A week is a long time in politics: update on the Crown Guarantee of Deposits Scheme

Friday 17 October 2008

Just three days after announcing the Crown Guarantee Deposit Scheme, significant changes were made this week to address concerns of industry participants.

It seems inevitable that the Government will make further refinements over coming days as officials move to ensure that the Scheme minimises artificial distortions in the market and that less prudent institutions do not benefit at the expense of the prudent. 

For those on the borderline of qualifying for the Scheme, it may mean a frustrating wait-and-see period as officials work through the finer details.

Latest changes

The recent changes have separated those institutions which can benefit from the Scheme into three classes – banks, non-bank deposit takers (NBDTs) and collective investment schemes.  Each will have a separate form of guarantee.  The form of guarantee for collective investment schemes has yet to be produced. 

Banks

The Scheme’s approach to banks appears to be fairly stable.

The distinction between locally incorporated banks and overseas banks operating through New Zealand branches has now been effectively removed.  Deposits by non-residents in branches of overseas banks will now also be guaranteed whereas previously just residents were protected.  However, this guarantee will be limited to the amount of deposits at 12 October 2008, with allowance for a further 10 percent increase in deposits per year.

Non-Bank Deposit Takers

The deed covering NBDTs contains significant ongoing obligations, which will not apply to banks, including:

• limiting their ability to enter into transactions with related companies and to pay dividends;
• requiring business to be conducted in a proper, businesslike, efficient and prudent manner;
• allowing the Crown to appoint an inspector; and
• giving the Crown the ability to impose direct obligations on directors to ensure compliance with the company’s trust deed and an increase in reporting requirements.

Clearly, these moves are intended to impose tight controls on NBDTs which seek to benefit from the Scheme and give the Crown a far greater ability to withdraw the guarantee if an NBDT fails to comply.

Changes have also been made to redress the initial imbalance which saw banks having to pay for the Scheme and others getting it for free. Companies with a rating of BB or lower will now have to pay a fee of $30,000 for every extra $1,000,000 of deposits over the level of deposits as at 12 October 2008.

New companies seeking to join the Scheme must have a rating of BBB- or better. It also now seems clear that finance companies, currently in default, which successfully rehabilitate via a moratorium will have to meet the BBB- threshold to access the Scheme.

Collective Investment Schemes

It appears that a collective investment scheme will be entitled to join the Scheme if it invests solely in:

• government debt; or
• any securities issued by institutions subject to a government guarantee (it is unclear whether this means an NZ government guarantee or any government guarantee); or
• debt of non-bank guaranteed institutions (again, the identity of the guarantor remains unclear).

Deposits in collective investment schemes will only be guaranteed to the level held at 12 October 2008.  This move is an attempt to maintain parity for managed funds which effectively offer deposits (such as fixed interest or cash funds).

What remains unclear

• Just what is an NBDT?  The best we can say to date based on published materials and discussions with officials is that an NBDT is an entity which:
  
  
  • carries on the business of borrowing and lending, or provides financial services, or does both; and
  • issues debt securities (unit trusts will be dealt with under the Collective Investment Scheme guarantee); and
  • predominantly carries on business in New Zealand.
• The range of collective investment schemes which will benefit remains to be clarified. This clearly has the potential to create a shift of investor funds from managed funds to guaranteed deposits.
• The guarantee does not extend to depositors who are “financial institutions”.  It is unclear how this will be applied where a deposit is made by a financial institution on behalf of an individual.  For example, a statutory trustee company holding deposits as executor of an estate or a financial institution holding investor cash in a nominee account. In each case, the legal depositor is a financial institution and therefore not entitled to benefit.  However, the beneficial owners of the deposit are individuals who clearly should benefit.  In our opinion, the only way to give effect to the policy underlying the Scheme is to recognise the beneficial owner of the deposit.
• For unrated finance companies and collective investment schemes, will rollovers of existing deposits “count” as an increase in the deposit base for the purposes of the Scheme?  Arguably, rolling a deposit which would have matured constitutes a new borrowing and therefore is not entitled to the benefit of the guarantee (unless, in relation to an NBDT, it pays the guarantee fee).
• What steps, if any, will be taken to support wholesale borrowings by banks?  These borrowings are guaranteed under the equivalent Australian scheme which puts the New Zealand banks at a significant disadvantage as they seek to access international capital markets.
• How NBDTs will practically manage the overlap between restrictions under Trust Deeds and the new restrictions in the NBDT guarantee is yet another obstacle. For example, the restriction on related party transactions in the guarantee is likely to be significantly tighter than the equivalent provisions in Trust Deeds.

We expect further information to emerge early next week and will circulate a further update at that time.

 

For further information please contact:

Murray King
Partner

David McPherson
Partner

Jonathan Ross
Partner

David Craig
Partner

Hugh Kettle
Partner