Community Interest Company (Amendment) Regulations 2014

Lord Hodgson of Astley Abbotts Excerpts

Monday 21st July 2014 Grand Committee

[Baroness Neville-Rolfe (Con)]

My Lords, the Government believe that it is important to encourage the growth of what, for brevity, I will call CICs limited by shares. We want to attract social entrepreneurs who seek a vehicle for social enterprise but also require some return on their investment. CICs limited by shares are the way to do that and are one of this country’s most successful forms of social enterprise. The existing regulations contain unnecessary restrictions that limit dividend payment. At the moment, a director with a single share with a par value of £1 will receive a maximum of only 20p dividend payment, regardless of the level of profit made, or if the actual value of the shares has risen to £100. It is our intention, with these amendment regulations, to make it easier for investors to share in the success of a CIC.

The purpose of these regulations is to remove the share dividend cap—a statutory restriction on the amount of dividend that the directors of a community interest company may pay investors. CICs were introduced by statute in 2005, creating a new type of company for social purpose. The CIC is increasingly the model of choice for many social entrepreneurs, and since the legislation came into force, more than 9,300 social entrepreneurs or social enterprises have chosen to register as community interest companies, and numbers continue to grow year on year.

The CIC is a unique form of company. A CIC must be set up to benefit a particular community, and cannot be used solely to make a profit. CICs carry out a wide range of activities, but they take in sectors such as health and social care, including NHS spin-out social enterprises, environmental business support, addressing cultural needs and running community cafes and centres. At the core of every CIC is its community benefit.

One of the key characteristics of a CIC is its asset lock. The asset lock applies to all CIC models and requires the company to use its assets to achieve its objectives in the interests of the community. Two forms of CIC predominate: there is the company limited by guarantee, where there is no private gain; and the company limited by shares, where there are limits on the amount of profit that can be distributed in share dividends to shareholders. These limits are one aspect of the asset lock.

In 2010, changes were made to the legislation to simplify the application of the asset lock with regard to share dividend caps. These measures simplified the process of applying and managing the caps, but in 2012 a review of these changes by the CIC Association, an independent support organisation for CICs, together with the regulator of community interest companies, revealed that further action was needed, as the caps remained a barrier to investment and to taking up the share model.

There are currently two separate caps on the amount of dividend that the directors of the CIC can declare. The first limit is the share dividend cap, which prevents directors from declaring more than 20% of the paid-up value of a share. The second limit is the aggregate dividend cap, which prevents directors from declaring more than 35% of the profits of a CIC as dividends in any financial year.

These regulations today remove the share dividend cap completely, while retaining the aggregate share dividend cap. This change will make it simpler for CICs to declare dividend, encouraging investment in, and ultimately the growth of, CICs.

The changes we are making today have been fully consulted on and are supported. Last year a consultation was carried out jointly by the CIC regulator with HM Treasury, which was consulting on tax relief for social investment, where CICs are one of the specified models for investment. The joint consultation was a good example of collaboration between departments, and in both cases resulted in introducing new measures that would benefit CICs. The consultation showed that CICs found the so-called double cap confusing, difficult to work with and, frankly, unnecessary.

There is also evidence that the existence of the double cap put off founders of CICs from using a share model at all, instead creating a company limited by guarantee. This choice naturally inhibits the ability of a CIC to seek investment and to bring in share capital.

I hope to reassure noble Lords that the asset lock, which is a key feature of the CIC model, will not be compromised by these measures for the following reasons. First, CICs will still be able to distribute only 35% of their profits in share dividends, and the peg to the paid-up value of the shares will be retained in relation to redeeming or buying back shares by the company.

Secondly, the cap on performance-related interest will remain, although the regulator intends to increase this from 10% to 20% to encourage investment further, which can be done under her own powers.

Thirdly, CICs will continue to be required to report annually to the regulator on their activities and on the distribution of dividends.

The measure in these regulations, together with the changes to the performance interest rate being made by the CIC regulator, will, we hope, encourage growth in CICs. This is particularly desirable in light of the announcement by HM Treasury to introduce social investment tax relief in December 2013. These changes combined are expected to have a very positive impact on existing CICs, as well as encouraging social entrepreneurs to use this company form in new ventures.

These regulations will make it simpler for CICs to operate, and make them more accessible and attractive to investors while retaining the important elements of the asset lock and serving the needs of the community for which the CIC was established. I commend them to the committee.

[Lord Hodgson of Astley Abbotts (Con)]

I begin by adding my congratulations to my noble friend on her new role, and congratulate her on having so far descended the crest unscathed. Her officials certainly gave her—or parliamentary procedure gave her—a good mixture to begin with, starting off with IP, proceeding to employment regulations and now to company law.

I declare my long interests in the charitable world. As my noble friend Lord Wallace of Saltaire knows, I conducted the Government’s review of the Charities Act, and I have an interest in how CICs and the charitable sector work together. I do not oppose these regulations, but I would like just to draw attention to a potential danger. Then I have one specific question to which I would appreciate clarity from my noble friend.

We have a broad spectrum of organisations. We start at one end with limited companies, commercial companies, with which we are all familiar, and at the other end we have charities, which are severely and properly legally restricted. Everything has to be done by them for the public benefit. To fail to do so is breaking the law and opens the trustees to the full force of that law. Between those two extremes—limited companies at one end and charities at the other—there is an increasing number of corporate forms, one of which is the CIC. There are also community benefit societies—bencoms, as they are called—we had better have some new regulations for them; industrial provident societies; social enterprises that are not CICs; companies limited by guarantee that are not CICs; mutuals; charitable incorporated organisations; and CICs themselves.

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[The Deputy Chairman of Committees (Lord Geddes) (Con)]

The noble Lord, Lord Hodgson, was in full flow. Perhaps he would like to resume.

[Lord Hodgson of Astley Abbotts]

I thank the Lord Deputy Chairman. I was just concluding my first general concern about the regulations, which is that we are in danger of creating such a multiplicity of corporate forms that the public become concerned. As such, if we have scandal or difficulties in these intermediate categories, that may undermine the public trust in proper, full charities which are already under some pressure because of other issues such as executive salaries, aid to extremists and so on. I was saying to my noble friend that I very much hope that she will be robust in the maintenance of the asset lock, otherwise that would open up a significant whittling away. I hope that as the Government think about reforms in this area they will bear in mind the need to keep as clear a differentiation as possible and to explain it to the public. That is my general concern.

On my specific question, I turn to a point that my noble friend raised in her opening remarks about the change being made by the regulator to raise the performance rate of interest rate payable from 10% to 20%, which is in paragraph 8.3 of the Explanatory Memorandum. I understand from my noble friend’s remarks that this can be done by the regulator off her own bat. I seek an explanation of what this actually means. I understand what it says on the tin, but does that mean that it is inside the tin? If I understand it, it means that if I were to lend some money to a CIC and was able to arrange with the management that some performance-related criteria could be set—and I might seek that they be set in a way that was reasonably favourable to me—I could then get a 20% performance-related interest rate payable.

I may be completely wrong, in which case I am delighted to withdraw that view, but if I am right that does not seem to be a very happy state of affairs. A 20% rate of interest is high. The regulator should have control over the performance criteria that enable such a rate to be set, but it seems unlikely that that could happen without a high degree of bureaucracy. As the Minister knows, 20% in today’s markets is an extraordinarily high rate of interest, when the base rate is as it is. Indeed, it is nearly the APR that you are charged on overdue bounces on your credit card—about 22% or 23%—which everyone is saying is close to usury and that it is disgraceful that people should be charged such a rate.

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[Baroness Neville-Rolfe]

Perhaps this is the question that the noble Lord kindly repeated for me, twice. I fear that I still found—

[Lord Hodgson of Astley Abbotts]

Perhaps I may be of assistance to the Minister. There is a limit of 35% on the amount of total profits that can be distributed; therefore, how they are distributed among the shares does not matter. Presently, the individual share dividend cap is linked to par value. The par value of shares can vary enormously—you can have a pound par or a penny par. Therefore, 10% of that is an irrelevant figure. What is important is that they should not be able to pay out more than 35%. How it is paid out among the shares does not matter. The important thing is to make sure that not all the profits will be paid out. If the officials have not got that wrong, I will shut up.