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Building Societies Building Societies Research Paper 97/20 10 February 1997 This research paper covers two related issues within the building society sector: plans for legislative reform and the current wave of mergers and conversions. A second version of a draft Building Societies Bill was issued on 18 December 1996 and is due to be introduced when parliamentary time allows. Meanwhile, a Private Member's Bill, the Building Societies (Distributions) Bill [Bill 77 of 1996-97] introduced by Douglas French, seeks to address some of the perceived injustices associated with building society windfall payments. Christopher Blair Business and Transport Section House of Commons Library Library Research Papers are compiled for the benefit of Members of Parliament and their personal staff. Authors are available to discuss the contents of these papers with Members and their staff but cannot advise members of the general public. CONTENTS Page Summary 5 I Early History 6 II Legislation: Building Societies Act 1986 8 III The Building Society Market 10 IV Revising the 1986 Act 16 A. Review process 16 B. Protecting mutuality 18 C. Rules covering distributions on conversion 19 D. Protecting newly-floated societies from takeover 21 E. Draft Bill 23 V Mergers and Conversions 26 A. Statutory and other constraints 26 B. Building Society Accounts 29 1. Types of account 29 2. Entitlement to a distribution 29 3. Joint accounts 32 4. Entitlement to a distribution from joint accounts 33 5. Second-named holders: women 34 6. Disabled account holders 36 C. Economic implications 39 VI Societies converting to company status 40 A. Abbey National 41 B. Cheltenham & Gloucester 43 C. Halifax and Leeds Permanent 45 D. National & Provincial 47 E. Woolwich 49 F. Alliance & Leicester 51 G. Northern Rock 53 H. Bristol & West 54 Appendix 1. Cheltenham & Gloucester: additional details 55 Appendix 2. Halifax: additional details 57 Bibliography 58 Research Paper 97/20 Summary This paper describes the historical development of building societies. It focuses on two current issues: plans for legislative reform in the building society sector and the present series of conversions and mergers amongst societies. It outlines the complex rules and practices regarding payments by societies when they convert and discusses some apparent injustices associated with these payments. Reference information is provided about all societies which have completed or proposed mergers and conversions. The Government has consulted extensively on replacing the prescriptive regulatory regime of the Building Societies Act 1986 with a more permissive regime. A second version of a draft Bill issued in December 1996 is the culmination of a two year review and consultation. The Bill may be introduced this session if parliamentary time allows. Meanwhile, several of the largest societies are not waiting for reform but are instead pursuing structural changes which will lead to their becoming banks. Since the sector's assets will fall by about 60 per cent as a result, these changes will have a major effect. Part of this process of conversion involves substantial payments being made to some members and customers. The expectation of windfall distributions has disrupted normal business at many societies as speculators try to make quick gains. The schemes for distribution are governed in part by statute and in part by the discretion of the society. The logic and fairness of these schemes has been called into question. One current area of controversy is payments to the mentally impaired. A Private Members' Bill, the Building Societies (Distributions) Bill 1996-97 [HC 77] introduced by Douglas French under the Ten Minute Rule, seeks to address an effect of the law which means that mentally impaired society members who for practical reasons are named second on accounts established for their benefit may receive lower than expected distributions. His Bill is down for Second Reading on Friday 14 February 1997. 5 Research Paper 97/20 I Early History The origins of building societies go back over two hundred years; the first recorded society is the Ketley Building Society which was set up in 1775 in Birmingham. Most early societies were terminating societies. The members contributed towards the cost of building houses for all the members. When all members had been housed, the society would then be wound up. Although the last terminating society was only dissolved in 1980, by the middle of the nineteenth century an alternative form of society, the permanent building society, was increasingly commonplace. Such societies had the same essential characteristics as today's building societies: interest was paid on deposits with the society, and housing finance was advanced to borrowers with interest being charged on the loan. As the term 'permanent' suggests, such societies did not wind themselves up when their objects had been achieved, but continued to operate on a permanent basis. By 1912 only half of the societies in existence were terminating societies, and the proportion of terminating societies continued to decline rapidly thereafter. Building societies only began to establish branch networks in the 1930s; by 1940 there were 640 building society branches, and by 1987 6,962. Since 1987, though, branch networks have contracted slightly and in 1995 Building Societies Commission (BSC) figures show the number of branches had fallen to 5,141. The establishment of branches and permanent societies allowed societies to expand into the very large organisations which are now found within the sector. In absolute terms the number of societies has been in long-term decline. In 1900 there were 2,286 societies in existence but only 819 in 1950 and just 237 in 1980. In March 1996 BSC figures record 80 authorised societies. The falls are explained by mergers between societies and the transfer of the engagements of small societies to larger neighbours, as well as the natural dying out of terminating societies. Although likely to remain small in number, in terms of assets societies choosing the option to leave the building society sector by converting to plc status are a significant factor in the recent headcount of societies. Until recently, despite a fall in the number of societies, the value of assets in the sector has continued to grow, exceeding £300 billion in 1995. This level will fall by as much as 60 per cent when those of the larger societies which are seeking corporate status leave the sector. The Building Societies Commission noted in its 1996 Annual Report, that some 70 societies would remain, with assets of £120 billion and 17 million investors.1 Building societies were first recognised in legislation by the Regulation of Benefit Building Societies Act 1836, but the main legislative framework which societies have operated under is the Building Societies Act 1874 which followed a Royal Commission report of 1871. 1 p. 42 6 Research Paper 97/20 According to one historian of the sector, 'the main feature of the Act was to limit building societies to building and owning land for the purposes of conducting their business'.2 Controls on societies were further strengthened in 1894 after the collapse of the largest society, the Liberator. Second mortgages were forbidden by this Act. Subsequent legislation in 1939 and 1960 controlled the classes of security which societies could accept, limited their ability to lend to corporate bodies, and increased the powers of the then sectoral regulator, the Chief Registrar of Friendly Societies. Despite consolidation in 1962, much of the framework of building society legislation still derived from the 1874 Act until the passing of the Building Societies Act 1986. HISTORICAL DEVELOPMENT OF BUILDING SOCIETIES _____________________________________________________________________________________ Number Assets _____________________________________________________________________________________ Year Societies Branches(a) Staff Shareholders(b)Borrowers Total Total assets at 000's 000's 1994 prices (c) £m £m _____________________________________________________________________________________ 1900 2,286 na na 585 na 60 na 1910 1,723 na na 626 na 76 na 1920 1,271 na na 748 na 87 2,000 1930 1,026 na na 1,449 720 371 12,000 1940 952 640 na 2,088 1,503 756 16,000 1950 819 650 na 2,256 1,508 1,256 20,000 1960 726 985 na 3,910 2,349 3,166 36,000 1970 481 2,016 25,166 10,265 3,655 10,819 84,000 1975 382 3,375 34,949 17,916 4,397 24,204 102,000 1980 273 5,684 52,727 30,636 5,383 53,793 116,000 1985 150 6,926 65,691 39,996 6,657 120,763 184,000 1990 101 6,051 76,382 36,948 6,724 216,848 248,000 1994 82 5,566 104,058 38,150 7,370 301,010 301,010 1995 80 5,141 99,135 38,998 7,178 299,920 290,000 _____________________________________________________________________________________ (a) Figures for 1940, 1950 and 1960 are estimates based on BSA sources (b) Includes individuals who may be members of more than one building society (c) General Index of Retail Prices and predecessors _____________________________________________________________________________________ Sources: HM Treasury Consultation Document, March 1996, Building Societies Commission Annual Report 1995-96 __________________________________________________________________________ 2 The Building Society Industry, Mark Boléat (2nd edition, 1986) p.2 7 Research Paper 97/20 II Legislation: Building Societies Act 1986 Over time a number of deficiencies in the 1962 Act had been noted, and in 1980 there was an expectation of a new building societies Bill, both to remedy problems which had been identified in the existing legislation and to apply European legislation on credit institutions. In the event the European legislation was implemented by secondary legislation and no Bill was brought forward. The Building Societies Association, the sectoral trade body, therefore set up a working group in June 1981 to consider the fundamental nature of building societies. The working group's report fed into a report from the BSA Council, The Future Constitution and Powers of Building Societies, which was published in January 1983.
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