Can raising taxes on a family or business be considered a "spending cut?"

The Center for American Progress seems to think so.

In their unbalanced-budget plan ("The First Step: A Progressive Plan for Meaningful Deficit Reduction by 2015"), they call for a staggering amount of tax hikes on the economy (as much as $255 billion annually, or several trillion dollars over a decade).  Even worse, some of their "spending cuts" are in fact other tax increases ($18.5 billion per year, or about $200 billion over a decade).  These massive tax hikes don't even balance the budget, even if you foolishly-assume that Washington won't simply spend all this new tax money.

Let's focus on one tax hike in particular from this plan: taxing credit unions like banks.

According to the report, this tax hike would be a paltry $1 billion annually--hardly worth singling out given the other tax hike targets, frankly.  But this is a perennial favorite of tax hikers, so it's worth exploring why this policy won't actually raise much if any new tax revenue.

Credit unions are a form of not-for-profit which engages in lending and deposits.  Legally, they are limited to certain membership groups (large companies, geographical areas, etc.).  Largely because they don't pay income taxes, they are able to pass along this savings to their members in the form of lower loan interest rates and higher rates of deposit interest.  The federal government says that this foregone revenue amounts to $1 billion.

That ignores the larger picture.  Right now, credit union members pay higher taxes than their banking neighbors.  Why?  Well, they get higher interest on their savings, which they have to pay taxes on.  They get lower rates on mortgages, which lessens their itemized deductions.

In other words, the only substantive difference between the tax treatment of banks and credit unions is the incidence of taxation, not the fact of taxation.  Banks pay tax at the entity level, relieving higher taxes from their customers.  Credit unions don't pay income tax at the entity level, which tends to increase tax payments by the members who get better interest rate terms.

Is this a dollar-for-dollar recoupment of federal revenues?  Almost certainly not.  But it puts a big hole in the supposed "tax break" for credit unions and makes taxing them a rounding error more than a revenue-raiser.

Think of credit unions like pass-through entities like partnerships and S-corporations (where the owners pay the tax), and banks like corporations (where the entity itself pays the tax).  It's not less so much as just different.  Taxes get paid by credit unions and their members.

Posted by Ryan Ellis on Thursday, December 16, 2010 12:50 PM EST

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