1. The Building Societies Association (BSA) represents mutual lenders and deposit takers in the UK including all 47 UK building societies. Mutual lenders and deposit takers have total assets of over £375 billion and, together with their subsidiaries, hold residential mortgages of £245 billion, 20% of the total outstanding in the UK. They hold more than £250 billion of retail deposits, accounting for 22% of all such deposits in the UK. Mutual deposit takers account for 31% of cash ISA balances. They employ approximately 50,000 full and part-time staff and operate through approximately 2,000 branches.
2. The BSA welcomes the opportunity to respond to A New Approach to Financial Regulation: draft secondary legislation (the consultation).
The Scope of PRA Regulation (Chapter 2)
Q1 Do you have any comments on the draft Order?
3. The BSA has understood for some time that all deposit-taking will be subject to PRA regulation, so the inclusion of deposit-taking in this draft Order was expected. We also support the PRA’s ability to designate for PRA regulation individual large investment firms that are principal position-takers. The requirement for a statement of policy in relation to this designation power (Article 8) is also sensible.
Threshold Conditions - TCs (Chapter 3)
Questions on the proposed TCs for dual-regulated firms
Q2 What are your views on the proposed division of TCs between the PRA and FCA?
Q3 What are your views about the new content of the TCs?
Q4 Do you have any other comments?
4. The BSA supports the decision to introduce two separate sets of TCs for each regulator because this is consistent, in principle, with a twin-peaks system where two regulators have distinct areas of responsibility and objectives.
5. We are broadly content with the division of the existing conditions between PRA and FCA. But the attempt to do so by retaining some of the existing terminology but redefining their meaning in the PRA and FCA contexts, risks artificiality - stretching these definitions far beyond the natural meaning of the words. For instance, the concept of resources appears to mean almost anything – from financial resources, to internal systems, to skills, people and the effectiveness of management.
6. Within the sub-concept of financial resources, some of the drafting is remarkably vague: for instance, a PRA-authorised deposit-taker is required (new paragraph 5D inserted in Schedule 6 to FSMA) to have assets that are appropriate given its liabilities. This makes more immediate sense in the context of PRA-authorised insurers, which are more used to an explicit matching of assets and liabilities, but its meaning when applied to deposit-takers is far from evident.
7. That means that far greater weight will have to be placed on the Threshold Conditions Code that is to be made by each new regulator. To understand this particular condition properly, in the absence of further explanation awaited in the relevant Code, is very difficult at this stage. Moreover, the Code will, when taken together with the TCs themselves, have the force of law. We question whether this arrangement does not amount, in substance, to unauthorised sub-delegation.
8. We note the comment in paragraph 3.8 (third bullet point) about the reason for including suitability of firms’ businesses in the TCs and we will consider in detail, and respond in due course to, the FSA’s consultation on how the regulator will apply the business model threshold condition (FSA CP 12/34).
9. We have some concerns about how the effective supervision TC will work in practice. The FCA TC is dealt with in paragraph 3B of the draft Threshold Conditions Order (Annex C to the consultation). A firm must be “capable of being effectively supervised” having regard to all the circumstances, including “the nature (including the complexity) of the regulated activities that [it] carries on or seeks to carry on;” and the complexity of its products, the way its business is organised, any group structure etc.
10. Inevitably, in a free, competitive market different firms will organise themselves in different ways and obviously there is no ‘one size fits all’ approach. In the BSA’s view, it would be unreasonable (and, possibly, anti-competitive) for, say, a regulator to tell a small firm that a product it offered was “too complicated” simply because it was one that was mainly offered by larger businesses. If it was too complicated relative to the firm’s expertise, resources etc that would be a different matter. Or, for the regulator to tell another firm that, because its group structure was more complicated than its peers that it was, by virtue of that fact, “unregulatable”. The regulators will no doubt be appropriately resourced to take into account different business structures, products etc and it really comes down to a matter of what is reasonable in the particular case.
11. The concerns mentioned above could be particularly acute in relation to large C3 firms. They currently have a nominated supervisor but, following the move to twin peaks, they will have a “flexible portfolio” ie no nominated supervisor. It would be potentially uncompetitive if such firms were subject to unreasonable constraints on their business activities and the way they organise themselves simply because the regulatory architecture had changed.
12. In relation to putting the TCs in place, we note that the Bank and the FSA will set out more detail in forthcoming publication s about how the PRA and the FCA will apply the revised TCs to firms that are already authorised. This is the situation relevant to all BSA members, which are currently authorised, with a deposit-taking permission, under FSMA. At N2 in late 2001 (the transition from the previous statutory regimes into the FSMA 2000 regime), BSA members (and previously authorised firms generally) were grandfathered into authorisation – i.e. there was no requirement to renew authorisation or even to demonstrate explicitly that the FSMA 2000 TCs were being met. The BSA expects a similar outcome at cutover in April 2013 – the existing FSMA authorisation of BSA members should continue, and they should be treated, as a matter of law, as being in compliance with the new TCs as at the cutover date, or at the very least benefit from a presumption to that effect. This may require a transitional provision in this or another Order.
Questions on FCA-authorised firms/EEA and Treaty firms
Qs 5 – 8: The BSA has no comments on these questions, which are not relevant to BSA members.
Mutuals Order (Chapter 4)
Questions on the policy approach of the Mutuals Order
Q9 What is your view on the high-level approach taken to splitting the functions between the PRA and the FCA?
Q10 What is your view on the approach taken to require and allow the FCA and the PRA to effectively co-ordinate their actions under the mutuals legislation?
Q11 What other comments do you have, on principles or issues that you think should be considered with regards to the policy approach of the Order?
13. The BSA strongly welcomes the Government’s commitment to supporting the mutuals sector and foster diversity in financial services.
14. We are content with the high-level approach, described in paragraph 4.4 of the consultation, whereby the PRA will be responsible for existing FSA functions relevant to safety and soundness of mutuals and the FCA will undertake the other functions, including administration. We note the statement in paragraph 4.5 that the draft Mutuals Order does not add to or remove any current regulatory functions from existing mutuals legislation.
15. The BSA supports the general approach to coordination: extending the obligation to co-ordinate set out in new section 3D of the new Financial Services Act, together with the provisions relating to a MOU (new section 3E ) and power for PRA to restrain action by FCA ( new sections 3I to 3K ). Given the safeguards also set out in these new sections, they provide a sensible basis for coordination, and – in two instances mentioned below, and possibly others – make the introduction of specific ad hoc obligations for the PRA to consult the FCA otiose. For example, the obligation to consult under new section 3D arises only where the proposed exercise of one regulator’s function could have a material adverse effect on the advancement by the other regulator of any of its objectives. This sensible threshold avoids the inefficiency of having each regulator constantly second-guessing what the other is doing.
16. While broadly content with the allocation between PRA and FCA of what are currently FSA powers and functions under the Building Societies Act, there are certain provisions relating to the general functions in section 1 of the Act, and to the procedures for mergers/transfers of engagements and transfers of business, which need amendment.
17. Paragraph 3 of Schedule 8 to the draft Mutuals Order distributes the general functions in section 1 of the Act between PRA and FCA with some overlap. The function of administering the system of regulation is only allocated to the PRA to the extent relating to sections 5(1), 6, 7,9A and 9B. We think this list is incomplete – sections 6A and 6B are closely related to section 6, and section 8 is closely related to section 7, so should be included in this list. Moreover, section 8 already has one specific function (in section 8(3)) that is to be vested in the prudential regulator. That makes it particularly odd that the draft does not include section 8 in the scope of the PRA’s general function under section 1. Unlike some other categories of mutuals, all building societies that are in business must be regulated as deposit-takers by the PRA, so it is quite important that the PRA has the scope to deal with the whole of the sections 6 to 9B.
18. Turning to mergers and transfers, the draft (see paragraphs 39 and 42 of Schedule 8) repeats a systematic error on which the BSA has commented previously – requiring the PRA to “consult” the FCA regarding confirmation, notwithstanding that this is a statutory process with the PRA taking a quasi-judicial role and making confirmation decisions against exhaustive criteria that do not allow for the introduction of extraneous considerations or other discretions.
19. Taking first the example of a merger confirmation under section 95: sub-section (4) sets out the three criteria for refusing confirmation: these are exhaustive – if the FSA considers that any one or more of these criteria have been met, then it must refuse confirmation – otherwise, where – as is normal – none of the criteria is triggered, the FSA must confirm. No other considerations can be taken into account, nor is there any scope for the FSA to exercise other discretion (apart from disregarding minor procedural errors). Moreover, the Act (Part III of Schedule 16) makes explicit provision for the FSA to receive or hear written or oral representations, particularly from affected members, about the confirmation, which will naturally be directed to these three criteria: the FSA must consider these representations in reaching its confirmation decision.
20. All of this makes clear that any “consultation” with the FCA is both unnecessary and possibly improper, given the limited and quasi-judicial role of the “prudential regulator” – invariably the PRA - at confirmation. As the merger process to that date will have been overseen by the PRA, there is no reason to imagine that the FCA will have any specific knowledge relevant to the three criteria – and if on being consulted, FCA (which does not hear the representations) expressed other, more general opinions about the merits or desirability of the merger, PRA would be bound to ignore them, or else would seriously misdirect itself in carrying out its function under section 95.
21. Our objection to this incorrect addition to the confirmation procedure does not, of course, prevent PRA from consulting FCA – as already set out in new section 3D, and subject to the materiality threshold in that section – at an early stage of the society’s merger discussions: so the additions are in the BSA’s view superfluous anyway.
22. So, as previously explained to the Treasury, providing for consultation with FCA in this specific context is entirely wrong-headed. This applies to confirmations under section 95, and mutatis mutandis under section 98. A similar duty to consult the FCA is to be inserted into section 101, but appears to have been drafted incorrectly. New subsection (4A), to be inserted by paragraph 44 of Schedule 8 to the Mutuals Order, requires that “the PRA must consult the FCA before confirming a transfer or giving a direction under this section.” However, the confirmation function is not governed by this section (101) but by section 98 - so the words “confirming a transfer or” are anyway wrong. In the BSA’s view, the whole new subsection is wrong as there is no need for there to be consultation with FCA on this matter.
23. A further problem relates to a couple of amendments to Schedule 8A, which deals with notification to affected members of a rescue merger or takeover directed by the FSA by way of emergency intervention, i.e. typically as an alternative to SRR or insolvency. As an emergency provision, which short-circuits the normal process of approval at a general meeting of members, time – and the absence of delay - is critical. Under subparagraphs 3 and 9 of Schedule 8A, a merger or transfer notification statement informing must be sent to members of the society being rescued, within 14 days of the board resolution of that society approving the rescue transaction. The content of these statements is largely specified by existing SIs, but the FSA has power to require additional information. Within a 14 day time limit, it makes no sense for the PRA to have to consult the FCA (as proposed by draft paragraphs 39 and 42) before requiring additional information – this provision adds no value but introduces delay. In the virtually inconceivable situation where the requiring of such additional information by the PRA could have a material adverse effect on the advancement of the FCA’s objectives, the duty to consult in new section 3D would anyway cut in.
Questions on the applicability of the PRA’s objectives and the FCA’s objectives to their respective mutual functions
Q12 What is your view on the proposal to apply the PRA’s objectives to its mutual functions?
Q13 What is your view on the proposal not to apply the FCA’s objectives to its mutual functions?
Q14 What other comments do you have, if any, on any issues that should be considered with regards to the application of the PRA’s objectives to its mutual functions?
24. The existing practice under FSMA whereby functions under mutuals legislation do not have the FSA’s general objectives etc applied to them has worked well since N2 – in particular, it has ensured continuity and certainty in the exercise of those functions. The BSA was not persuaded that, as a general proposition, this situation needed to change. In relation to the PRA, the general objective of “promoting the safety and soundness of PRA-authorised persons” is unlikely to have a harmful effect if applied to functions under the Building Societies Act, and could even be beneficial, so on balance the BSA does not object to its application.
25. The BSA also recognises the logic of not applying the FCA’s objectives to its responsibilities for mutuals, given that those responsibilities are (as paragraph 4.13 states) of an administrative nature, giving rise to little or no discretion. (Naturally, we recognise and support the application of the FCA’s objectives to mutuals, along with other firms, to its separate, FSMA functions, as outlined in paragraph 4.14).
Questions on the proposed amendments to the Building Societies Act 1986
Q15 What are your views on the proposed amendments?
Q16 What other comments do you have, if any, on issues that should be considered with regards to one or more of the proposed amendments?
26. Most of the draft amendments, set out in Schedule 8 to the draft Mutuals Order, appear to be routine, but we have some observations on some of them.
27. Paragraph 3(3) provides for the PRA to have certain functions including –
“(b) to administer the system of regulation of building societies provided by or under this Act, but only in so far as sections 5(1), 6, 7, 9A and 9B relate to that system;”
It appears that certain sections have been inadvertently omitted (also see above). Section 6 covers making loans and, in particular, sets out the lending limit for building societies. A combination of Section 6(1) and (2) means that at least 75% of a society’s total assets must be “fully secured on residential property”. Sections 6A and 6B are integral to section 6 because they define ‘loans secured on land’ and ‘loans fully secured on land”. Section 6 is included in the draft Order, but sections 6A and 6B are omitted. We believe that sections 6A and 6B should be included, otherwise there may be doubts as to the PRA’s powers in this particular area, which could inhibit its performance of its functions.
28. Section 7 sets out the funding limit for building societies. Section 8 sets out restrictions in relation to raising funds and borrowing and, therefore, arguably should also be included in the draft Order.
29. Regarding building society mergers, as stated above, paragraph 39(2)(3) and 59(3) require the PRA to consult the FCA, respectively, before (1) confirming an amalgamation or transfer or giving a direction and (2) approving a merger statement. We have outlined above our reservations over this approach.
Questions on other mutuals
Qs 17 - 24
30. Most of the other provisions in the draft Mutuals Order are irrelevant to BSA members, although among the BSA full membership are certain industrial and provident societies. In our view, the draft provisions relating to such societies appear to be appropriate.
Questions on the proposed transitional arrangements
Q25 What are your views on the proposed transitional arrangements?
31. These appear to be appropriate. Of greatest importance to our members is to have a clear statutory basis for the assumption that information or documents provided to the FSA before cut-over do not need to be copied to the PRA, and paragraphs 3 and 4 of Schedule 12 to the Mutuals Order appear to achieve this. However, one other matter needs to covered ( this may have been dealt with elsewhere in the corpus of secondary legislation but we have not seen it ) – the ability of PRA to take over and complete any statutory process under the Building Societies Act that had been started by the FSA before cut-over : there is general enabling power to do this under section 119 of the new Act, but it may be necessary to link this more specifically to mutuals’ functions.
Parent Undertakings (Chapter 5)
Q26 Do you have any views on the draft Order at Annex E?
32. Although a building society is always at the apex of any group, and cannot therefore have a parent undertaking, the BSA already has two members that are banks owned by industrial and provident societies. We therefore agree with the general approach outlined in paragraph 5.4 of the consultation document, noting that it is key that the safeguard in relation to parent undertakings whose main business is not related to financial services is included:
To limit the powers of direction to parent undertakings whose main business is related to financial services, the Bill provides that the powers may only be exercised in relation to parent undertakings of certain authorised persons, recognised investment exchanges or recognised clearing houses if the parent undertaking is a financial institution of a prescribed kind. This safeguard helps keep the power within acceptable bounds and ensures that the financial services regulators will not have powers of direction in relation to parent undertakings whose main business is not related to financial services.
We broadly agree with the range of institutions prescribed in the draft Order..
Financial Services Compensation Scheme rule-making responsibility (Chapter 6)
Q27 Do you have any views on the draft Order at Annex F?
33. The draft Order, as it stands, would appear to be fit for the purpose stated - ie that PRA will write rules governing compensation arrangements for firms in respect of the activities which it authorises and that FCA will write rules for the compensation arrangements applying to the rest. However, we are concerned about the way this would work in regard to the funding arrangements for the FSCS.
34. In its recent consultation paper (CP 12/16) on the FSCS Funding Model Review, FSA proposed a clean split between the funding arrangements for deposit-taking and other PRA-authorised activity, and those for FCA-authorised activity. Such a split is strongly supported by the BSA and would appear to be compatible with the draft Order. However, we understand that FSA will be consulting, in the New Year, on a modified funding model that would, in certain circumstances, involve PRA-authorised firms contributing, by virtue of their deposit-taking or insurance business, to compensation costs arising from firms’ FCA-regulated activities.
35. We are challenging the FSA’s modified proposals as we consider these would impose a wholly unjustified cross-subsidy from deposit-takers to intermediaries with which they have no connection or affinity. But, since we cannot predict the outcome of FSA’s further consultation, it is necessary to consider the implications were FSA’s modified proposals to be implemented. Under the draft Order, as currently framed, FSA would be responsible for making rules in respect of all compensation costs arising from FCA-regulated activity - even where, as under FSA’s revised proposals, firms were required to contribute to such levies by virtue of their PRA-authorised activities. The latter is not at all appropriate. It is essential that PRA has full responsibility, as prudential regulator, for the rules governing the FSCS levies to be borne by firms in respect of the activities it authorises. PRA will be in a position to assess the affordability to its authorised firms of FSCS levies. FCA will not. It will be necessary for the draft Order to be amended to reflect this.
Criteria for Designating Super-Complaints to the FCA (Chapter 7)
Q28 Do you have any comments on the Government’s proposals for designating consumer bodies as super-complainants to the FCA, or on the text of the draft criteria and guidance at Annex G?
36. In principle, the BSA supports the proposal that bodies are designated to make super complaints to the FCA and that these arrangements should benefit SMEs as well as individual consumers.
37. The criteria, set out in Annex G to the consultation, appear to be sensible. Clearly, it would be inappropriate, say, for ad hoc pressure groups, with insufficient expertise to and resources to be able to identify a matter that is damaging to the interests of consumers and organise an effective, properly evidenced, super complaint, to be included in the proposed arrangements. Especially, in view of the requirement for the FCA to respond within 90 calendar days, it is important that the FCA does not have to spend considerable time requesting and processing additional information, or seeking clarifications, on matters that should have been included in the complaint at the outset.
38. We support the guidance on criterion 1 (management and control), especially the recognition (in paragraph G13) that the complaint must be motivated by consumer interest and not, for example, publicity value. The supporting material, listed in paragraph G15, that an applicant for designation would have to provide appears to be appropriate. Handling a super complaint would be very time consuming for the regulator and for relevant authorised firms, therefore it is important that only substantial complaints from reputable and
39. We have expressed concern in the past about the fact that the Bank does not wish to share the FSA’s IT systems (paragraph 10) will mean that significant costs must be borne by the industry not only in establishing the new PRA system but also in upgrading the FSA/FCA system. We hope that costs can be contained reasonably and that there will, in future, be greater transparency about the costs being incurred on IT systems, value-for-money and effectiveness.
The Building Societies Association
20 December 2012