned by the credit unions that choose to do business with them.

However, their services are extended to the consumers' level, meaning that most of these CCUs do not offer such services to employees and their family members of these entities.

Usually, this service is offered as an exemption only made in case of the laws on local or federal levels, preventing employees or anyone who deals with a financial institution where this prevention is made to avoid fraud and default.

Credit Union History

The idea existed since 1845, founded by Samuel Jurkovič, and was considered the first of its type in Slovakia, Europe. It provided affordable loans at that time from the generated and accumulated funds from regular savings from cooperative members.

It was under the name of "The Association of Administrators or The Association of Farmers," where members are committed to following a moral life and planting two trees annually in public areas.

Until then, in 1851, the basis for this notion movement was created and formed in Slovakia. Further, in 1852, Franz Hermann Schulze-Delitzsch, a German economist and politician, established the world's first recognized modern CU.

His contributions continued to establish a prosperous system for it. Others also started to utilize this idea in rural areas, like Friedrich Wilhelm Raiffeisen, who founded in the year 1864 the first rural one in Heddesdorf, Germany.

In the 1880s, this concept spread to other countries, including France, Italy, England, and more.

Similarly, in the 19th century, such a concept also existed in Japan by the economist and reformer Ninomiya Santoku. In this context, each person in the village union borrows money with free interest rates for 100 days.

In 1901, the first one was in North America, established by Alphonse Desjardins, known as the Caisse Populaire de Lévis in Quebec, Canada, with a 10-cent deposit.

After seven years, in 1908, in Manchester, U.S.A, the first one was established in the New Hemisphere called St. Mary's Bank and assisted by a personal visit from Desjardins Group located in Levis, Canada. It serves residents of the Commonwealth of Massachusetts.

A few years later, this cooperative entity concept started to be established and expanded between 1950 and 1960 to help poor people in Latin America's countries: Costa Rica, and Peru, because this idea was supported by the Catholic Church in 1940.

The Regional Confederation of Latin American Credit Unions-COLAC was founded in 1970 with the support of funding from the Inter-American Development Bank Credit Unions.

Moreover, the World Council of Credit Unions- WOCCU was founded in 1970 in Wisconsin, U.S.A., and started its operation in 1971. It is an international association regulating trading for these different entities around the globe.

It aims to help and improve people's lives through services provided by them and financial cooperatives. Its members are more than 80,000 and are operating in 118 countries worldwide. 

The National Association of Federally-Insured Credit Unions-NAFCU is a trading organization founded in 1967 in the U.S.A. that aims to advocate and educate these entities in the nation and conducts research concerning the challenges those entities face.

Credit Union National Association-CUNA is a U.S.-based trade association in Washington. D.C. for federal and state-chartered CUs founded in 1934.

Credit Unions vs. Banks

There are some differences between both, as in CUs, the nature of accounts where people who have accounts with them are members and owners and have the right to elect their board of directors whatever the amount invested.

They are generally non-profit in nature, serving people and supporting the community. At the same time, banks are not either privately owned or publicly traded, so this difference affects the types of products and services offered by both.

Throughout history, these institutions intended to give their members a superior and excellent experience and help them in different financial situations in many ways.

Though the financial services offered by these entities have better quality and are somewhat similar to the products offered by the banks, banks do not. Usually, the members deposit and borrow money in these institutions and are offered at a cheaper cost.

They can offer low rates on borrowing funds, low fees required, and high-interest rates on savings for all their members and owners.

Unlike the banks, they are generally smaller than banks with a low number of branches and structured to serve a specific area, country, region, and even a group or industry; banks can do internationally with a broader scope and customer segment.

They have strong relationships to be part of the ATM network to reach out to more financial providers and offer other financial services and equipment to boost their members’ satisfaction and meet their needs and wants.

They receive their personalized financial services more than banks do. They might be able to give their members education and more.

Banks do not require membership, while these institutions are based on such a notion. Instead, membership in these entities is required based on common bonds, which means people with common interests and their eligibility rules and regulations.

Advantages and Disadvantages Credit Unions

For these entities to generate profit, they need to start from attractive deposits with high rates; as mentioned earlier, they have an advantage over banks because of their non-profit nature.

It allows them to be exempted from the taxes on corporate income and generate funds only to the limit of keeping them able to operate and do day-to-day business, so they can operate on narrow margins, increasing the profit quarterly for shareholders.

This narrow margin allows them to pay high-interest rates when their members deposit their money and simultaneously charge low fees for other financial services.

Also, their objective of taking care of the community does not exist in banks. As mentioned earlier, they are non-profit and not profit maximizing as banks do. They are designed to give benefits to communities, not only to the shareholders alone.

The membership allows members to vote and be part of the ownership which is not similar to the relationship with banks as only customers as well as to receive dividends; basically, the members are investors. Also, members are able to benefit from the personalized services.

In contrast, as mentioned earlier, these are smaller in their size than banks and do not have too many branches, which causes dissatisfaction for clients who prefer in-person transaction completion. They are not able to serve their customers globally through ATMs.

This small size also limits their ability to adopt technology, widening their services and easiness of accessibility. Though these entities, from mid to large sizes, offer advanced technologies to their members.

They maintain traditional operating working days and hours while banks are more flexible in their times.

Although they offer similar products to what banks do, CUs provide fewer choices and alternatives that meet the demands of their members.

Researched and authored by Noor H | LinkedIn

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