Multiple-group memberships

Smokestack industries-and their CUs-failed in record numbers in 1981

As with many significant changes, multiple-group memberships was a policy born out of adversity. In the early 1980s, America was in one of the worst recessions the country witnessed since the Great Depression.

The word "stagflation" was coined to describe the combination of superinflation and recession. Unemployment surpassed 10% in 1982 as the nation began pulling out of recession. The bank prime rate hit 20.5% in 1981 (Figure I), the consumer price index increased 12.4% in 1980, and short-term Treasurybill auctions produced rates of 15% to 16%.

Business failures soared during this period (Table I). It began a shift in the American economy from "smokestack" industries to "service" industries. The future of many occupational-based credit unions tied to smokestack industries was in jeopardy. In 1981, 222 federal credit unions failed and 251 liquidated.

In April 1982, the National Credit Union Administration (NCUA) stepped in and tried to stem those failures. That's when the agency allowed federal credit unions to add multiple membership groups, or select employee groups (SEGs). The administrative rule permitted federal credit unions that purchased loans from liquidating credit unions to offer membership to those borrowers. It also permitted federal credit unions to expand existing charters to include different membership groups, so long as each group had its own common bond.

Today, that NCUA administrative ruling is the subject of a case pending before the U.S. Supreme Court pitting bankers against credit unions.

NCUA's new policy did stem failures. Only 112 credit unions failed in 1982 and just 40 in 1983. Liquidations fell to 160 in 1982 and to only 50 in 1983. The change allowed credit unions to diversify their memberships so they were no longer dependent on a single employer. It also brought credit union membership opportunities to employees of companies too small to start their own credit unions, which is where the growth in jobs was coming from.

"Each week, more than 10,000 new companies are formed in the United States, and new firms account for more than half of all new jobs, according to Dun's Business Month. Most of these new companies are small-one-, two-, or threeperson ventures, not big enough to support their own credit union," according to NCUA's 1983 annual report to the president and Congress.

Not only had credit union failures subsided in 1983, but credit unions were actually thriving in the era of deregulation. The credit union growth rate was nearly 21% in 1983; federal credit unions added 7,000 membership groups representing 2.6 million people.

Since 1982, about 3,600 federal credit unions have expanded their charters to take in at least one SEG. Each credit union now has an average 40 SEGs with 72 members per SEG, according to a 1997 report by the Filene Research Institute. In other words, 10.5 million of the 44.2 million federal credit union members belong through SEGs, or about one of every four members.

CUs were underwater

The first concern of a newly installed NCUA chairman in 1981 was to protect the National Credit Union Share Insurance Fund (NCUSIF) and then individual credit unions, according to then-NCUA Chairman Edgar Callahan. President Ronald Reagan appointed Callahan chairman in October 1981 ("Callahan recalls 1982 FOM decision," p. 56).

"Credit unions back then were holding Ginnie Maes yielding 8%, while interest rates were 20%," says Callahan. "Credit unions were underwater. We had three military credit unions that were underwater by an amount equal to the entire fledgling insurance fund." (That was prior to the 1% deposit credit unions made to recapitalize the fund in 1985.)

The NCUA Board looked to the Federal Credit Union Act, and Callahan seized on the word "groups" in the sentence, "Federal credit union membership shall be limited to groups having a common bond of occupation or association, or to groups within a well-defined neighborhood, community, or rural district."

Where others had viewed the term to mean a single group, Callahan interpreted it to mean multiple groups within a single credit union. He believes this interpretation saved the share insurance fund and set a course for the future of the credit union movement.

Before the change, the only option for a federal credit union whose single sponsor was going out of business was to convert to a community charter or to a broader state charter. After the change, federal credit unions could merge or amend their charters and take in additional groups.

"I read the act and it says `groups,' and I clearly had the authority to interpret the act," says Callahan. "The Supreme Court decisions in Chevron I and Chevron II [Chevron v. Natural Resources Defense Council, Inc., 467 U.S. 837 (1984)] said if it's ambiguous at all, the interpretation must be deferred to the agency."

Callahan admits the wording is ambiguous. "Bankers can dispute it if they want to, but it's clearly the purview of the agency to determine it," says Callahan. "Therefore, I say the bankers have no standing."

NCUA continues to believe that the multiple-group field-of-membership (FOM) interpretation is as valid today as it was in 1982, according to current NCUA Chairman Norman E. D'Amours. "We believe this interpretation is consistent with the wording of the [1934] statute and the history of credit unions," D'Amours told the House Banking Subcommittee on Financial Institutions earlier this year.

The policy has helped minimize credit union failures and payouts from the taxpayer-backed NCUSIF, D'Amours explained. If the appeals court ruling is left standing, however, credit unions would be placed at unnecessary risk because a downturn in a single industry or economic sector could affect the viability of credit unions limited to a single membership group. "The NCUA Board believes Congress should act now to clarify the Federal Credit Union Act on the question of common bond and to obviate the negative safety and soundness implications of court actions crippling the ability of credit unions to serve different groups that each have a common bond," D'Amours told the congressional subcommittee.

Large credit unions, which are often the target of banker attacks, are part of the same cooperative credit union system as are small credit unions, D'Amours explained. Large credit unions serve people of all income ranges, and they donate office furniture, equipment, technical training, and mentoring to smaller credit unions.

In 1994, NCUA gave all federal credit unions an opportunity to expand their charters and serve lowincome, inner-city, and rural communities. The aim was to offer low-income residents an alternative to loan sharks, pawnbrokers, check-cashing outlets, and rent-toown operations. The October 1996 U.S. District Court injunction, however, negated this policy. NCUA had granted 76 federal credit unions authority to open branches in distressed neighborhoods before the court injunction, and 14 applications were pending when the court halted the practice.

D'Amours put the origin of the common bond into perspective for the House Banking subcommittee. In 1934, the common bond was a tool for organizing credit unions around occupational, associational, or community groups. Knowing the reputation and character of members was an important standard for safety and soundness at that time. Personal knowledge of each member has become less important with the advent of share insurance and on-demand credit bureau reports.

CUs' defining characteristics

"The [common bond] was never a credit union's defining characteristic. These characteristics are cooperative structure within credit unions and cooperative operations among credit unions; one member, one vote, democratic control by all members; nonprofit status; and a volunteer board of directors," said D'Amours.

D'Amours noted that the late U.S. District Court Judge John H. Pratt agreed. "The salient feature of credit unions is their democratic control and management," said Pratt in a 1994 ruling against the bankers' lawsuit.

Retired Missouri Credit Union League President Bob Hood agrees that democratic control and volunteer service make the difference. Hood now serves on the board for the National Association for Retired Credit Union People. He recently shared the following story.

"Before I retired seven years ago, a respected national politician spoke at our league's annual meeting," said Hood. "Following his talk, I asked him if he supported credit unions' tax exemption. His answer sort of skirted the question, so I asked the volunteers from Anheuser-Busch Employees' Credit Union in St. Louis to stand up. I knew there were 18 of them, and they averaged about 15 years of service. `Right there we have 270 years of volunteer service in one credit union,' I said. `What government program provides as much volunteer effort? And this program costs the government nothing. Credit unions should be encouraged, not discouraged,' at which point the lawmaker threw up his hands and said, 'I support credit unions' tax exemption.'"

CUNA & Affiliates' estimates that 162,500 volunteers serve in credit unions today.

D'Amours believes the 1982 FOM ruling that allows federal credit unions to include SEGs is really an extension of common bond language in the 1934 act, because the 1982 ruling also was meant to promote safety and soundness. It's a practical solution to promote stability in an era when businesses continue to come and go, says D'Amours.

"In the highly mobile and technocratic society of our times, when businesses are constantly changing, downsizing, or moving, it would be fundamentally unsafe and unsound to limit credit unions to shrinking or static memberships," said D'Amours. "Given the diversification of other segments of the American financial industry, it would also be countercultural."

Also, credit unions can't add membership groups at random. NCUA's 46-page Chartering and Field of Membership Manual details how credit unions can add groups through charter amendments approved by the agency's regional directors or the NCUA Board. For example, a group to be added to a credit union's FOM must have its own common bond. Groups of people with occupational common bonds must be located within 25 miles of a credit union service facility. The group also has to request credit union service. NCUA considers the economic feasibility of adding a membership group, and it looks at potential overlap conflicts with other area credit unions.

Deregulation increases competition

Something else happened in the early 1980s to change the face of financial institutions and the financial services industry.

The Depository Institutions Deregulation and Monetary Control Act of 1980 phased out Regulation Q's rate limitations on deposits, pre-empted state usury limits on mortgage credit, and granted new powers to banks, thrifts, and credit unions. The new powers were designed to put financial institutions on more equal footing with one another and with the growing money market mutual funds that weren't fettered by rate controls.

Banks, savings and loan (S&L) associations, and mutual savings banks received authority to offer negotiable order of withdrawal (NOW) accounts-interest-bearing, demand-deposit accounts. Previously, only banks could offer demanddeposit accounts, but they couldn't pay interest on them. Banks also received automatic transfer service authority, enabling them to automatically transfer funds from savings to checking accounts.

Thrifts received remote service unit (automated teller machine) withdrawal authority and authorization to invest up to 20% of assets in consumer loans, commercial paper, and corporate debt securities. They also received the same mortgage-lending powers as banks had: 90% loan-to-value loans (the S&L limit had been 80%). These new powers would enable thrifts to become "one-stop family financial centers."

Credit unions received authority to offer share drafts-the drawing account they sought during the 1970s-in order to compete in an emerging era of electronic funds transfer. Share drafts capped off a set of new service powers granted in 1977: 30-year residential mortgages, 12-year maturities on secured and unsecured loans, removal of the $2,500 maximum amount on unsecured loans, and authority to provide variable-rate share and share certificate accounts.

Armed with these new powers, the three financial institution sectors-banks, thrifts, and credit unions-were set to compete with one another, and Congress believed consumers would benefit from the competition.

But the U.S. Court of Appeals for the District of Columbia put a damper on credit unions' opportunity to compete when it ruled on July 30, 1996, that federal credit unions cannot serve more than one employee group. Congress wanted credit unions to compete, but the court decision, if left standing, would limit consumers' opportunities to join credit unions.

Court restricts competition

In other words, the appeals court ruling restricts competition by restricting membership opportunities. "As a result of the court's ruling ..., U.S. government policy substantially limits the ability of 62.8 million employees of small and midsized organizations in the private sector to gain access to the services of federal credit unions," says the Filene Research Institute report.

The reasoning is as follows: NCUA says it takes at least 500 employees to form a viable credit union, and 62% of the labor force, or 62 million employees, work for firms employing fewer than 500 workers. It takes 500 employees because about 40% of eligible members ultimately join a credit union. That means in a field of 500 potential members, only 200 will join, and that's considered the absolute minimum to start a credit union.

It's sadly ironic that employees of smaller firms need credit union services the most, and they're the ones denied credit union access by the court ruling. Employees of smaller companies typically earn less and receive fewer benefits than do employees of larger companies (Figures II and III). Employees at larger firms earn, on average, about $10,000 more annually than do employees in smaller firms. And employees at larger firms are nearly three times as likely to have employer-provided health insurance coverage than are workers at smaller firms.

"Therefore, the court's decision effectively reverses one of the purposes of the Federal Credit Union Act-to provide people of modest means access to a national system of credit cooperatives," the Filene report concludes.

In a speech to a CUNA-sponsored development educators training program last year, D'Amours lamented the fact that the court injunction halts credit union expansion into lower-income neighborhoods: "People in the inner city-the most underserved-don't know about checking accounts, systematic savings, and interest. They don't have the experience. They learn about these things through credit unions."

RESOURCES

* CUNA's home page on the Web: www.cuna.org.

* "People, Not Profit: The Story of the Credit Union Movement," second edition. This manual describes credit unions' unique role in the financial world and why they're currently under attack. To order, call (800) 356-8010, ext. 4157, or email csd@meteor.org; ask for Stock No. 20316. Cost is $16.50; quantity discounts are available.

-Eugene Johnson is editor of Credit Union Magazine's News Now, available on the Web at www.cuna.org.

Copyright Credit Union National Association, Inc. Nov 1997
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