Finance—Public & Private

Building Societies and the Public

TILE recent announcement by the Abbey Road Building Society temporarily limiting the amount that can be invested in its shares to £1,000, any excess being auto- matically placed to deposit account, furnishes fresh evidence of the great prosperity of building societies and of the great public confidence reposed in thein. To have more money thrust upon one in these days than can be utilized is a phenomenon deserving of, attention. Building societies are lending at the rate of 2240,000 per day and yet are unable to use all the capital offered to them. Their total assets exceed £312,000,000.

These figures are the more remarkable because it has been asserted that in a sense building societies are theoretically based on unsound premises. The assertion is based on the fact that they accept from investors funds on the enormous scale indicated on the undertaking that they shall be repayable on demand or short notice and thereupon lend the money to borrowers for long periods. In practice, building societies have proved to be—the bigger ones at any rate—safe repositories of the public's cash, and while confidence in them is undisturbed and they continue to be managed on their present careful lines no safer concerns could be desired. But there is the lurking danger of a general demand for prompt repayment which could not be met. In some cases this danger has been recognized, and countered by the simple stipulation that in the event of demands for withdrawal exceeding the cash available they may be paid in rotation, depositors, of course, taking pre- cedence of shareholders.

DESIRABLE PROVISOS.

Anyone contemplating entrusting money to a building society, either by way of shares or deposit, should inquire whether this simple proviso applies. The societies natur- ally make a great point of the freedom to withdraw at any time without loss or depreciation of capital, and the reservation of the right to postpone withdrawal may seem a serious impairment of the privilege but the dis- advantage is more apparent than real. In 'normal conditions withdrawal would be at once permitted ; in abnormal conditions postponement assures safety of capital, which should be the first consideration.

Provided the risk of a "run" is guarded against, little doubt need be felt about the financial stability of the leading building societies. Their funds are loaned on mortgages on either freehold or leasehold house or shop property, principal and interest being repayable by fixed equal monthly instalments spread over a period ranging in some cases up to twenty-five years. The amount advanced, it is true, represents a larger proportion of the surveyed value or purchase price than an ordinary mortgagee would deem prudent and fears are sometimes expressed that this may lead to many losses. By Act of Parliament building societies have to publish a schedule of properties of which possession has been obtained and a glance through their reports shows how rarely is such action necessary.

PROTECTIVE MEASURES.

In considering the sufficiency of the margin put up by borrowers for the protection of the society it has to he remembered that each monthly instalment reduces the amount of principal outstanding. This continuous process of redemption operates to cover any depreciation

the value of the property. If there is early default by the borrower there can have been little time for deprecia- tion, and the original margin should suffice to enable the lending society to realize the property without loss. The longer default is delayed the less will be the outstanding principal to be recovered. In the case of a short term loan the amount redeemed each month would be greater than in the case of a long term loan, and in considering the proportion of the value to be advanced the societies naturally take into account the length of the term of the loan. Thus either way the lending society is adequately secured.

(Continued on page 234.)

Finance—Public and Private

(Continued from nage 232 The chief danger is a sudden fall in the value of house property. The prices of houses, like those of commodities, vary according to the law of supply and demand. Houses cannot be constructed quickly, and 'therefore no rapid and unexpected expansion in their number- can take place. The demand for them is regular and progressive, and can be gauged with fair accuracy. Building societies, by the nature of their business; are more closely in touch with the homiog situation than any other section of the com- munity, and they would be the first to detect any sign of oversupply z nd modify their policy accordingly.

MORTGAGE LOANS.

Moreover, their loans comprise mortgages of differing ages, from newly granted loans to those on the point of complete redemption. Let us assume the original average duration of the mortgage periods to be 15 years and the original amounts advanced as 80 per cent. of the value (assumptions that probably overstate the case), and that the periods remaining arc equally spread over fifteen years, that is to say, the number of mortgages for any remaining period of from one to fifteen yearsis one-fifteenth of the whole.

Loans up to two-thirds of the original value of the mortgaged property are generally accepted as being reasonably secured. It will take less than four years for the monthly instalments to reduce an original advance of 80 per cent. to two-thirds of the full original survey value. On the basis of the assumptions in the preceding paragraph, then, it may be reckoned that approximately three-quarters of a building society's mortgages are well Protected against any probable decline in property values. About 25 per cent. of the other quarter are close to the safety limit, and the remainder arc steadily moving towards it.

THE INVESTOR'S STANDPOINT.

From the point of view of security, an investment in building societies should satisfy the cautious, always with the proviso mentioned in the early part of this article. The weakness there indicated is really a defect of quality, for building societies' shares carry the almost. unique feature of being repayable at short notice. Thus, they arc not subject to depreciation ; on the other hand, being always on tap, or, in other words, available for issue in any quantity up to £5,000 per individual (except for the special limitation referred to at the beginning of this article) they cannot appreciate in value. To call them shares is perhaps misleading, for they are unlike the more familiar shares of joint-stock companies, though their capital liability is limited in the same way. A share in a building society is really a deposit with par- ticipating rights in the profits.

INCOME YIELDS.

We can now turn to study the investment from the income yield aspect. Here, again, it possesses another unique feature, for building societies are specially favoured in the matter of Income Tax, and dividends on their shares and interest on their deposits are paid free of tax. Under the Building Societies Act the amount that can be received by a building society upon deposit or loan is limited to two-thirds of the amount for the time being secured to the society by mortgages. Some societies further restrict the total amount of their deposits to one-third of the amount loaned on mortgage. From this it will be seen that deposits are particularly well secured. They are repayable in full at short notice and in normal circumstances most societies waive any notice. The rate of interest usually allowed is 4 per cent. free of Income Tax, equivalent to £5 3s. 3d. per cent. gross, taking tax at 4s. 6d. in the £.

Shares, as already stated, are also repayable at short notice, and. even this will ordinarily be dispensed with in urgent cases. The dividend paid upon them depends on the profits earned. The profits are derived from the interest charged on the mortgage loans and so regular are they that for many years past the common rate paid by the leading building societies has been 5 per cent. free Of tax, equal to 16 Os. per cent. gross on the basis of tax at 4s, 6d. in the £. This is a very high rate, considering the - security, for those who are liable to tax at the standard rate. Those persons who are rated on a lower scale of tax should note that they are not entitled to claim a refund of tax on the dividends or interest paid by building societies, find in their case the gross yield is less than .£6 9s. per cent:

In conclusion, it may be said that if any doubt is felt about the security, the capital invested can be insured in a first-class insurance office at a trivial premium, thus making it as safe as is humanly possible. SCRLITATOR.