Academic journal article Journal of Managerial Issues

Performance Evaluation of Credit Unions: Reaping the Benefit of Tax Status

Academic journal article Journal of Managerial Issues

Performance Evaluation of Credit Unions: Reaping the Benefit of Tax Status

Article excerpt

This study examines agency costs in a particular type of not-for-profit institution, credit unions. Crittendon and Crittendon (2000) address the need for more strategic management studies in the not-for-profit (NFP) sector and emphasize the need to examine management practices. Stone and Crittendon (1994) noted five areas warranting increased attention in the NFP sector and performance is among the five.

The underlying goal of performance measurement is to ensure that the organization is achieving what it set out to accomplish. Therefore, performance measurement should focus on the objectives established in the long-term or strategic planning process of the organization. If this focus is adopted, performance measures should reflect the expectations stakeholders have for the organization.

Anthony states that management control is the "process by which managers assure that resources are obtained and used effectively and efficientiy in the accomplishment of the organization's objectives." (1965: 17). In a traditional for-profit setting, a typical measure of goal attainment would be the change in owner wealth, but public accountability and the social service aspect of NFP organizations can make comparisons to their for-profit counterparts difficult.

Who are the stakeholders of interest and what kind of wealth transfers can be examined? To answer these questions we look to the reasons credit unions exist as tax-exempt entities. In granting tax-exempt status to credit unions, the government intended that credit union members receive the benefit of this tax subsidy (Rose, 1994). Credit unions originally were granted tax- exempt status to offer lower loan rates and higher deposit rates to low-income individuals with a common bond. The basis for tax exemption is that, when dealing with its members, an organization cannot generate income because all profit belongs to the owner/members, also known as the principals. This condition would lead one to believe that credit union management should work toward minimizing their net interest margins. However, managers may be losing sight of their ultimate objective.

While managers may be chosen for their ability to make decisions that help an organization attain its goals, the individual manager's welfare function may not be aligned with these goals. In our setting, the potential goal incongruity could lead to credit union managers diverting all or some of the tax subsidy from members through increased perquisites or retained profits, such as high personnel and operating expenditures. This misallocated tax subsidy is an agency cost that both reduces the welfare of credit union members and frustrates the government's performance goal.

One of the underlying assumptions behind developing a performance measurement system is the desire to remain competitive in your line of business. Banks and savings and loans (S&Ls) view credit unions as direct competitors. Unlike banks and S&Ls, however, credit unions are not subject to federal taxation. Banks and S&Ls consider this tax-exempt status unfair because it gives credit unions a competitive advantage. Specifically, credit unions can attract customers by offering lower loan rates and higher deposit rates than do banks and S&Ls. (1) Thus, credit unions are achieving the government's objective if they have a lower spread between loan and deposit rates than do banks and S&Ls.

Therefore, the empirical question is: who receives the benefit of credit unions' tax-exemption? In other words, how is this tax subsidy allocated between credit union members and credit union management?

The answer to these questions has implications for credit union managers and their members. If the spread between loan and deposit rates is not lower for credit unions than for other financial institutions with similar product mixes, credit union owner/members are not receiving the tax subsidy. …

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