Why Do Credit Unions Charge Lower Rates Than Commercial Banks?

If you're looking for an affordable loan, your two major options are credit unions and commercial banks. You'll probably find that your local credit union charges a lower interest rate on loans compared to commercial banks. As non-profit or cooperative organizations, credit unions choose to reinvest their profit back into their programs, often in the form of lower interest rates.

Credit unions are able to offer lower rates compared to traditional banks because of their business structure. Most banks are for-profit companies, meaning they reinvest their income to earn more profit or they pay it out to shareholders. Banks are also subject to federal and state income taxes. Interest income is a major revenue and profit generator for banks, so the higher the rate, the more they earn.

Unlike banks, credit unions are structured as member-owned cooperatives or non-profit corporations. This means they reinvest all of their funds back into their consumer programs and they're exempt from state and local taxes. When you consider that the federal tax rate for corporations is 21 percent, it's not hard to understand how credit unions can charge lower rates.

Credit unions offer lower rates to consumers for a variety of reasons. To maintain their tax-exempt status, credit unions are required by law to re-invest their profits back into their programs. That translates into lower interest rates for their members. Apart from that, the leadership of most credit unions feels an obligation to provide affordable financing to members, and members have a say in how the credit union is run. In addition, lower interest rates mean more business from members, which helps keep the business going.

To reap the financial benefits of a credit union, you must qualify for membership. Membership criteria vary for each credit union but are often based on where you work, where you live, or other membership affiliations you hold. Credit union members usually get the opportunity to play an active role in the credit union operations. Members can usually participate in planning meetings and vote to elect a Board of Directors.

Providing lower interest rates on loans is only one way credit unions reinvest their earnings. Service fees and minimum balances may be nonexistent at credit unions, or at least lower than their commercial bank counterparts. Your savings account may earn a higher-than-normal interest rate and you may also earn interest on checking accounts.