Policy
Response
Implementation of the Building Societies (Funding) and Mutual Societies (Transfers) Act 2007
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Contact: Jeremy Palmer Date: 28 Oct 2008 |
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A consultation by HM Treasury
Response by the Building Societies Association
Introduction
1. The Building Societies Association (BSA) represents all 59 building societies in the United Kingdom. Building societies have total assets of over £360 billion and, together with their subsidiaries, hold residential mortgages of £250 billion, more than 20% of the total outstanding in the UK. Societies hold about £235 billion of retail deposits, accounting for more than 20% of all such deposits in the UK. Building societies also account for about 37% of all cash ISA balances. Building societies employ over 51,500 full and part-time staff and operate through more than 2,000 branches.
2. This paper provides the BSA’s collective response on behalf of the sector to the consultation published by HM Treasury on 1 September concerning the implementation of The Building Societies ( Funding ) and Mutual Societies ( Transfers ) Act 2007, originally promoted as a Private Members’ Bill by Sir John Butterfill MP ( for brevity, “the Butterfill Act”). Paragraph references in this response are to the numbered paragraphs in the consultation document , and references to “society” or “societies” denote building society / ies except where the context requires otherwise.
3. The consultation document addressed three separate matters on which the Butterfill Act conferred enabling powers on the Treasury, proposing :
(i) to keep under review the issue of whether to raise the statutory deposit funding limit for building societies;
(ii) to equalise the ranking of members holding share accounts, and deposit and other creditors, in a building society insolvency; and
(iii) to facilitate the transfer of business from one UK mutual society to the subsidiary of another UK, or an EEA, mutual society.
4. The consultation document invited responses on 15 specific questions concerning the three matters above. The document was introduced by a foreword by the then Economic Secretary to the Treasury, Kitty Ussher MP, in which she said :
“The Government wants the mutuals sector to be able to expand, unconstrained by the limitations of an out-of-date legal framework. It believes that mutuality should offer an alternative model to other legal forms such as proprietary companies, enhancing competition in the modern global economy.”
Summary of BSA Response
5. The Association :
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welcomes the Government’s support for the mutual sector expressed in the then EST’s remarks;
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is content with the future flexibility on the funding limit now available, but strongly recommends against any increase in the short term;
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still supports, on balance, the equalisation of the insolvency ranking of members and creditors, but notes that the changing context of depositor protection – given recent events – has already reduced the detriment to members it was intended to remedy. The Association therefore urges caution on the timing and handling of this measure, as well as fuller transitional protection for existing creditors;
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urges full transparency on transfers between different types of mutual, and emphasises the need to avoid “back door demutualisation”;
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suggests that the individual implementation measures comprised within this consultation should be decoupled so that those for which there may be more urgent need can proceed quickly, without dictating the handling and timing of other more sensitive measures.
The Funding Limit
6. The Association is content with the flexibility that the Butterfill Act has already introduced, in that an increase in the funding limit may now be effected by statutory instrument, broadly at any time if circumstances so require, and is no longer dependent on the availability of primary legislation. We see no necessity for an increase at the present time, indeed in the short to medium term – given recent exceptional events - such a move would be highly counterproductive and destabilising. But we welcome the Treasury’s readiness in principle to use the enabling power at some future date, and to consult with the building society sector before doing so.
7. The key safeguard, in our opinion ( and for the reasons given at paragraph 2.6 ), is provided by new section 7 (6B) of the Building Societies Act , inserted by the Butterfill Act, which ensures that any increase in the funding limit cannot have effect unless there is already in force an order equalising the ranking of building society members with deposit creditors on insolvency.
8. Paragraph 2.7 refers to the possibility of stricter liquidity requirements for building societies (only) that want to take advantage of the higher funding limit. We note that the Financial Services Authority is already in the process of consulting on the future liquidity requirements to be applied to both banks and building societies, so we suggest that any stricter requirements correlated to the higher use of wholesale deposit funding should not be applied in a discriminatory way only to building societies – especially in the light of recent events.
9. Paragraph 2.7 also refers to the possibility of stricter disclosure requirements. Building societies are already required to disclose their level of deposit funding, as a percentage, and compared with the statutory limit, in the Annual Business Statement required under section 74 of the Building Societies Act : this information then forms part of the summary financial statement sent to all members entitled to vote. We do not think further, or more frequent, disclosure than is already required - particularly of deposit funding percentages in isolation and therefore out of context, would add any value to building society members but it is more likely to provoke unhelpful speculation.
10. Paragraph 2.8 raises the issue of member approval, at each society, of any increased funding limit. Under normal circumstances, the Association would support members having the opportunity to vote on such a significant change to the business profile, and focus, of their society. This would normally be done at an Annual General Meeting. However, we can see other circumstances in which the Treasury, and societies, might want to effect the change quickly – in which case we suggest the Treasury retains the flexibility to make any increased limit directly effective for all societies without needing member endorsement.
Question 1 : Are there safeguards in addition to those identified above, which should be in place before Section 1 is implemented ? The Association considers that, subject to the comments above, no other safeguards are needed.
Rights of building society members on insolvency
11. The Association is content, in principle, that in due course the Government should use the Treasury’s power under section 2 of the Butterfill Act, and broadly agrees with the analysis set out in Chapter 3. However, some societies disagree, and one society has drawn to our attention the important point that the balance of risks and benefits from this measure has changed radically since the Butterfill Act was passed. At that time, members’ savings were only protected by the FSCS up to £ 35,000, and even then with an element of co-insurance. So the risk to members especially where they held savings above this limit was significant. Now, by contrast, members are protected for at least £50,000 ( with no co-insurance ), and in recent UK bank collapses the Government has stepped in to ensure retail depositors are protected in full. At the same time the risks to building societies’ wholesale funding are greater.
12. We are, therefore, very concerned , that ( unless postponed, and then carefully timed and handled ) this measure too could prove , in the present highly unusual circumstances, counterproductive and destabilising. We strongly urge the Treasury to take the advice of the Financial Services Authority and to consult further with the Association with a view to a more prudent timetable for this measure. We doubt any useful purpose would be served by attempting to implement section 2 any earlier than for coming into force in Q2 2009, but equally there is no need for this to delay work on implementing later sections of the Butterfill Act. We also have two specific comments on the detail of implementing section 2 going beyond the matters canvassed in the chapter.
13. First, it is essential that nothing in the implementing order affects the current position of deferred shares in a building society, which must remain the last claim to be paid out. This is a basic term of deferred shares and is provided for in the The Building Societies ( Deferred Shares ) Order 1991 ( SI 1991 / 701 ) made under section 119 of the Act. So – in equalising the ranking of “ordinary” ( i.e. non deferred ) share accounts with deposit and other creditors –deferred shares have to be left well alone.
14. Second, the implementation of section 2 should take effect for all societies at the same time, so that there is no confusion with members having one ranking at one society but a different ranking at another. We agree that the distribution of the true ultimate surplus ( after the repayment of the par value of all shares in accordance with their terms ) remains societies’ prerogative under their individual Rules. But we think that an amendment to Schedule 2 is needed, and – moreover – if there were to be any temporary conflict between the statute ( after the implementing Order ) and the Rules on this point , the statute must override to produce the desired effect of simultaneous implementation for all societies. Provided that is the case, changing the Rules has less urgency, and can be accommodated in societies’ normal annual general meeting cycle.
Q2 Is a transitional period needed to allow building societies to change their rules in respect of distribution of surplus ? If so how long should it be ? The Association considers that, subject to the comments above , a transitional period of at least eighteen months, preferably two full years, from the coming into force date of the order is needed.
Q3 Do you agree that the “dissolution by consent” process gives sufficient protection to members, and that the Treasury should not use the power granted by section 2 in relation to dissolutions by consent ? The Association agrees that the existing process gives sufficient protection to members, given also that it is in any case highly unlikely to occur for purely practical reasons.
Transitional provisions
Q4 Do you agree that all wholesale loans and other time limited instruments entered into before the commencement of the Order should continue to have priority over all shares for the duration of the contract ? Should any instruments be excluded ? Are there other instruments for which the lender should be put in the same position ?
15. The Association agrees that existing wholesale creditors deserve, and are entitled to, some transitional protection , and supports the Treasury’s proposal that such protection should apply in full to loans or other “time-limited” ( i.e. we assume , fixed-term ) instruments entered into before the implementation measures come into force. We do not entirely agree with the Treasury’s statement of general principle that creditors are only deserving of transitional protection if the current position is likely to have been a material factor in the decision to lend, or to have affected the price of the product – and in any case such subjective matters are essentially unknowable. Moreover, in the current climate, the Government should avoid any action that precipitates hurried decisions by societies’ creditors. We suggest a better principle is that all creditors in respect of fixed term deposits / loans / instruments are entitled to transitional protection for the duration of their term, and that creditors in respect of deposits or loans with an indeterminate duration ( e.g. notice accounts ) are entitled to transitional protection for a reasonable period within which they can decide whether or not to continue under the revised ranking, and if not , to re-invest elsewhere without undue haste. We suggest a reasonable period might be twelve months from the coming into force date. No instruments should be excluded from this principle. The Government should also consider the position of contingent creditors – e.g. in respect of interest rate swaps and other derivatives, for whom similar transitional protection may be needed.
Transfers of business among mutuals
16. There remains significant, though not universal, support among societies for implementing these sections of the Butterfill Act. The BSA Secretariat provided informal comments to Treasury officials on this subject at the end of July, on a very short timescale, and in advance of the consultation document. We now comment further below, having had the benefit of the fuller and more definitive exposition of the Treasury’s proposals given in that document. We deal first with some general issues before providing responses to the specific questions in the consultation document. Our response focuses on transfers where either the transferring mutual or the holding mutual is a building society.
General principles
17. An over-riding concern of societies is that nothing done by way of implementing the Butterfill Act should allow or facilitate anything that might be regarded as “back-door demutualisation” of a building society, however this might be disguised under the appearance of a transfer to the subsidiary of another mutual. This would be completely contrary to the intention behind this Act. ( As an example of how hasty legislation can lead to unintended consequences, we would mention the history of the “two year rule” in section 100 of the Building Societies Act relating to conversions.) At the same time bona fide transfers to other mutual societies in good standing should not be frustrated. We suggest the Treasury consider appropriate anti-avoidance provisions to secure this objective.
18. Second, where there is a possibility that members of the transferring mutual may acquire some form of membership rights in the holding mutual, it is important that these members are bound by any charitable assignment scheme that may already be in place for the holding mutual’s existing members. The proposed legislation should facilitate equitable treatment of both sets of members.
19. Third, the Association considers that building society members’ rights are highly developed and valued, and widely exercised. Therefore in any transfer from a building society that might result in those members acquiring similar but lesser rights in a new holding mutual there should be complete transparency as to the differences between the rights acquired and the rights being surrendered, and the between the natures and constitutions of the transferring and holding mutuals.
20. As to voting thresholds, there is a diversity of opinion among societies. One argument is that the greater these differences in members’ rights , the less justification there is for a substantial relaxation of those thresholds from what applies in the case of a transfer to a plc. (Alternatively, it has also been suggested that the rights available to the former members of the transferring building society ( whether exercised under options 1 or 2 ) should be maintained at the same level as before the transfer.) There is also some opposition among some societies to any relaxation in voting thresholds. However, there is also a strong view in favour of relaxation of the thresholds to the same level as currently apply to same-type mergers, on the basis that this is an essential element of the intention of the Butterfill Act.
21. Finally, a comment on the practicalities. Our previous comments drew attention to the extreme complexity of the transfer provisions that will be needed to implement this part of the Act. Different provision may well be needed for each, or several, of the possible permutations of transferring and holding mutuals. Some permutations may be better served by Option 1, others by Option 2 : the Association does not consider that only one Option must be used for all cases. And any draft provisions will need careful scrutiny to ensure the policy intention is effected and inadvertent consequences avoided. We would prefer the Treasury to take time to get the details right, even if this means phasing implementation and not attempting to deal with all permutations at once.
Specific questions
Q5 : Are there reasons for implementing the Act in relation to transfers from friendly societies ?
22. This is not of direct concern to the Association but in light of the arguments in paragraph 4.7-4.8 , we suggest it is not a priority.
Q6 : Should the Act be implemented in relation to transfers where the transferring mutual and the holding mutual are of the same type ?
23. Originally, we would have seen no need for implementation here, since the existing legislation provides satisfactory, well-understood and well-trodden routes for transfers of engagements between the same type of mutual, and extra provision could add complexity and confusion. However, as a result of recent events, one society has drawn to our attention a specific reason why implementation for same-type transfers might bring benefits. In a conventional building society merger, under the present arrangements for the Financial Services Compensation Scheme ( FSCS ), an investor with savings in both the transferring and accepting societies loses an element of protection as the savings all end up with the accepting society and are together protected only up to £ 50,000. Were it possible for the transferring society's business to be vested in a subsidiary of the accepting society ( which would then become the holding mutual ) , these investors should retain the full amount of their previous FSCS protection ( under present FSCS arrangements, the savings at each entity are protected up to £ 50,000 ) . So there could be merit - subject to any further changes to FSCS arrangements - in catering at this stage for same-type transfers. For building societies, this might redress the disadvantage that whereas one bank can take over another and keep it separate as a subsidiary, one building society cannot take over another and keep it separate as a subsidiary building society but can only fully merge with it. But another society has pointed out that the risk of confusion remains, and doubts that provision for same-type transfers would bring any consumer benefit.
Q7 -10 : Relative merits of Options 1 and 2. ( We address these questions from the perspective of building societies only. )
24. Where a building society is the holding mutual, Option 1 presents the same problem that is identified at paragraphs 4.13-4.14 : building society membership is, under the Building Societies Act, restricted to shareholding and borrowing members. We would oppose the complexity arising from introducing a potential third category of member as a result of an Option 1 transfer. Option 2 would provide a better solution here.
25. Where a building society is the transferring mutual, we can see that Option 1 might work where the holding mutual is an industrial and provident society (which permits non-customer membership), but – for the reasons in paragraphs 4.13-14 - Option 2 may be necessary where the holding mutual is a friendly society.
26. We agree that a company limited by guarantee is the better vehicle for the transferee subsidiary in Option 2, though we note that this corporate form is less conducive to raising Tier 1 capital . In both Options we consider that new customers of the subsidiary should be entitled to membership, but in Option 1 – as mentioned above- subject to any constraints – such as charitable assignment schemes – applicable to original members of the holding mutual.
Q11 Further transfers ?
27. We agree that further transfers of the subsidiary should not be permitted for 5 years, subject to similar exceptions as are presently found in section 101 (4) of the Building Societies Act : this will also help to prevent abuse of the Act for covert demutualisation, but we think more specific anti-avoidance provision is also required. For example, Treasury should perhaps consider whether there should be specific restrictions on any demutualisation of the holding mutual for at least five years after the transfer.
Q 12-14 : Transfer process.
28. We certainly see the case for some relaxation of voting thresholds etc compared with transfer to plcs. Given the possible differences in members’ rights – there is some disagreement among building societies with the Treasury’s proposal that the thresholds etc should necessarily become exactly the same as for a merger between like societies. We recognise that this concern may be particular to building societies – hence the suggestion above that different provision may be appropriate for different permutations. Conversely, there is also a strong view ( as referred to above ) that it is more consistent with the intention behind the Butterfill Act for thresholds to be the same as currently for mergers.
29. As to transfer information, we consider that more information may be required than the bare minimum required for same-type mergers, since the transferring members will end up within a group headed by a mutual of a different, and probably unfamiliar, type.
30. We agree that section 4 on distribution of funds should be implemented broadly as described where the transferring mutual is a building society, and would be happy to assist the Treasury further in this area ( and on the above issues of thresholds and information requirements).
31. Although not relevant to the majority of our members, we do support extension to the scope of EEA mutuals, for two reasons. First, it is desirable that UK mutual insurers ( other than friendly societies ) should benefit from the provisions of the Butterfill Act. We see that as very much in the spirit of Kitty Ussher’s opening remarks. Second, leading societies might want to use the Act’s provisions to link up with any of the wide range of European mutuals that are neither a European Cooperative Society nor cooperatives under national law.
Conclusion
32. We welcome the opportunity to contribute to this consultation and look forward to working with Treasury officials on a range of matters identified in this response. Given the complexity of the matters to be covered in the implementing SIs, we also look forward to their being published in draft with a proper opportunity for consultation with stakeholders.
