Credit Unions Buying Banks to Get Added Scrutiny in FDIC Reviews

A key US financial regulator is planning to take a closer look at credit unions snatching up community banks as those M&A deals reach a record high in 2024.

The Federal Deposit Insurance Corp., in bank merger guidelines issued Sept. 17, said it may for the first time require credit unions to provide more information on proposed bank deals so the agency can assess whether they serve community needs.

Credit unions aren’t subject to the Community Reinvestment Act, a 1977 anti-redlining law that measures banks’ lending and investments in low- to moderate-income communities.

The result is likely to be a “longer regulatory approval process for some of these deals that they’re going to take a little bit harder look at,” said Cole Schulte, a director at Wilary Winn, a Minnesota advisory firm that provides M&A services to banks and credit unions.

The FDIC said it’s also going to include credit unions and other nonbank competitors when considering competition factors in bank deals, particularly in rural areas.

The tougher look at credit union-bank deals sets up potential splits between banking regulators and the National Credit Union Administration, which oversees federal credit unions, as the Biden-Harris administration ratchets up its scrutiny of bank tie-ups across the board.

“There could be disagreement there,” said Mickey Marshall, assistant vice president and regulatory counsel at the Independent Community Bankers of America.

An NCUA representative declined to comment for this story.

Booming Business

Credit unions began buying banks around 14 years ago, said Michael Bell, the leader of Honigman LLP’s financial institutions practice, who worked on that first deal.

Since then, Bell says he’s represented credit unions in 70 mergers with banks.

“The pace is outrageous,” Bell said.

There were 14 credit union-bank deals worth around $8.24 billion in total target assets from Jan. 1 through Aug. 19, according to S&P Global. That compares with 11 transactions totaling $1.88 billion in assets last year and 14 deals in 2022 worth $5.15 billion in assets, S&P Global said.

The latest deal came on Sept. 24, when Rochester, N.Y.-based ESL Federal Credit Union announced a $26.2 million purchase of Seneca Falls, N.Y.-based Generations Bancorp. Bell represented ESL in the transaction.

The additional FDIC scrutiny of credit unions’ bank acquisitions is appropriate, Schulte said, noting that such transactions make up a sizable portion of overall banking M&A deal-making.

Credit unions were buyers in more than one-quarter of deals involving banks announced earlier this year, according to a separate S&P Global report.

“If it’s making up 25% to 30% of deals, you need to understand how those deals are different” from traditional bank-to-bank mergers, Schulte said.

Bigger Price

A credit union-bank tie-up is typically structured as a “purchase and assumption” transaction, where the credit union will purchase the assets, such as loans and branches, of a bank. Bank-to-bank deals largely involve the purchasing bank buying up the equity of the target.

Purchase and assumption deals can be subject to double taxation—both at the shareholder level and on the asset sales.

But the attraction for bank boards is that, due to restrictions on credit union funding, the offers from banks’ nonprofit competitors typically come in higher than a rival bank’s would and are all-cash, Schulte said.

“We really saw credit unions almost fill the void in terms of the bank-to-bank deal frequency decreasing over the last couple years,” he said.

Even as bank-to-bank mergers are likely to increase in the coming years amid increasing funding and regulatory costs, Schulte thinks more credit unions are going to explore getting in on the action.

That has the banking industry worried.

Bank Complaints

The ICBA and other banking trade groups have pushed for state restrictions on credit union takeovers.

Mississippi passed a first-of-its-kind law in 2022 blocking financial institutions, such as credit unions that aren’t FDIC-insured, from purchasing state-chartered banks. Nebraska, Colorado, Tennessee, and Iowa have also blocked individual credit unions’ attempts to buy banks and indicated their skepticism of future deals.

Critics of credit union-bank deals cite the Community Reinvestment Act exemption among their concerns.

There are also restrictions on credit union lending to small businesses that critics say can pose problems for communities, particularly rural areas.

Credit unions are supposed to serve a clearly defined field of membership. Buying banks in other areas—as illustrated by Michigan credit unions purchasing Florida banks in recent years—has the potential to dilute credit union membership, said Aaron Klein, a senior fellow at the Brookings Institution focused on financial regulation.

“Credit unions are buying banks that seemingly have no relationship to their field of membership, and many credit unions have turned their field of membership that anyone can join,” he said.

Tax Accounting

Then there’s the tax issue.

Credit unions aren’t subject to federal income taxes because of their nonprofit status, which banks say gives credit unions an unfair advantage and can harm communities.

“Once you buy that asset, its earnings become tax-exempt like yours,” Marshall said, referring to a target bank’s assets.

But those tax concerns can also be a “red herring” used to block deals, said Carrie Hunt, the chief advocacy offer at America’s Credit Unions, a trade group for the credit union industry.

“Credit unions do pay all the property, payroll taxes, all of those things that are connected to keeping branches open,” she said.

Continued Interest

The FDIC’s proposal to take a close look at community benefits in credit union-bank deals isn’t all that new, Hunt said.

Rather, the FDIC is formalizing something that it’s already been doing as part of a broader rewrite of its bank merger policy, she said.

If the FDIC sees that a credit union-bank tie-up would slash small business or commercial real estate lending, it can either put conditions on the deal or block it altogether, Bell said.

“For years now, we have been answering that question. We have been providing product mapping to show that no product will be discontinued,” he said.

Still, banking trade groups want the FDIC and other regulators to get tougher on the transactions. Among the steps the agency should consider are requiring written commitments on how a proposed deal would benefit the relevant community, Marshall said.

The ICBA is also pushing Congress to put in place an “exit fee” that would allow the federal government to recoup lost tax revenue when a bank is absorbed into a credit union.

Even with the pushback from banking industry groups, Bell said he thinks credit unions and banks alike will continue to have an appetite for deals.

“They’re both community-based financial institutions,” he said. “They both serve Main Street. And I don’t see a problem with that.”