How safe are building societies?
The near collapse of Dunfermline building society has left a question mark over the perceived soundness of building societies, which have long had a reputation for being safer than banks.
Kevin Mountford, head of banking at moneysupermarket.com, says: "Including Dunfermline's partial takeover by Nationwide, the number of building societies has dwindled from 55 to 50 in the past year. This throws into question the long-held belief that building societies are more conservatively managed and, as such, will be around forever.
"With the Dunfermline, again we have seen the industry taking over the positive aspects of a failed operator while the taxpayer is left holding the rubbish.”
Current protection: banks versus building societies
As with banks, savers with building societies are covered by the Financial Services Compensation Scheme (FSCS). Under the scheme, the first £50,000 per customer per bank is protected in the unlikely event that a bank or building society collapses. The Building Societies Association (BSA) says that no saver has lost money with a building society since at least 1945.
In addition, at the end of 2008, building society savers were offered additional protection. One major flaw in the FSCS is the term "per bank". This refers not to a bank’s brand but to the type of authorisation the institution has with the Financial Services Authority (FSA).
Many banks in the UK are part of the same banking group, and in some cases are regulated by the FSA as one bank. If you have money in several different firms all authorised as the same bank by the FSA, and these failed, then the FSCS would add up all your balances and only refund money up to £50,000.
However, at the end of 2008, the FSA offered some additional protection to building society savers in light of recent merger activity. Unlike banks, societies that merge are legally required to operate as a single entity with just one FSA license. However, from 1 December 2008 until September 2009, building societies that merge will be able to keep their separate compensation limits.
How safe is your provider?
One way to judge a building society's safety is to look at its retail deposits versus its mortgage lending. Ideally, its annual savings income should be larger than its lending outgoings. Also societies that have diversified into more risky lending practices such as sub-prime mortgages or commercial property could be seen as more risky.
Another way is to look at a ratings agency such as Fitch which assesses an institution's financial or operational strength.
The past couple of years have seen a number of takeovers and mergers in the building society sector. As well as Dunfermline, Nationwide has taken over assets of Cheshire, Derbyshire and Portman building societies. This year has already seen Scarborough merge with Skipton Building Society while 2008 saw Yorkshire take over Barnsley and Chelsea take over the Catholic Building Society.
The mergers prompted the FSA to change the legal requirements on how merged societies are authorised by the FSA (see above).
But the consolidation we are seeing across brands isn't doing much for consumers when it comes to competitive rates. Scarborough Building Society, for example, recently removed its savings range.
"Furthermore, building societies have lost their competitive edge over the banks, with the top mortgage and savings deals usually being with a bank now,” says Mountford.
The building societies themselves are reporting record savings figures. According to the BSA, net receipts into building societies were £1,595 million in February 2009, representing the highest February net receipt on record and an increase of 18% over February 2008.
Brian Morris, head of savings policy at the BSA, says: “The record February net receipt of £1.6 billion shows that building societies’ attractive savings products are helping them to compete for deposits. Despite the bank rate being so low people are still keen to save, probably in response to the uncertain economic outlook and reduced job security.”
However the fact that the government refused to bail out Dunfermline suggests that any building society that finds itself in trouble is less likely than a bank to be rescued by the government even if it just needs to borrow millions, rather than billions, to continue trading.
Recent takeovers and mergers
The building society sector has a long history of takeovers and mergers. Below are some of the more recent changes.
Nationwide takes over Dunfermline
Skipton takes over Scarborough
Yorkshire takes over Barnsley
Chelsea takes over Catholic
Nationwide takes over Cheshire and Derbyshire
Nationwide takes over Portman
Newcastle takes over Universal
Portman takes over Lambeth
Leeds takes over Mercantile
All sub-prime financial products are aimed at borrowers with patchy credit histories and the term typically refers to mortgage candidates, though any form of credit offered to people who have had problems with debt repayment is classed as sub-prime. Depending on the lender’s own criteria, sub-prime can apply to borrowers who have missed a few credit card or loan repayments to people who have major debt problems and county court judgments (CCJ) against their name. To reflect the extra risk in lending to people who have struggled in the past, rates on sub-prime deals are typically higher than for “prime” borrowers.
The Financial Services Authority is an independent non-governmental body, given a wide range of rule-making, investigatory and enforcement powers in order to meet its four statutory objectives: market confidence (maintaining confidence in the UK financial system), financial stability, consumer protection and the reduction of financial crime. The FSA receives no government funding and is funded entirely by the firms it regulates, but is accountable to the Treasury and, ultimately, parliament.
The Financial Services Compensation Scheme is the compensation fund of last resort for customers of authorised financial services firms. If a firm becomes insolvent or ceases trading, the FSCS may be able to pay compensation to its customers. Limits apply to how much compensation the FSCS is able to pay, and those limits vary between different types of financial products. However, to qualify for compensation, the firm you were dealing with must be authorised by the Financial Services Authority (FSA).
This is a mutual organisation owned by its members and not by shareholders. These societies offer a range of financial services but have historically concentrated on taking deposits from savers and lending the money to borrowers as mortgages, hence the name. In the mid-1990s many societies “demutualised” and became banks. One academic study (Heffernan, 2003) found demutualised societies’ pricing on deposits and mortgages was more favourable to shareholders than to customers, with the remaining mutual building societies offering consistently better rates. In 1900, there were 2,286 building societies in the UK; in 2011, there are just 51.