Community Benefit Societies (Restriction on Use of Assets) Regulations 2006

– in the House of Lords at 4:29 pm on 2nd February 2006.

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Photo of Lord McKenzie of Luton Lord McKenzie of Luton Government Whip, Government Whip 4:29 pm, 2nd February 2006

rose to move, That the draft regulations laid before the House on 12 December 2005 be approved [14th Report from the Joint Committee].

Photo of Lord McKenzie of Luton Lord McKenzie of Luton Government Whip, Government Whip

My Lords, before I speak to the regulations and to the order, perhaps I may take the opportunity to welcome the noble Lord, Lord Howard of Rising, to what I understand is his first appearance on the opposition Front Bench. I have had the opportunity to hear him speak in the Chamber in robust and committed terms and wish him well in his new position.

I am pleased to be able to introduce today two pieces of legislation that aim to improve the position of Industrial and Provident Societies—or IPSs, as they are known to the substantial numbers who participate in or benefit from their activities. Both measures—the Friendly and Industrial and Provident Societies Act 1968 (Audit Exemption) (Amendment) Order 2006 and the Community Benefit Societies (Restriction on Use of Assets) Regulations 2006—represent important steps forward in modernising IPS law. They follow a key consultation document, published in July 2004, which demonstrated support for the proposals enshrined in both of those instruments.

Before I describe what these specific measures achieve, I should like first to say a few words about the importance of IPSs. As noble Lords will know, there are two types: the co-operative, which is run exclusively by and for the benefit of members; and the community benefit society, which is run by its members for the benefit of the wider community. The Government welcome the significant role that societies of both types play in providing greater choice and diversity in the wider economy and for the public in general. We welcome the tradition of democratic involvement and member engagement that many of those societies represent and admire how the co-operative movement has been changing and transforming itself into a modern business framework to meet the needs of community engagement and sustainable enterprise for the 21st century.

We also welcome the recent trend for IPSs to deliver local services in areas such as leisure, football supporters' trusts and childcare. The Government have been encouraged by recent developments in the sector and we are keen to see IPSs continue to grow and flourish. As part of our commitment to that process, we are looking to reform provisions in current legislation, where that is appropriate and necessary. This is why we have supported two Private Members' Bills in recent years which had the objective of modernising IPS law. In 2002, we backed a Bill that eventually became the Industrial and Provident Societies Act 2002. A year later, we supported a further Bill, which became the Co-operatives and Community Benefit Societies Act 2003. These two statutory instruments further develop the sector. I hope noble Lords will agree that those actions, taken together, demonstrate a level of interest in and support for IPSs that is unprecedented in recent decades.

We are supporting them not just because of the general importance of IPSs but because of the need to ensure a broad equivalence of treatment—or parity—between IPSs and companies. That is because we recognise that many in the sector believe that IPS law is becoming outdated in a number of ways. For example, I know that many involved with IPSs have been particularly concerned about their relationship to a new legal entity: the community interest company. That was established by the Companies (Audit, Investigations and Community Enterprise) Act 2004 and the Community Interest Company Regulations 2005, using, as their basis, a variant of company law to provide a vehicle for pursuing social enterprise goals. The social enterprise sector is diverse and the Government acknowledge the need for a range of different legal forms to sustain it. Alongside IPSs, the community interest company will offer greater choice and opportunity for social entrepreneurs. But the introduction of that new legal form most certainly does not mean that the Government intend to leave IPSs to wither on the vine—not least because the IPS tradition of democratic member engagement is particularly appropriate to those forms of social enterprise where stakeholder involvement is key. The two instruments that I am laying today provide further testimony that we see a continuing role for IPSs.

I now turn to the instruments in more detail. The first will give community benefit societies the option to apply a lock on the value of their assets. That asset lock aims to allow community benefit societies to close off the possibility that assets accumulated during their lifetime for the benefit of the community might be distributed to private individuals, following a vote on conversion to a company. The instrument requires that where that option is taken up, a society's locked assets must be transferred to another body with an equivalent asset lock, should the original society convert.

The aim of this proposal is to provide members with the certainty that their investments will be used for the benefit of the community—a certainty that should serve to promote the growth of the community benefit sector. This is particularly important because the community interest company, which I mentioned earlier, already has an asset lock built into its legal form. So unless action is taken to allow community benefit societies a similar option, those wishing to invest for the benefit of the community may well turn to community interest companies instead. This instrument takes another important step towards ensuring a level playing field between societies and other bodies.

Respondents broadly agreed with the proposals following the consultation document published last July. Two of the key issues in the consultation document were which community benefit societies should be allowed to apply an asset lock and how the asset lock should be regulated. As to the first, we propose to exclude registered social landlords who have incorporated as IPSs, as well as charitable industrial and provident societies. This is because both types of community benefit societies are already subject to restrictions on the use of their assets through compliance with housing law and charitable law respectively. Consultation respondents broadly agreed that allowing these types of bodies also to apply the asset lock that is being introduced today would lead to unnecessary confusion and duplication.

As to how the asset lock should be regulated, consultation respondents were asked to consider whether a light-touch approach or a more rigid framework was more appropriate. There was a clear preference for a light touch, and the Government agree that this is the more sensible way forward. Given both the democratic ethos inherent in community benefit societies and the fact that these bodies are traditionally closer to their members than proprietary companies, we believe that members will be well placed to ensure that locked assets are used appropriately. Putting in force a more rigid framework might also impose costs and burdens which relatively small community bodies would struggle to meet. One consultation respondent described the light-touch approach as a "sensible, practical, democratic method", which is a view that we are happy to accept.

However, we have put in place a number of measures to ensure that sufficient deterrents to the misuse of locked assets are in force. The Financial Services Authority, which currently registers industrial and provident societies, has agreed to take on responsibility for overseeing this light-touch approach. Where a community benefit society is considered to be in breach of these asset-lock regulations, we have given the FSA the power to require the society to take all necessary steps to bring that contravention to an end by the issue of an enforcement notice, which is in effect a cessation order. Where an officer of a society has knowingly contravened the regulations, the FSA may require that officer to make restitution to the society. Naturally, I do not expect the FSA to make use of these powers at all frequently, but a deterrent is important, and these measures provide an effective response to any wrongdoing on the part of a society or its officers.

We have worked closely with the FSA on these proposals, and I thank its officials for the help that they have given us. I also thank Co-operatives UK for its help during and since the consultation to ensure that these draft regulations meet the needs of benefit and community societies. These regulations are made under the Co-operatives and Community Benefit Societies Act 2003 and amend the Industrial and Provident Societies Act 1965. They are divided into five main parts. Part 1 provides the citation, commencement and interpretation provisions. Parts 2 and 3 set out how the restriction on the use of assets will apply and how they may be used. Part 4 sets out the enforcement measures, and Part 5 sets out the miscellaneous and supplemental matters.

In more detail, Regulations 3 and 7 set out the purposes for which a society's assets may be used. Regulation 4 and Schedule 1 set out the terms of the "restriction on use" rule, as it is called. Regulation 5 defines the kinds of community benefit society that may have a restriction on use; housing associations and charities already have a restriction and are therefore excluded from these regulations. Regulation 6 provides that the restriction is unalterable, except in certain prescribed circumstances. Regulations 8 to 15 set out the enforcement measures. Regulation 8 requires that enforcement measures should be taken only to the extent necessary to maintain confidence in community benefit societies.

Under Regulation 9, the Financial Services Authority may enforce a restriction on use by issuing an enforcement notice requiring a society to take the necessary steps to ensure that any breach is brought to an end or is not repeated. Under Regulations 10 and 11, an officer of the society who has knowingly breached the regulations can be required to make restitution. The officer may also be removed from their post. Provision is made for warning notices under Regulation 12, decision notices under Regulation 13 and for appeals under Regulation 14.

Additionally, under Regulation 15 the Financial Services Authority may apply to the court for an order restraining a breach of the "restriction on use" and directing an officer of the society to take steps to prevent, or bring to an end, any contravention. Regulations 16 and 17 in Part 5 set out the requirements for the service of notices and together with Schedule 2 set out the modifications to the Industrial and Provident Societies Act 1965.

I will now turn to the second of these instruments, which raises the audit threshold for both charitable and non-charitable IPSs. At the moment, the Friendly and Industrial and Provident Societies Act 1968 generally requires societies to appoint a qualified auditor to audit their end-year accounts and balance sheet. But non-charitable societies can choose to disapply this obligation if their turnover is below £350,000 and their balance sheet total is less than £1.4 million.

There are two reasons why we may wish to raise both of these thresholds. First, the audit threshold for companies is significantly higher and was raised recently by the Companies Act 1985 (Accounts of Small and Medium-Sized Enterprises and Audit Exemption) (Amendment) Regulations 2004 (SI 2004/16). Taking action here will create a more level playing field by ensuring that smaller IPSs are not required to pay more in auditing fees than equivalent-sized companies.

Secondly, the Charities Bill currently in another place may further increase dis-equality. The Charities Bill will see the auditing threshold raised for all charitable entities, including charitable companies and societies. It would be odd for non-charitable IPSs to be given less regulatory flexibility than charitable societies in this area. The current proposals will not only bring the thresholds in line with companies, but will also provide a degree of future proofing. There is a good case for raising the audit threshold for non-charitable societies so that it becomes—and stays—higher than that for charitable societies.

This raising of the audit threshold for non-charitable societies will mean that IPSs should be able to save significant costs. A regulatory impact assessment estimated savings for an individual society of around £2,000, which, across the whole sector, could mean as much as £2.4 million being saved. IPSs that wish to continue to have their accounts audited, for example, as a way of enhancing their reputation and reassuring investors, will, of course, continue to be able to do so. But those that wish to put the potential savings to other uses—in the same way that smaller companies can—will now be free to opt for that course instead. The Treasury consulted on this proposal in July 2004 and I am pleased to say that there was near unanimous support for raising the threshold. Respondents clearly agreed that a level playing field is both appropriate and desirable in this area.

I will now go through the statutory instrument itself. As noble Lords will see, it uses for the first time what has become known in the sector as the Gareth Thomas power by amending IPS law in line with and following a change in company law. This power was given by the Industrial and Provident Societies Act 2002, which I mentioned earlier.

The order amends the Friendly and Industrial and Provident Societies Act 1968 in as much as it sets out the conditions which must be satisfied for a society to disapply Section 4 of that Act. Section 4 imposes a duty on a society to appoint a qualified auditor to audit its accounts. Article 2 of the order provides that, for a society to be able to disapply Section 4, its assets must not exceed £2.8 million—instead of £1.4 million—and its turnover must not exceed £5.6 million—instead of £350,000. Article 3 provides for the amendments to have effect in relation to any year of account ending two months or more after the coming into force of this order. Copies of the consultation document on these instruments, the summary of responses and the regulatory impact assessments are available on the Treasury's website.

Looking forward, the Government will continue to work with the sector to enable IPSs to fulfil their potential. But to provide for a more strategic and co-ordinated approach, we plan to wait until the major overhaul of company law that is currently in train has been completed before considering whether further action needs to be taken on IPS law. This will enable us to consider what, if any, further steps need to be taken to maintain the more level playing field between IPSs and companies, which the measures we have been discussing today have been designed, in part, to achieve. It will also provide stability, something that is particularly important to smaller societies, which may not have the resources to deal with ongoing legal change. But in the short term, I hope that we can agree that much has been done already and much is being done now. We have taken significant steps forward in updating IPS law. I hope that those in this House who recognise the importance of the contribution that mutuals make to this country will welcome these proposals. I beg to move.

Moved, That the draft regulations laid before the House on 12 December be approved [14th Report from the Joint Committee].—(Lord McKenzie of Luton.)

Photo of Lord Howard of Rising Lord Howard of Rising Deputy Chief Whip, Whips, Shadow Minister, Treasury

My Lords, I thank the Minister for his kind remarks and for easing my debut on this occasion. I thank him for the introduction of the regulations and the order, with which we on these Benches broadly agree. The support of community and friendly societies is to be welcomed. No doubt the ability to restrict assets to the purpose for which they were intended could be helpful in attracting new members.

Will the Minister please clarify whether the asset lock is reversible should there be a genuine and overwhelming wish on the part of the members so to do? The Financial Services Authority already has many responsibilities. It is to be hoped that it will take the necessary time and trouble to create regulations for this sector which are simple and easy both to understand and to operate; a light-handed approach rather than overkill. The Financial Services Authority has also been given powers to impose penalties in the event of breaches of regulations. Does the Minister think it is wise to give the FSA a free hand when some argue that its record in this field does not bear scrutiny?

I am told that systems have been improved but the FSA has an unenviable reputation for imposing disproportionate fines for the most trivial offences. The Financial Services Authority disciplinary procedures have only once been examined by an outside body. That was in the matter of the Legal & General company where the Financial Services Authority's internal appeal rejected Legal & General's case. Legal & General appealed to the Financial Services Tribunal, a process available only because of an amendment introduced in this House by my noble friend Lord Saatchi. The company was shown to be substantially correct and the Financial Services Authority wrong. The costs of making an appeal of this nature would not normally be available to those looking after a community benefit society.

With regard to the order, I agree that any step which reduces the present level of regulations is to be welcomed. However, if it is appropriate for non-charitable friendly and industrial and provident societies not to have their accounts audited when their turnover is below £5.6 million, might it be sensible for charitable friendly and industrial and provident societies and charities to have the same level of turnover below which accounts need not be audited, rather than the £500,000 proposed in the Charities Bill? I hope that the Minister can offer some answers in his response and I am pleased otherwise to agree to the two measures.

Photo of Lord Newby Lord Newby Spokesperson in the Lords, Treasury

My Lords, we on these Benches agree wholeheartedly with the Minister on the importance of co-operative and community benefit societies. Like him, we have watched with interest as over recent years the sector has transformed itself and is now undertaking a wide range of new activities. The original founders of the co-operative movement and the original members of community benefit societies would have been amazed at the thought of football and rugby clubs being administered under the same provisions in which they thriftily undertook their activities. But it is a sign of the flexibility of the concept that it has been able to adjust to modern times.

Given that these co-operative and community benefit societies now see new areas of growth, it is extremely important that the legislation regulating them is appropriate and, in particular, is updated regularly. Indeed, it is noticeable that it has taken some time for these orders to come before the House. They relate to Bills which were passed in 2002–03—the asset lock mirrors the provision in the community interest company legislation—so it is a pity that the Government could not bring these provisions into force in parallel with the provisions in earlier legislation, rather than leaving it.

I understand what the Minister has said about why the Government have decided to exclude registered social landlords from the asset lock, but I would welcome his assurance on one point. If a registered social landlord decides that it wishes to transfer its assets to a straightforward commercial landlord under existing legislation, what prevents it from doing so? As your Lordships may be aware, earlier this week in your Lordships' House, I referred to the status of some of the Octavia Hill estates in London, some of which have already been transferred to a joint venture between a commercial and a registered social landlord. It is clear that rents will rise in many cases to market levels where they were not at market level before. What was previously social housing is likely to end up within a number of years as being, in effect, not social housing. Given demand pressures on the social housing sector and incentives for any registered social landlord to sell assets, I would welcome any further underpinning of what the Minister has said about the asset lock already.

I agree with the decision that the FSA should be the regulator. I do not know who else could logically do it. The phrase "light touch" in the same sentence as FSA causes one or two eyebrows to be raised slightly quizzically, but the FSA has attempted, against its better judgment almost, to adopt a lighter touch in recent times. On the level of fines and penalties, the noble Lord, Lord Howard, said that some people think that their fines are too onerous. Others have argued that they are not onerous enough. So this may be a case where the FSA has broadly got it right. However, given that its whole raison d'être and remit is to manage financial services providers, it is logical that it should deal with these forms of society.

The audit order seems to be eminently reasonable. Finally, the Minister said that IPS law would be reviewed in the light of the new companies Bill. Can he assure us that that will be done speedily and—I finish as I began—that the regulations affecting these societies will be brought into line with latest practice affecting other bodies in the corporate world?

Photo of Lord McKenzie of Luton Lord McKenzie of Luton Government Whip, Government Whip

My Lords, I am grateful for the support given to the two orders by both Benches opposite. I shall try to deal with some of the questions that have been raised. The noble Lord, Lord Howard, asked whether the asset lock is reversible. It is not. There was discussion of the FSA's role; I am pleased that we are agreed that the light touch is an appropriate way forward. The FSA has a duty to maintain confidence in community benefit societies and must exercise its powers for this purpose. It cannot impose penalties, but it can require restitution. There is an opportunity to appeal to the High Court for a decision against the FSA. The consultation that took place on a range of matters associated with these orders showed increased satisfaction with the FSA.

The noble Lord, Lord Newby, asked specifically about RSLs, acknowledging that they are outside the asset lock provided for in these orders. I think that he was pressing for further specific detail as to the nature of the current asset lock. I cannot give the noble Lord any specific detail here and now; I know that it is an issue he has pursued in another area. They would, of course, be able to transfer assets to a community benefit society that did have an asset lock, but I cannot say to what extent they can transfer outside arrangements that have an asset lock. The import of these orders is that there are restrictions on that, otherwise it would have taken us down the path of including RSLs in the orders.

As regards updating company law, an exercise is under way to review the amendments introduced into the Company Law Reform Bill and to identify what can usefully be used to amend IPS law using the power contained in the Industrial and Provident Societies Act 2002. It is difficult to give a commitment to a time scale, particularly having sat through two sittings only so far of the Committee stage of the Company Law Reform Bill. That itself is going to be quite an extended process. The point about the need to make progress on that is well taken.

The issue of the different thresholds applicable—or to be applied—to audit cut-offs was raised. We obviously cannot comment on what the outcome of the Charities Bill might be; it is still going through the process. The objective is to align—as this aligns non-charitable IPSs with non-charitable companies—the charity sector so that charities are on a level playing field. At the moment there is disparity but we recognise that charities should be subject to a higher standard of audit than commercial and other societies. I think that that has long been accepted as a principle.

I hope that that has dealt with each of the points raised. I am, again, grateful for the support given. In conclusion, these two statutory instruments take important steps forward. Not only do they contribute to creating a more level playing field between IPSs and companies but, even more important, they will enable these societies to continue to play their valuable role in our economy and society. We are keen for the sector to grow and flourish. These two instruments will help to drive that agenda forward. I commend the order to the House.

On Question, Motion agreed to.