Dunfermline Building Society Compensation Scheme, Resolution Fund and Third Party Compensation Order 2009

I shall speak also to the Amendments to Law (Resolution of Dunfermline Building Society)(No. 2) Order 2009. Before discussing the draft compensation order, perhaps I may explain why the Treasury took the decision to withdraw the draft instrument laid before Parliament on 4 June and to re-lay it on 15 June. A very minor error was identified in paragraph 7(5) of Schedule 1 to the original draft order; the reference to "properly or reasonably" should have been to "properly and reasonably". We did not consider that it was appropriate to correct this error using the correction slip process, so withdrew and replaced that draft order. I apologise to the Committee for that slip. As noble Lords will be aware, the Dunfermline Building Society was resolved on 30 March by the Bank of England effecting a transfer of part of Dunfermline’s business to Nationwide, and part to a bridge bank. Dunfermline was then placed in special administration following an application to court. Where the Bank of England exercises its property transfer powers, the Treasury is required under the Banking Act to put in place compensation arrangements. The draft order that we are debating today makes provision: for the compensation scheme, at Part 2, in relation to the transfer of business to Nationwide; the resolution fund, at Part 4, which makes provision for entitlements to the proceeds of resolution arising from the disposal of the business of the bridge bank; and the third party compensation provisions, at Part 5, which provide for the mechanism for assessing any compensation payable to third parties affected by each transfer and establish the scheme for assessing any compensation payable under the "no creditor worse off" safeguard. I will briefly overview these components. First, the draft order specifies that compensation payable to Dunfermline in respect of the transfer of the business to Nationwide should be nil. As the Committee will be aware, the basic principle under Article 1, Protocol 1, of the European Convention on Human Rights is that compensation for expropriations of property must normally bear a reasonable relation to the value of the property expropriated. The auction process conducted by the Bank during the weekend of 28 to 30 March effectively determined that the market value of the business was nil because the winning bidder did not pay any consideration. Therefore, the Treasury does not consider it appropriate to engage a valuer to assess the value of the business, and has exercised its discretion under Section 49(2)(a) of the Banking Act to specify in the order that the compensation payable is to be nil. Secondly, the draft order makes provision for the arrangements for the resolution fund in relation to the transfer of business to the bridge bank. The fund is intended to act as a signal that the authorities do not intend to profit from the resolution. Lastly, the third-party compensation scheme makes provision for an independent valuer to determine two things. The first thing to be determined is the amount of any compensation payable to any third party affected by an application of Section 38(6) of the Act—that is, the section that specifies that the property transfer instrument made by the Bank is to be disregarded in determining whether a default event provision applies and has the effect of turning off third parties’ contractual termination rights. The valuer will also assess whether there is a difference between the treatment that pre-transfer creditors of Dunfermline would have received had Dunfermline gone into insolvency immediately before the transfers, and the actual treatment of those creditors arising as a result of the transfers. This is the "no creditor worse off" safeguard, which makes provision for the valuer to assess whether it is necessary for the Treasury to pay any compensation in the event that pre-transfer creditors are left in a worse-off position as a result of the transfers. I shall touch on the appointment process of the independent valuer. In January this year I made a commitment in Committee on the Banking Bill, which we will all recall vividly, about the extent to which the appointment of the valuer would be independent of Government. I said, as reported in Hansard: ""At every stage, the Government have been at pains to ensure that the Treasury is one stage away from decisions that relate crucially to the appointment, performance and remuneration of the independent valuer".—[Official Report, 19/1/09; col. 1478.]" The draft order provides for the Treasury to set up an appointment panel to appoint the independent valuer. Unlike the appointment process for the valuers appointed to conduct functions under the Northern Rock and Bradford & Bingley compensation schemes, the panel will appoint the valuer rather than making a recommendation to the Treasury about the candidate to be appointed. We consider that this further enhances the already robust independence of the appointment processes that we have put in place in previous circumstances. The second order, the Amendments to Law (Resolution of Dunfermline Building Society) (No. 2) Order, has been laid in draft under the powers in Section 75 of the Banking Act 2009, which enable the Treasury to make amendments to law so as to give effect to resolutions of failing banks. As all Dunfermline’s member business was to be transferred to Nationwide, the Bank’s property transfer instrument was drafted so as to transfer all Dunfermline’s business to Nationwide with the exception of certain property, rights and liabilities specified in the instrument. In particular, Dunfermline’s £660 million commercial loan book was not to be included in the transfer to Nationwide. However, due diligence undertaken in the weeks following the transfer demonstrated that the technical definitions adopted in the property transfer instrument led to a significant proportion of the commercial loan book being erroneously transferred to Nationwide, together with a small number of social housing loans. "Commercial loan" was defined in the transfer instrument as a loan to persons who were not eligible claimants under the Financial Services Compensation Scheme, as commercial entities would not normally be liable to compensation under the FSCS. "Commercial mortgage loan" was defined in similar terms. A small number of loans which were considered to form part of the social housing book were also transferred to Nationwide by the transfer instrument. Further due diligence in the weeks following the transfer has identified, however, that a large number of the borrowers on the commercial loan book were in fact eligible claimants under the FSCS rules. That means that the effect of the instrument was to transfer these loans erroneously to Nationwide. The order before the House today identifies each of the loans that is, and was always intended, to remain with Dunfermline by an individual identification number, listed in the schedule to the order. The order has retrospective effect to 8 am on Monday 30 March, the time when the transfer of Dunfermline’s assets was made, and essentially corrects the error in the transfer instrument as though it had never been made. The effect in law is as though the loans had never been transferred to Nationwide. In assessing the options to address the mistake in the transfer instrument, the Bank of England, in consultation with the Treasury, has fully considered all possible commercial and contractual remedies that might have achieved the same effect as the draft order we are considering today. The Treasury is satisfied that use of this order and its retrospective effect is therefore necessary to ensure the completion of the Dunfermline resolution, and desirable so as to limit the call on public funds. Treasury and Bank of England officials have of course discussed the scope and content of the order with Nationwide and the administrators. I merely add the obvious point that we considered at great length whether anything might prove to be retrospective in the Banking Act—I recall the intensity with which that aspect was scrutinised. Here, an error occurred, which is why we are involved in some retrospective activity. I commend the orders.