As part of the Edinburgh Reforms package, and in line with its growth objective for the UK, the UK government is seeking to encourage competition in financial services through reforms to the Building Societies Act 1986 (the "1986 Act"). The proposed reforms, set out in the government's 2022 response to its earlier Call for Evidence will enable building societies to compete on a more level playing field with banks by changing the funding limit calculation and making other corporate governance changes.
In this blog, we look at why, how and when the government proposes to update building societies regulation in order to meet its aims.
What are building societies?
Building societies are financial institutions owned by their members as mutual organisations. They provide banking and other financial services to their members such as mortgages and savings accounts.
They are different from banks because every borrower or saver of a building society has a say in how it operates, that is why they are referred to as members and not customers. For this reason, among others, they offer an alternative to regular banking services for the public and make an important contribution to the UK financial services sector.
According to the latest Building Societies Association data, collectively, building societies serve 25.8 million members and hold over £352 billion of mortgage assets and £313 billion of savings from individuals.
What is the funding limit?
The 1986 Act, which is the primary piece of legislation governing building societies in the UK, provides that building societies must raise at least 50% of their funding from their members' deposits in savings accounts. Funding from other sources is called wholesale funding. This is known as the funding limit.
There are no plans to change the 50% funding limit but, as we discuss below, the government is proposing changes to how the calculation is performed, by excluding certain sources from the funding limit calculation.
What changes are the government proposing?
Two types of changes are being proposed:
- changes to the funding limit calculation
- changes to corporate governance requirements
We look at each of these in turn.
Changes to the funding limit calculation
Recognising that the current funding limit can create disproportionate challenges for building societies, the government's first proposal is to exclude the following four different sources of funding from the funding limit calculation in the 1986 Act:
- funding from specific Bank of England Liquidity Insurance Facilities under the Sterling Monetary Framework which exist to allow banks and building societies to access liquidity in stress scenarios;
- funding from senior non-preferred debt instruments raised to meet Minimum Required Eligible Own Funds and Liabilities, given that funding to meet capital requirements is already excluded from the funding limit;
- funding from repurchase agreements of high-quality liquid assets where funding essentially counts twice for the purpose of the funding limit; and
- deposits from SMEs with a turnover of up to £6.5 million (up to 10% of a building society's overall funding) to bring building societies in line with ring-fenced banks.
Changes to the corporate governance requirements
The government also proposes to update the corporate governance requirements for building societies and bring them into line with the Companies Act 2006.
Specifically, it proposes to explicitly allow for the real-time virtual member participation in general meetings, remove the requirements for building societies to affix a seal when executing a deed, and require only one director to sign the balance sheet of a building society instead of two directors or a CEO.
Next steps and comment
All while supporting the mutual model of building societies, the financial limit calculation proposals will provide greater flexibility for building societies in a stress scenario, and the SMEs deposit increase will create greater parity between building societies and ring-fenced banks.
The proposed alignment of corporate governance requirements with Companies Act 2006 requirements will also give building societies flexibility already enjoyed by companies.
While the proposals have the full support of the mutuals sector, the government has not yet provided a timeline for the amendments to be legislated on. Building societies will watch with anticipation as these proposals vie for attention in a crowded and challenging wider agenda of legislative reforms.
This article forms part of a series on the Edinburgh Reforms. You can read about the Edinburgh Reform proposals to repeal retained EU law in financial services here and modernise the ring-fencing regime here.