Credit Unions – no two are exactly the same.
People have asked me in the past, why are your rates lower than other institutions? Or conversely, why are your rates higher? This is an extremely valid question as no institutions, no matter how similar they look alike on the outside or by name or by what services they offer, have exactly the same business model.
What I mean by this is, each one is its own business, has its own business model and operates differently. Lets narrow this down and only look at credit unions. There are 34 credit unions in the Davidson county area. They range in size from over $415,000,000.00 to just $1,200,000.00. For the purposes of this discussion, we will only look at the credit unions over $50,000,000.00 as these credit unions offer similar products to all members.
Some of these credit unions are heavy on the deposit side. They offered and still may be offering higher than average deposit rates*. A major reason for this is member makeup/wants. The membership may require better deposit rates to stay with the credit union. In the past, the members may have taken advantage of long term deposits with higher rates, or the credit union does not offer a large amount of alternative deposit products for their membership to invest in and hence to keep deposit has higher than normal deposit rates. Whatever the reason may be, they are taking care of their members and offering products that the membership has historically requested. However, by doing so, they cannot afford to lower loan interest rates beyond a certain threshold. If they did, they would not be able to make enough interest income to cover the interest they are paying on deposits.
On the other hand, if a credit union’s members have historically deemed loans and loan rates to be more important than deposit rates, the credit union will generally have lower rates on loans, but in doing so, their deposit rates will also be lower as the credit union will not be earning as much interest income and therefore not in the position to pay out higher dividends.
The difference between deposit interest or dividends paid to members and loan interest income is called the interest rate spread. In most cases, for a credit union to operate efficiently they need to maintain an interest rate spread of approximately 3% or better depending on each credit union’s total operating expenses (interest rate spread = the average of all loan product interest rates – the average of all deposit product interest rates). At the bare minimum, the interest rate spread needs to be enough to cover the difference between operating expenses and non interest income. If non interest income and interest income do not equal or exceed operating expenses, the credit union will not be in business for very long.
This scenario is not easily changed as a financial institution cannot perform a wholesale change in rates, up or down, overnight. If an institution is making auto loans at low rates today, (the average auto loan used to stay on the books for about 24 to 27 months, but due to more recent economic factors people are holding on to their cars somewhere between 36 and 48 months on a national average) it cannot decide tomorrow to drastically raise deposit rates tomorrow. The institution’s cost of funds would increase and possibly even give them a negative interest rate spread. The longer it takes to pay off a lower rate auto loan, the longer it will take to raise rates and replace it with a higher paying auto loan.
Generally speaking, most credit unions are going to have better loan and deposit rates as the interest rate spread is usually lower than big banks and credit unions do not charge as many fees as big banks do. In another blog, I will go into interchange fees and how they are going to affect consumer fees, but that is another story.
I hope this gives you a little insight as to why you may see different rates at different financial institutions. As always, if you have any questions, please feel free to stop by or give me a call.
*The term “good rates” is a relative term and what the definition of a good rate is varies with the peaks and valleys of the economy.
