Yes, credit unions are tax exempt from federal income tax, but the exemption is narrower than the label suggests. Federal credit unions qualify under 26 U.S.C. § 501(c)(1) as instrumentalities of the United States, and state-chartered credit unions qualify under 26 U.S.C. § 501(c)(14)(A) as nonprofit cooperatives without capital stock. That covers the institution’s income. It does not cover payroll taxes, property taxes on buildings and equipment, or tax on revenue from activities outside the credit union’s core mission, and it does not shield members from paying income tax on the dividends they earn in their accounts.
Two Different Legal Routes to the Same Result
Whether a credit union is federally chartered or state-chartered decides which part of the tax code exempts it, and that distinction has real consequences later on.
Federal credit unions are chartered and supervised by the National Credit Union Administration. Because they are organized under an Act of Congress, the IRS treats them as instrumentalities of the United States under 26 U.S.C. § 501(c)(1), which automatically exempts them from federal income tax.1Office of the Law Revision Counsel. 26 USC 501 – Exemption From Tax on Corporations, Certain Trusts, Etc. The NCUA has confirmed federal credit unions are “exempt from both federal and state income taxes” under the Internal Revenue Code and the Federal Credit Union Act.2National Credit Union Administration. Not-for-Profit and Tax-Exempt Status of Federal Credit Unions
State-chartered credit unions take a different route. They qualify under 26 U.S.C. § 501(c)(14)(A), which covers credit unions “without capital stock organized and operated for mutual purposes and without profit.”1Office of the Law Revision Counsel. 26 USC 501 – Exemption From Tax on Corporations, Certain Trusts, Etc. The implementing regulation explicitly notes that this section applies to credit unions “other than Federal credit unions described in section 501(c)(1).”3eCFR. 26 CFR 1.501(c)(14)-1 — Credit Unions and Mutual Insurance Funds
What the Exemption Actually Covers
For federal credit unions, the scope is unusually broad. Section 122 of the Federal Credit Union Act, codified at 12 U.S.C. § 1768, exempts a federal credit union’s “property, franchises, capital, reserves, surpluses, and other funds, and income” from “all taxation now or hereafter imposed by the United States or by any State, Territorial, or local taxing authority.”4Office of the Law Revision Counsel. 12 USC 1768 – Taxation One sentence eliminates federal income tax, state income tax, franchise taxes, and excise taxes.
The financial gap this creates is substantial. A bank pays a 21% federal corporate income tax on its profits.5Internal Revenue Service. Publication 542, Corporations A credit union earning the same revenue keeps that money and can return it to members through better loan rates, higher savings yields, or lower fees.
Taxes Credit Unions Still Pay
The exemption has clear boundaries, and this is where the “tax exempt” label misleads people. Credit unions still owe:
- Real property and tangible personal property taxes. The same statute that grants the exemption carves out “any real property and any tangible personal property,” which remains subject to federal, state, and local taxation “to the same extent as other similar property is taxed.” Branch buildings, land, furniture, computers, and ATM machines are all taxable.4Office of the Law Revision Counsel. 12 USC 1768 – Taxation
- Social Security and Medicare taxes. Credit unions are employers, and no tax exemption changes that. They owe the employer share of FICA: 6.2% for Social Security and 1.45% for Medicare on each employee’s wages.6Internal Revenue Service. Topic No. 751, Social Security and Medicare Withholding Rates
- Federal unemployment tax. Credit unions pay FUTA at 6.0% on the first $7,000 of wages paid to each employee. Most employers receive a 5.4% credit for timely state unemployment tax payments, dropping the effective FUTA rate to 0.6%.7Internal Revenue Service. FUTA Credit Reduction
- Unrelated business income tax on revenue from activities that aren’t substantially related to the credit union’s tax-exempt purpose.
When Unrelated Business Income Tax Applies
The income tax exemption only covers activities connected to providing financial services to members. Anything outside that mission is treated as unrelated business income and taxed at regular corporate rates. Any exempt organization with $1,000 or more in gross unrelated business income must file Form 990-T.8Internal Revenue Service. Unrelated Business Income Tax
The IRS audit guide for credit unions identifies specific triggers: income from marketing insurance products like auto warranties, dental insurance, health insurance, life insurance, and accidental death and dismemberment insurance is generally treated as unrelated business income. ATM transaction fees charged to nonmembers fall into the same category.9Internal Revenue Service. Audit Technique Guide – Credit Unions – IRC Section 501(c)(14)
Credit life insurance, credit disability insurance, and GAP auto insurance sold to members are treated as related to the lending function and stay exempt. Sell those same products to nonmembers and the income becomes taxable.
State Tax Treatment Depends on Charter Type
The federal-versus-state charter distinction matters most at the state and local level. Federal credit unions get their state tax protection directly from 12 U.S.C. § 1768, a federal statute that preempts state tax law.4Office of the Law Revision Counsel. 12 USC 1768 – Taxation A state legislature cannot override it, so a federal credit union’s income, franchises, reserves, and surplus are off limits to state and local taxing authorities.
State-chartered credit unions do not have that federal shield. Their federal income tax exemption comes from 26 U.S.C. § 501(c)(14)(A), but their state tax treatment depends entirely on the laws of the state that chartered them. Most states mirror the federal exemption to keep the playing field level. Some impose franchise taxes or other assessments on state-chartered financial institutions that a federal credit union would never face, and that gap sometimes drives the choice between charter types.
Members Still Pay Tax on Credit Union Earnings
The credit union itself does not pay income tax on its earnings, but the money flowing to members is not tax-free. Credit unions call account earnings “dividends,” which can be misleading. The IRS treats those payments as taxable interest, not as qualified dividends eligible for lower tax rates.10Internal Revenue Service. Topic No. 403, Interest Received You report them as interest income on your federal return and owe tax at your ordinary income rate.
If your credit union pays you $10 or more in dividends during the year, you will receive a Form 1099-INT reporting the amount.10Internal Revenue Service. Topic No. 403, Interest Received Even below that threshold, you are still required to report the income. If you have not provided a correct taxpayer identification number, or if the IRS has flagged you for underreporting interest, the credit union must withhold 24% of your payments as backup withholding.11Internal Revenue Service. Topic No. 307, Backup Withholding
How the Exemption Can Be Lost
Tax-exempt status is not guaranteed forever. The credit union must continue operating as a nonprofit cooperative with no capital stock, existing for the mutual benefit of its members. Members must hold equal ownership stakes and have a democratic voice in governance, typically through electing a volunteer board.
Filing rules differ by charter. Federal credit unions, as 501(c)(1) organizations, are not required to file Form 990 or any other annual information return with the IRS; they report to the NCUA instead.12Internal Revenue Service. Exempt Organizations Annual Reporting Requirements: Action Required by Federal Credit Union Not Required to File State-chartered credit unions are required to file annual information returns, though a state supervisory agency can file a single group Form 990 covering all the state-chartered credit unions under its oversight.
Under 26 U.S.C. § 6033(j), any tax-exempt organization that fails to file its required annual return for three consecutive years automatically loses its tax-exempt status.13Office of the Law Revision Counsel. 26 USC 6033 – Returns by Exempt Organizations State-chartered credit unions have appeared on the IRS’s list of revoked organizations. Once revocation happens, the credit union must apply for reinstatement, and its income during the gap period is fully taxable.14Internal Revenue Service. Information for Federal and State Credit Unions Regarding Automatic Revocation of Exemption
Conversion changes everything. If a credit union converts to a mutual savings bank or a stock-chartered bank, it no longer meets the structural requirements of either 501(c)(1) or 501(c)(14)(A), and the exemption ends. The former credit union then owes the standard 21% federal corporate income tax like any other bank.