The Regulatory Reform Committee has agreed to the following Report:
PROPOSAL FOR THE REGULATORY REFORM
(CREDIT UNIONS) ORDER 2002
Report under Standing Order No. 141
1. The Regulatory Reform Committee has examined the proposal for the Regulatory Reform (Credit Unions) Order 2002 in accordance with Standing Order No. 141. On the evidence before us, we recommend that the proposal be amended before a draft order is laid before the House. However, some 21 days of the period for Parliamentary consideration still remain, during which time we may yet receive further representations. We will therefore make our formal recommendation to the House later in the 60 day period. Meanwhile, our report on the evidence before us is set out below.
2. On 18 July 2002 the Government laid before Parliament the proposal for the Regulatory Reform (Credit Unions) Order 2002 in the form of a draft of the order and an explanatory memorandum from HM Treasury (the Department). The proposed regulatory reform order would amend the Credit Unions Act 1979 (the 1979 Act) by removing two restrictions on credit unions and amending the regulation of the name "credit union". The 1979 Act would be amended in order to:
allow credit unions to charge fees for providing additional basic services (hereafter referred to as "amendment A")
make the common bond requirements, governing admission to membership, more flexible (amendment B)
establish appropriate regulation on the use of the name "credit union" (amendment C).
3. The House has instructed us to examine the proposal against the criteria specified in Standing Order No. 141(6) and then, in the light of that examination, to report whether the Government should proceed, whether amendments should be made, or whether the order should not be made.
4. Our discussion of matters arising from our examination is set out below. Where a criterion specified in Standing Order No. 141(6) is not discussed in the report, this indicates that we have no concerns to raise about that criterion. In the course of our examination, we requested further information from the Department about two matters relating to the consultation process and one matter relating to the drafting of the proposed draft order. The Department's response is discussed in paragraphs 42 to 49 below.
5. Credit unions are mutual savings and loan organisations that are registered under the Industrial and Provident Societies Act 1965 (the 1965 Act) as credit unions. The 1979 Act established a supervisory regime which regulates credit unions. Entities registered as credit unions have separate legal personality and limited liability. Currently, between 650 and 700 credit unions are registered in Britain. In 2002, membership of credit unions exceeded 325,000 people.
6. Credit unions are registered and regulated by the Financial Services Authority (the FSA), which took over the functions of the Registry of Friendly Societies on 1 December 2001. Credit unions are subject to the new regulatory regime introduced by the FSA on 2 July 2002, under the framework of the Financial Services and Markets Act 2000 (the 2000 Act). The regime is intended to strengthen the regulation of credit unions, bringing them more closely into line with that of other deposit-takers, while remaining proportionate to the nature and scale of the risks faced by credit unions. Savers with credit unions are provided with a similar level of protection to that afforded depositors with banks and building societies, as they will now have access to the Financial Ombudsman Service and the Financial Services Compensation Scheme. The FSA has published a source book for credit unions, CRED, setting out the details of the rules now applying to credit unions.
Extent of the proposal's application
7. The 1979 Act applies only to Great Britain so the amendments proposed will not affect Northern Ireland. Financial services are a reserved matter under the Scotland Act 1998, and functions in relation to credit unions have not been transferred to the National Assembly for Wales. The Department has consulted both the relevant Scottish Ministers and the Welsh Assembly on this proposal.
Purpose of the proposal
8. This amendment would insert a new section 9A into the 1979 Act to make clear that credit unions which provide additional basic services to members may charge fees for doing so.
9. Currently, the legislation regulating credit unions does not make any explicit provision for credit unions to charge for ancillary services offered to their members. Consequently, although credit unions are entitled to offer such servicesfor example, administering means of payment, making payments by way of direct debit and money transmission servicesthey do not have clear legal authority to charge for them. The lack of legal certainty arises because the legislation regulating credit unions gives them explicit legal authority to charge their members in certain circumstances, thereby arguably implying the absence of authority to charge in others.
10. Currently, some credit unions do in fact offer ancillary services to members. However, these credit unions spread the costs associated with providing these services across the total membership of each credit union, because of the lack of clear legal authority to charge the individual member for using a particular service. Additional costs are recovered through such means as higher rates of interest on loans or smaller dividends for members.
11. This amendment would amend section 1 of the 1979 Act to make the common bond requirements, governing admission to membership, more flexible.
12. The 1979 Act requires that a credit union's membership is "... restricted to persons all of whom fulfil a specific qualification which is stated in the [credit union's] rules and is appropriate to a credit union [and] ... in consequence a common bond exists between members of the society." The Department states that the rationale for common bonds includes the building of confidence among members, and members' ability to exert moral pressure on each other to repay loans. The Act lists common bond qualifications that are deemed to be appropriate, although the FSA is able to approve other qualifications. The qualifications listed in the Act are:
(a) following a particular occupation
(b) residing in a particular locality
(c) being employed in a particular locality
(d) being employed by a particular employer
(e) being a member of a bona fide organisation or being otherwise associated with other members of the society for a purpose other than that of forming a society to be registered as a credit union
(f) residing in or being employed in a particular locality.
13. This amendment would allow credit unions' rules to specify certain combinations of common bonds that are not currently legal. It would allow new and existing credit unions, or two or more credit unions that wish to merge, to adopt a wider common bond of membership. The current requirement is that a credit union's rules must specify a qualification for admission to membership falling into one of categories (a) to (f) above. Under the amendment, credit unions' rules would also be allowed to specify a qualification for membership falling into category (e) and one of categories (a), (b), (c), (d) and (f). Members of a particular credit union could therefore be linked by association (category (e)for example, by belonging to the same organisation) or one other permitted qualificationfor example, by residing in a particular locality (category (b)).
14. This amendment would amend section 3 of the 1979 Act to establish appropriate regulation on the use of the name "credit union". It would regulate which persons or institutions could properly call themselves "credit unions" or represent themselves as credit unions.
15. Section 3 sets out the rules governing the use of the name "credit union". The sections setting out these rules have never been brought into force because the existing provisions would have unintended consequences. For example, they would prevent American military personnel on bases in Great Britain from using the name "credit union" in connection with activities, exempt under the 2000 Act, relating to a credit union based outside Great Britain. This amendment would enable these rules to be brought into force and thus allow action to be taken against persons using the name "credit union" inappropriately.
16. The amendment would expand the categories of exception to the general prohibition on the use of the name "credit union". The three new exceptions would be for:
institutions with their head offices outside Great Britain which are subject to similar requirements to credit unions as they exist in Great Britain
authorised or exempt persons with their head offices outside Great Britain
any person or unincorporated association for which the FSA approves the use of the name "credit union".
17. The Department states that the test for what constitutes "similar" would relate to the central features of a credit union as it exists in Great Britain, and would include limits on objects, membership, activities and monetary limits on deposits and borrowing. The Department states that the "similar" test would not apply to authorised persons who are directly authorised by the FSA or exempt non-British persons, because the suitability of their intended use of "credit union" is taken into account in granting authorisation or exemption, by the FSA and HM Treasury respectively. For European Economic Area firms using the name "credit union" inappropriately, the FSA could approach the home regulator or, in extreme circumstances, take action under the 2000 Act where there is a threat to the interests of customers.
18. As regards the FSA's power to approve the use of the name "credit union", the amendment would give the FSA greater flexibility in terms of the types of organisation in relation to which it can approve use of the name. Currently, the FSA can approve only an association or group of credit unions using the name "credit union". Under the proposed amendment, the FSA could give approval to a person or unincorporated association using the name, although the Department believes that it will remain the case that it is generally not appropriate for the FSA to approve the use of the name "credit union" by a British person who is not a credit union.
Our assessment of the proposal against Standing Order No. 141(6) criteria
19. Before setting out our assessment of the proposal, we wish to comment on the explanatory statement accompanying the draft order laid before Parliament by the Minister. We consider that the explanatory statement is not up to the high standard we would expect from government departments seeking to promote a regulatory reform order. While the explanatory statement sets out clearly what the effect of the proposal would be, it does not properly address the question of how the Department considers that the proposal satisfies the matters specified in section 6(2) of the Regulatory Reform Act 2002. We trust that future explanatory statements from the Department will deal more fully with these matters.
Inappropriate use of delegated legislation
20. The proposal appears to be appropriate for delegated legislation.
Removal or reduction of burdens and creation of new burdens
21. The Department has clearly identified the burdens that it considers would be affected by each of the three amendments contained in the proposal. However, the Department has not clearly explained how it considers that each amendment would remove or reduce these burdens. The analysis below is therefore largely that of the Committee.
22. We are satisfied that amendment A of the proposal removes a burden and that, although it imposes a new burden, this burden is proportionate to the benefit that is expected to result from its creation. The 1979 Act currently places a burden on credit unions because it arguably implies that they cannot charge members for the provision of additional services. The Act expressly authorises charges in two cases but in no others, creating an arguable implication that credit unions cannot charge for any additional services provided. Amendment A would remove this burden by giving clear legal authority to credit unions to charge those members who choose to use the services for the cost of providing them. This would enable credit unions to ensure that only those members who use additional services pay for the cost of providing them.
23. As regards the question of whether amendment A would impose any new burden, the Department believes that no new burdens would be imposed on credit unions as it would be for individual credit unions to decide whether to offer and charge for ancillary services. However, the Department considers that amendment A would permit a burden to be imposed on the members of credit unions, because they could be charged for the cost of providing any additional service of which they choose to make use.
24. The imposition of this burden on credit union members, however, appears to be proportionate within the meaning of section 1(1)(c) of the Regulatory Reform Act 2001. The proposal would be beneficial to credit union members because they would be more likely to have ancillary services offered to them. It would also address the difficulty that some members of a credit union might have in obtaining these services from other financial services entities. Consequently, as the Department argues, given the limitations on the amount that credit unions can charge, the burden imposed by this provision is proportionate to the benefit which is expected to result from its creation.
25. We are satisfied that amendment B of the proposal reduces a burden and imposes no new burden. Amendment B would reduce a burden imposed by the 1979 Act, created by the restriction on the combinations of common bonds that are permissible if a credit union is to be registered by the FSA. This restriction imposes a burden on credit unions which may want to merge with others or extend the range of their membership. It also imposes a burden on the wider public, because it restricts certain groups of people from forming a credit union to represent their groups. Amendment B would only reduce, rather than remove, these burdens, by permitting a limited extension to the current list of common bonds allowed by the 1979 Act.
26. The detail of the extension permitted by amendment B is set out in paragraph 13 above. A useful illustration of the practical effect of the amendment is given by the Department. Currently, a residential credit union that wants to join forces with another credit union based on worship at a particular church in the area, where the congregation do not necessarily live in the first credit union's common bond area, is unable to do so. This is despite the flexibility already offered by the "living or working" common bond (category (f) in paragraph 12 above), which does not address the situation posited in the example. Under proposed amendment B, these two credit unions would be able to merge because the associational common bond (category (e)) could be combined with one of the other types of common bond (categories (a), (b), (c), (d) or (f)).
27. We are satisfied that amendment C reduces a burden and imposes no new burden. It would reduce a burden imposed by the 1979 Act in unusual circumstances. This amendment would enable a previously uncommenced burden to be introduced for the first time, because it would enable the Department to bring section 3(2) and (3) of the 1979 Act into force. The Regulatory Reform Act provides that a regulatory reform order may amend a legislative provision that is not in force. The amendment is therefore in order, as it would amend an existing burden, albeit one that is not in force, rather than introducing a new burden under the terms of the Regulatory Reform Act.
28. Consequently, to assess whether amendment C reduces a burden in terms of the Regulatory Reform Act, we must proceed as if section 3(2) and (3) of the 1979 Act were currently in force. Were it so in force, a burden would exist for all institutions which should properly be allowed to call themselves "credit unions" but for which using the name "credit union" or representing themselves as being credit unions would constitute a criminal offence. Amendment C would reduce this burden by adding exceptions to the general prohibition on the use of the name "credit union": the persons or institutions falling into the excepted categories would have the burden removed.
29. We are satisfied that, although the proposal would impose a new burden, it nevertheless satisfies the test of fair balance laid down in section 3(2)(a) of the Regulatory Reform Act. Section 3(2)(a) provides that a proposed order may create a new burden only if the provisions of the order, taken as a whole, strike a fair balance between the public interest and the interests of the persons affected by the burden being created. The fair balance test is relevant here because, as discussed in paragraph 23 above, amendment A of the proposal does create a new burden. Whether the creation of this new burden is justified under this criterion must be assessed in terms of the overall proposal, rather than in terms of each individual amendment.
30. Although the Department does not properly address the question of fair balance, it does state that it considers the new burden imposed on credit union members is justified, for the reasons set out in paragraph 24 above. The question is whether the proposal strikes a fair balance between the public interest in having credit unions that are communitarian in nature and provide low-cost personal financial services to their members, and the interests of those credit union members who would be charged the cost of any additional services provided. We conclude that the fact that credit unions would be able to levy charges on their members only on a cost-recovery basis, rather than on a profit-making basis, means that the proposal strikes a fair balance. The public interest in having credit unions that are communitarian and provide appropriate services would be served by all three proposed amendments. The interests of those members of credit unions who would be charged for the cost of providing any additional service will not be unduly affected, because they will be charged only the cost of providing the service.
31. We are satisfied that, although the proposal would impose a new burden, it nevertheless satisfies the test of desirability laid down in section 3(2)(b) of the Regulatory Reform Act. Section 3(2)(b) provides that a proposed order may create a new burden only if the extent to which the order would also remove or reduce other burdens, or have other beneficial effects for those affected by current burdens, makes the order desirable. The test for desirability is relevant because of the new burden created by amendment A. In respect of this criterion, and as with the fair balance test, the justification for creating this new burden must be assessed in terms of the overall proposal, rather than in terms of each individual amendment.
32. The Department does not directly address the question of desirability. However, we consider that the following factors mean that it is desirable for the proposed order to be made:
the beneficial effect for those members of credit unions who do not currently use ancillary services but who bear the additional costs of providing such services to other members (by way of amendment A)
the reduction of the burden currently imposed on those credit unions (and "potential" credit unions) affected by the limitation of common bond qualifications (by way of amendment B)
the reduction of the burden on those institutions which should properly be allowed to call themselves "credit unions" but for which using the name "credit union" or representing themselves as being credit unions would constitute a criminal offence (by way of amendment C).
33. We are satisfied that amendment A continues the necessary protection provided by the 1979 Act. The nature of the protection provided by the Act is apparent from its statement of the objects of credit unions, set out in section 1(3) as being:
(a) the promotion of thrift among the members of the society by the accumulation of their savings
(b) the creations of sources of credit for the benefit of the members of the society at a fair and reasonable rate of interest
(c) the use and control of the members' savings for their mutual benefit, and
(d) training and education of the members in the wise use of money and in the management of their financial affairs.
It is apparent from section 1(3) that one purpose of the Act is to provide protection to credit union members by ensuring that credit unions operate in a way that protects and benefits their members. The Act provides this protection by authorising credit unions to carry out specified functions; put another way, credit unions cannot carry out any functions unless explicitly authorised to do so by legislation.
34. Amendment A would clearly lessen this protection for members, because it would specifically authorise credit unions to impose a cost-based charge on members. A member who chooses to take up an additional service offered by a credit union would pay more for that service than he or she currently does, regardless of whether he or she currently makes use of such additional services.
35. However, the test laid down by the Regulatory Reform Act is not merely whether a protection is removed but whether that protection is necessary. The Department does not clearly explain why it considers this loss of protection is not a loss of a necessary form of protection; it simply states that, because any charges for an additional service would be limited to the actual cost of providing the service, credit unions would be prevented from overcharging their members. Nevertheless, we can extrapolate from this point that protection of credit union members against paying the cost for additional services is not a necessary form of protection because such charging does not affect the fundamental objects of credit unions, as set out in section 1(3). Credit unions can choose whether to provide such services, and members can choose whether to take up such services and to pay the cost of doing so.
36. We are satisfied that amendment B continues the necessary protection provided by the 1979 Act. Amendment B would broaden the qualification criteria set out in the 1979 Act for establishing a common bond. This could be seen as weakening the protection that the Act affords to the communitarian nature of credit unions. Again, the Department does not directly address the question of whether it is necessary to maintain the current limitations on what qualifies as a common bond, in order to protect the character of credit unions. It does, however, point out that simply because an organisation's rules comply with the section 1(4) common bond criteria does not necessarily mean that the FSA is obliged to register the organisation as a credit union. The FSA must be satisfied before registering a credit union that there is a genuine common bond between its members. It is this requirement that provides the necessary means to protect the communitarian nature of credit unions, and the proposal continues this protection.
37. The Department also notes that experience from other countries has shown that broadening the common bond qualifications does not weaken credit unions. Credit unions are not able to take over another by hostile means, and mergers between credit unions require the approval of their members as well as the fulfilment of various procedures which the FSA oversees.
38. We are satisfied that amendment C continues all necessary protections. Amendment C clearly continues a necessary protection, regulating the use of the name "credit union" and preventing inappropriate organisations from representing themselves as being credit unions. It also introduces an additional protection, creating exceptions so as to ensure that non-British persons are not exposed to prosecution in inappropriate circumstances.
1 Copies of the proposal are available to Members of Parliament from the Vote Office and to members of the public from the Department. The proposal is also available on the Cabinet Office web site http://www.cabinet-office.gov.uk/regulation/act/proposals.htm Back
2 Standing Order No. 141(2). Back
3 Section 33(4) of the 1979 Act. Back
4 For example, the 1979 Act permits credit unions to charge interest on loans made to members (section 11) and the 1965 Act permits a credit union to charge for supplying members with a copy of the credit union's rules (section 15). Back
5 Section 1(2)(b). Back
6 Section 1(4). Back
7 Section 1(4). Back
8 Section 3(2) and (3). Back
9 The test for similarity would relate to the central features of a credit union as it exists in Great Britain, and would include objects, membership, restrictions on forms of deposit-taking, share value and monetary limits on borrowing. Back
10 That is, those firms not directly authorised by the FSA but who can operate in the UK by virtue of one of the single market directives. Back
11 Section 1(2)(a). Back
12 Section 1(2)(b). Back