FRIENDLY SOCIETIES AND CREDIT UNIONS (REGULATORY IMPROVEMENTS) AMENDMENT BILL

 
FRIENDLY SOCIETIES AND CREDIT UNIONS (REGULATORY IMPROVEMENTS) AMENDMENT BILL
FRIENDLY SOCIETIES AND CREDIT UNIONS
         (REGULATORY IMPROVEMENTS)
               AMENDMENT BILL

         Departmental report to the Finance and Expenditure Committee

                                                  9 February 2018

Business Law Team
Commerce, Consumers and Communications Branch
Ministry of Business, Innovation and Employment
PO Box 1473
Wellington
New Zealand
http://www.mbie.govt.nz
The Chair
Finance and Expenditure Committee

The structure and content of this report
This is the departmental report on the Friendly Societies and Credit Unions (Regulatory
Improvements) Amendment Bill (FSCURIA Bill). It is in two parts and has one annex:
•   Part A discusses the issues that the Committee has sought advice on, namely:
    o   The advantages and disadvantages of providing credit unions with the option of being
        incorporated or unincorporated.
    o   Whether s 101(2) of the Friendly Societies and Credit Unions Act 1982 (FSCU Act), which
        links the powers of a credit union to act with its objects, should be repealed (as currently
        proposed) or retained.
    o   The proposed power for credit unions to lend directly to business enterprises related to a
        member and the potential impact on traditional lending to individual members.

•   Part B provides a clause-by-clause analysis of submissions.

•   Annex 1 provides information about each credit union’s total assets and membership numbers.

Background
The FSCURIA Bill is a member’s bill sponsored by Stuart Smith MP. It was balloted on 13 April
2017, and was referred to the Finance and Expenditure Committee after its first reading on 7 June
2017. It is due to be reported back by 29 March 2018.

The Committee received 20 written submissions representing 24 submitters:
•   one was made by an association of credit unions
•   nine were made by credit unions, including one joint submission by two credit unions
•   three were made by other financial service providers, including one joint submission by three
    building societies
•   three were made by international and overseas credit union or mutual entity representative
    bodies
•   one was made by an individual
•   one was jointly made by two trustee companies that supervise credit unions under the
    prudential regulation regime for non-bank deposit takers
•   two were made by friendly societies.

In addition, 13 of the 24 submitters also made oral submissions to the Committee.

Most submitters support the FSCURIA Bill. One credit union opposes it in part and three credit
unions oppose it in full.

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Recommendations
Part A recommendations
The Ministry of Business, Innovation and Employment recommends that the Finance and
Expenditure Committee:
The legal status of credit unions (clause 14 and several other clauses)
    a) agree to retain the provisions in the FSCURIA Bill that all credit unions shall be required to
       incorporate
    b) should the Committee disagree with recommendation (a) (i.e. decide that credit unions will
       have the option of incorporating or continuing to be unincorporated associations), agree
       that the regime have the following characteristics:
           i. incorporation is the default for the purposes of the transition period. A credit union
              would be required to make an active decision to remain unincorporated by opting out
              of the decision to incorporate
          ii. the rule for deciding to opt out of incorporation will be 75% of the votes of the members
              entitled to vote and voting on the question, or such higher percentage for a special
              resolution required by the credit union’s constitution
          iii. new credit unions applying for registration after the Amendment Act has come into
               force could only be bodies corporate
         iv. include a voluntary conversion mechanism for an unincorporated credit union to
             become a body corporate, subject to the 75% rule
          v. do not make provision for an incorporated credit union to de-incorporate
         vi. the registered name of a credit union must end with “Incorporated” or “Manatōpū”, or
             “Unincorporated” or “Manatōpū Kore”
         vii. in relation to amalgamations and transfers of engagements after the initial one-off
              decision is made during the transition period about incorporation or non-incorporation:
               A.    an incorporated credit union would not be able to transfer its engagements to
                     an unincorporated credit union
               B.    an amalgamation involving two or more credit unions where at least one is
                     incorporated would be an incorporated entity
               C.    where all the parties to an amalgamation are unincorporated, the parties could
                     choose whether the new credit union is incorporated or unincorporated
         viii. do not make the SME business lending provisions available to unincorporated credit
               unions
         ix. in relation to the structure of the amended FSCU Act:
                A.    the new Part 3 of the FSCU Act will be a stand-alone regime that applies to
                      incorporated credit unions
                B.    the stand-alone regime for unincorporated credit unions would be included in
                      a new schedule to the FSCU Act
                C.    provision would be made for the schedule to be revoked in the event that all
                      unincorporated credit unions were to voluntarily convert.
The objects of a credit union (clauses 15 and 24)
    c)    note that the FSCURIA Bill proposes repealing s101(2) of the FSCU Act, which states that
          a credit union shall have no power to take any action or do anything unless that action or
          thing is directly in pursuance of its objects or incidental to them and is authorised by its
          rules or the FSCU Act
    d) agree that s101(2) will be retained in substance, not repealed.

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Loans to businesses related to a member of a credit union (clause 12(3)-(6))
       e) continue to provide for credit unions to make loans to enterprises that are related to
          members
       f)     make the following modifications to the business loan provisions:
             i.    only permit a loan to be made to a trust if the member and/or one or more of his or her
                   immediate family is a beneficiary of 25% or more of the assets of the trust
            ii.    remove limited partnerships from the list of eligible entities
            iii.   remove the 19 FTE employee limit.
Part B recommendations
We recommend changes to the Bill in Part B as follows:
Departmental submissions
The departmental submissions fall into two categories:
Changes that relate to existing content of the Bill
   •        item 303 – correct a typo
   •        item 304 – clarify that the Registrar of Friendly Societies and Credit Unions is not required
            to form any judgment about the quality of rules submitted for registration
   •        item 513 – remove a redundant power relating to deregistering an association of credit
            unions
   •        item 714 – clarify that a credit union may not make loans other than to a member or an
            enterprise related to a member
   •        item 716 – correct a typo
   •        item 717 – aligns certain financial reporting deadlines with deadlines in the Financial
            Markets Conduct Act 2013
   •        item 804 – correct a typo.

Changes that will improve the efficiency and effectiveness of the register
   •        item 701, relating to the requirement for the Registrar to have and use a seal of office
   •        item 702, to require that the Register be maintained electronically
   •        item 703, to provide the Registrar with the power to amend the register
   •        item 704, to remove a redundant section in the FSCU Act referring to a “Revising Barrister”
   •        item 705, to require a credit union to lodge a full set of its rules following every amendment
   •        item 706, so that the Registrar is no longer required to formally acknowledge the
            registration and amendment of a credit union’s rules.

Recommended changes in response to other submissions
   •        item 502 – effectively retain the transfer of engagement and amalgamation processes
            contained in s135 of the FSCU Act, but modified as necessary or desirable
   •        item 507 – reinstate the super-majority requirement (75% of voting members) for approval
            of certain measures in relation to amalgamations, transfers of engagements and
            liquidations
   •        item 514 – reinstate a power for the Registrar to suspend the business of a credit union
   •        item 601 – repeal a provision which, on its face, would appear to prohibit component
            members of a credit union association from also being a member of any industry
            association sharing one or more objects of the credit union association
   •        items 613 & 614 – include an express power for an association of credit unions to provide
            services to non-members where its rules so allow

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•   item 707 – remove clauses that duplicate existing provisions in the FSCU Act relating to
    voting and the means of holding meetings
•   item 802 – align the date for incorporation of all existing credit unions with commencement
    of relevant provisions in the FSCU Act, rather than with the balance date of the credit union
•   items 806-808 – add provisions which confirm that, following commencement, references in
    any statute or document to existing credit unions (or associations of credit unions), or to the
    trustees of existing credit unions are to be construed as if they were references to the credit
    union as a body corporate
•   item 809 – add a provision confirming that the fact of incorporation will not, of itself, trigger
    any action under any statute or agreement
•   item 810 – also apply the credit union-related transitional provisions (clauses 5-9 of
    Schedule 1AA) to associations of credit unions
•   item 908 – add a provision to Part 2 of the FSCU Act (i.e. the part that applies to friendly
    societies) allowing friendly societies that are licensed insurers to issue securities as a
    means of raising capital.

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Part A: Main issues
1. The Committee has sought information and advice on:
        I.      Providing credit unions with the choice to be incorporated or unincorporated.
        II.     Linking the capacity and powers of a credit union (new s107B) to the objects of a credit
                union (existing s101).
     III.       The proposed power for credit unions to lend directly to business enterprises related to
                a member and the potential impact on traditional lending to individual members.
    IV.         Each credit union’s total assets and membership numbers.

2. I to III are discussed below. The data about credit unions appear in Annex 1.

I. Providing credit unions with the choice to be incorporated or
unincorporated
3. We discuss the following issues in relation to the incorporation of credit unions:
    •         the advantages and disadvantages of providing credit unions with the option of remaining
              unincorporated or becoming incorporated (the ‘choice option’)
    •         key regulatory design issues under the choice option.

4. At present credit unions are unincorporated associations. Therefore, they do not have legal
   personality or the ability to hold assets and enter into transactions in their own right. All
   property belonging to a credit union must vest in one or more trustees for the use and benefit of
   the credit union and its members. This means, for example, that the trustees have duties to
   supervise loans made by the credit union, control bank accounts, borrow money and invest
   surplus funds. It is common practice for the trustees to be on the board of the credit union.

5. The FSCURIA Bill proposes that all credit unions and associations of credit unions would be
   required to be incorporated (clauses 14 and 39 respectively). The Schedule (inserting new
   Schedule 1AA into the FSCU Act) describes how existing credit unions will transition to
   incorporation and describes the role of the Registrar of Friendly Societies and Credit Unions.

The advantages of providing credit unions with choice
6. We have identified two main advantages associated with the choice option.

7. First, it can be argued that existing credit unions should not be required to incorporate against
   their will unless there are sound public policy reasons for imposing such a requirement. It is
   difficult for us to provide advice about the weighting that Committee members might give to this
   because it is a subjective argument. To our knowledge, the fundamental principles and values
   of New Zealand law outlined in Chapter 3 of the Legislation Advisory Committee Guidelines
   (2014 edition) do not provide any guidance on this matter.

8. Second, the choice option may facilitate the enactment of the FSCURIA Bill. Although the four
   credit unions that oppose incorporation of credit unions also oppose some or all of the other
   changes, incorporation is the only issue that directly affects them. Other changes, such as
   allowing credit unions to make loans to enterprises associated with a member are facilitative.
   They do not require a credit union to do anything that it does not want to do.

9. It might also be argued that there is a parallel with section 10(c) of the Companies Act 1993,
   which states that a company shall have one or more shareholders having limited or unlimited
   liability for the obligations of the company. However, the comparison is of little relevance. This
   provision only impacts on whether or not the shareholders are liable for an obligation of the
   company by reason only of being a shareholder. Unlimited companies are no different to
   limited companies in other respects, such as having legal personality and perpetual
   succession.

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The disadvantages of providing credit unions with a choice
10. We consider that there are four reasons for not adopting the choice option.

11. First, some of the opposition to incorporation is based on a misunderstanding that incorporation
    is inconsistent with mutuality. There is no inconsistency for the reasons provided in paragraphs
    78-82 of the initial briefing, the attachment to Co-op Money’s submission by Michael Webb and
    the submission made by the World Council of Credit Unions.

12. Second, it will mean that questions no longer need to be addressed as to just what being an
    unincorporated association of members means, the extent to which a credit union is distinct
    from its members, and what powers credit unions have 1. Co-op Money gave an example of
    unnecessary legal costs that consequentially arise in its oral submission to the Committee 2.

13. The main issues relating to unincorporated associations were described by the Law
    Commission in an issues paper in 2011 3:
          The law that governs unincorporated associations is uncertain and unclear. A number of
          inventive legal theories have been developed by both academics and the courts to explain how
          an unincorporated association might have a personality distinct from its members, and might be
          able to own property, and to contract in its own right. None of these theories has ever been
          entirely convincing. For some purposes, however, the law will sometimes recognise an
                                                  4
          unincorporated society as a legal person .

14. Various provisions in clause 24 of the FSCURIA Bill will remove the uncertainties. The relevant
    provisions, which relate to incorporation, limited liability, perpetual succession, and capacity,
    powers and validity of actions, have been copied from the Companies Act 1993. These are
    black letter law provisions, i.e. well-established legal rules that can no longer be subject to
    reasonable dispute.

15. Third, incorporation will promote accountability because the board will be responsible for all
    aspects of strategy, governance and oversight. At present those responsibilities are split
    between the trustees and the board (see paragraphs 44-46 of the initial briefing).

16. Fourth, depending on the drafting option that is adopted, the choice option will either add
    complexity to the FSCU Act or raise serious accessibility to law issues. These options and our
    recommendation are discussed in paragraphs 34-38 below.

An issue without a clear answer
17. We also considered whether one approach or the other might contribute to promoting unity in
    the credit union industry. We concluded that it is not possible to make reliable judgments about
    this matter because all of the following scenarios are plausible:
     •    the divisions will deepen if some credit unions are forced to incorporate
     •    the divisions will become entrenched if there are two classes of credit union
     •    the impact will be immaterial because there are wider issues within the industry.

MBIE’s conclusions
18. We recommend requiring all credit unions to become incorporated because mandatory
    incorporation is better public policy. It will, in particular:
     •    remove legal uncertainty about what it means to be a credit union
     •    unify governance
     •    promote legislative clarity and simplicity.

1
  See Co-op Money’s submission of 20 July 2017, paragraph 39.
2
  Select Committee News, Notes on the Finance and Expenditure Select Committee, 20 December 2017, page 6.
3
  Law Commission, Reforming the Incorporated Societies Act 1908, June 2011, paragraph 1.36
http://www.lawcom.govt.nz/sites/default/files/projectAvailableFormats/NZLC%20IP24.pdf
4
  Interpretation Act 1999, s29: “Person includes a corporation sole, a body corporate, and an unincorporated body.”
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19. Adopting the approach that is better public policy will also increase the likelihood that the
    legislation will endure. It is rare for opportunities to arise to make significant reforms to minor
    statutes because governments almost always have higher priorities. That has been the
    experience in relation to the FSCU Act, Building Societies Act 1965 and Industrial and
    Provident Societies Act 1908. All of those Acts are outdated. There have been attempts to
    modernise them but the work has never been completed.

Key regulatory design issues under the choice option
20. We have identified the following regulatory design issues should the Committee decide to
    adopt the choice option:
    A. Presumption/opt out rules
    B. Whether the choice option will be available to new credit unions
    C. Voluntary conversion after the transition
    D. Transparency about a credit union’s legal status
    E. The impact on amalgamations and transfers of engagement
    F.    The application of the SME lending provisions
    G. Drafting options.

21. Our advice about these regulatory design issues is premised on assumptions that incorporation
    is better public policy and the aim is to do no more than is necessary to meet the concerns of
    the four credit unions that oppose incorporation.

Issue A: Presumption/opt out rules
22. There are two options: to presume that credit unions will be bodies corporate but with the ability
    to opt out, or vice versa.

23. Consistent with paragraph 21, we recommend that:
    a)    incorporation should be the default for the purposes of the transition period. A credit union
          would be required to make an active decision to remain unincorporated by opting out of
          the incorporation provisions.
    b)    the rule for deciding to opt out of incorporation should be 75% of the votes of the
          members entitled to vote and voting on the question, or such higher percentage for a
          special resolution required under the credit union’s constitution. This is the standard
          approach for major transactions under corporate governance statutes.

Issue B: Whether the choice option will be available to new credit unions
24. An issue is whether any new credit union, seeking registration under the FSCU Act after the
    Amendment Act comes into force should be a body corporate or be provided with the choice
    option.

25. Consistent with paragraph 21, we recommend that new credit unions applying for registration
    after the Amendment Act comes into force could only be bodies corporate.

Issue C: Voluntary conversion after the transition
26. This issue relates to whether credit unions should be able to convert from one form of credit
    union to the other after the transition period is over.

27. Consistent paragraph 21, we recommend:
    •    the inclusion of a voluntary conversion mechanism for an unincorporated credit union to
         become a body corporate, subject to the 75% rule referred to in paragraph 23(b)
    •    that no provision be made to enable credit unions to de-incorporate.

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Issue D: Transparency about legal status
28. We consider that there should be transparency about whether a credit union is or is not a body
    corporate, given that this has legal implications for counterparties.

29. A relatively easy way of achieving this would be to require the registered name of a credit union
    to end with “Incorporated” or “Manatōpū”, or “Unincorporated” or “Manatōpū Kore”. This is what
    we recommend.

Issue E: The impact on amalgamations and transfers of engagement
30. As noted under item 502 in Part B of this report, we are recommending that the amalgamation
    and transfer of engagement provisions currently appearing in sections 135-136 of the FSCU
    Act be retained in substance, not repealed and replaced. Under the choice option, there are
    three potential amalgamation and transfer of engagement scenarios. Using the criteria in
    paragraph 21, along with consideration of the need to not impose unnecessary barriers to
    industry rationalisation, we recommend the following:
    •       An incorporated credit union would not be able to transfer its engagements to an
            unincorporated credit union.
    •       An amalgamation involving two or more credit unions where at least one is incorporated
            would be incorporated.
    •       The parties to an amalgamation could choose whether the credit union would be
            unincorporated or incorporated if neither/none of them are incorporated.

Issue F: The application of SME lending provisions
31. A further issue that arises is whether the SME business lending provisions should only be
    available to incorporated credit unions, or also to credit unions that remain as unincorporated
    associations.

32. In our view, the advantages and disadvantages of the business lending provisions (as
    discussed later in this report) are the same for both incorporated and unincorporated credit
    unions. That is an argument for also making the business lending provisions available to
    unincorporated credit unions. Alternatively, if the objective is as stated in paragraph 21 above
    (i.e. that incorporation is better public policy and that the aim is to do no more than is
    necessary to meet the concerns of the four credit unions that oppose incorporation), then there
    is no reason to provide this option to unincorporated credit unions.

33. We consider that the paragraph 21 objective should prevail and recommend, therefore, that
    the business lending provisions should only be made available to incorporated credit unions.

Issue G: Drafting options
34. After consulting with Parliamentary Counsel Office, we set out below, in broad terms, four
    drafting options:
        •    Option (i) – Add a savings provision to the transitional provisions in the Schedule of the
             FSCURIA Bill which provides that, if a credit union opts not to incorporate, the provisions
             of Part 3 of the FSCU Act continue to apply to the credit union disregarding the
             amendments made by the FSCURIA Bill.
        •    Option (ii) – Add an amendment to the FSCURIA Bill that divides Part 3 of the FSCU Act
             into two subparts. Subpart 1 would contain the existing provisions of Part 3 of the FSCU
             Act as amended by the FSCURIA Bill and would apply to incorporated credit unions.
             Subpart 2 would set out the existing provisions of Part 3 of the FSCU Act disregarding the
             amendments made by the FSCURIA Bill and would apply to credit unions that opt not to
             incorporate.
        •    Option (iii) – Insert a new schedule into the FSCU Act which would set out the existing
             provisions of Part 3 of the FSCU Act disregarding the amendments made by the
             FSCURIA Bill and would apply to credit unions that opt not to incorporate. This option is
             essentially the same as option (ii) but with the provisions applying to ‘opt-outs’ in a
             schedule rather than in the main body of the FSCU Act.

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•    Option (iv) – Add an amendment to the FSCURIA Bill that inserts a new schedule into the
           FSCU Act. The new schedule would apply to credit unions that opt not to incorporate and
           set out necessary modifications to Part 3 of the FSCU Act as amended made by the
           FSCURIA Bill. This option is similar to option (iii), except that the provisions applying to
           ‘opt outs’ would not be set out in full but rather in the form of modifications to the
           provisions that apply to incorporated credit unions.
Discussion of the drafting options and recommendation
35. Option (i) will require the least amount of drafting, by a considerable amount. However, it would
    raise serious accessibility to law issues because credit unions that are unincorporated would
    operate under provisions that are no longer in force for an indeterminate time. We do not
    favour option (i).

36. Option (iv) would be complicated, requiring a reader to be looking at two sets of provisions:
    Part 3 of the FSCU Act and the modifications of that Part in the schedule. We do not favour
    option (iv).
37. The advantages and disadvantages of options (ii) and (iii) are very similar. They would both
    overcome the accessibility to law problems associated with option (i), but both would also add
    25 or more pages to the length of the FSCU Act. From a presentational point of view, option (iii)
    is more consistent than option (ii) with the underlying theme of the recommendations in
    paragraphs 23, 25, 27, 30 and 33 above that incorporation should be the default position and
    that the option of remaining unincorporated is essentially a residual right only available to credit
    unions in existence at the time the FSCU Bill comes into force.

38. For these reasons, we recommend option (iii) (i.e. a stand-alone regime for unincorporated
    credit unions in a schedule to the FSCU Act). We consider that option (ii) is the next best
    option.

II. Linking the powers of a credit union to the objects of a credit union
39. The objects of a credit union are described in s101 of the FSCU Act.
          101 Objects of credit union
          (1)    The objects of a credit union shall be—
                 (a) the promotion of thrift among its members by the accumulation of their savings; and
                 (b) the use and control of the members’ savings for their mutual benefit; and
                 (c) the training and education of the members in the wise use of money and in the
                      management of their financial affairs; and
                 (d) at the discretion of the credit union and as a minor adjunct to the other objects set out in
                      this subsection, the welfare of its members and the making of donations for charitable,
                      cultural, benevolent, or philanthropic purposes.
          (2)    A credit union shall have no power to take any action or do anything unless that action or
                 thing is directly in pursuance of its objects or incidental to them and is authorised by its rules
                 or this Act.

40. The FSCURIA Bill provides for the retention of subsection (1) and the repeal of subsection (2).
    In addition, it inserts s107B, which is one of the black letter law provisions relating to
    incorporation that have been modelled on Companies Act provisions (s16). It appears below:
          107B Capacity and powers of credit union
          (1)     A credit union has, both within and outside New Zealand,—
                  (a) full capacity to carry on or undertake any business or activity, do any act, or enter into
                  any transaction; and
                  (b) for the purposes of paragraph (a), full rights, powers, and privileges.
          (2)     Subsection (1) is subject to this Act, any other enactment, and the general law.
          (3)     The credit union’s rules may contain a provision relating to the capacity, rights, powers, or
                  privileges of the credit union only if the provision restricts the capacity of the credit union, or
                  its rights, powers, and privileges.
41. Subsection (1) of s107B provides a credit union with the full capacity of a natural person.
    However, subsection (2) provides that this capacity and related powers are subject to any
    limitation in the FSCU Act, any other Act, and the general law.

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Discussion
42. Schedule 4 of the FSCU Act lists 18 matters that must be provided for in the rules of a credit
    union. One of those requirements is to identify the objects of the credit union. These objects
    must be consistent with the objects of a credit union set out in s101(1). Therefore, a credit
    union’s ability to act is limited by its own rules. It also means that an action taken by an officer
    or an agent that is not in accordance with the credit union’s objects (or incidental to them)
    would not be authorised. This is also what s101(2) effectively provides for.

43. The proposed repeal of s101(2) by way of clause 15 of the FSCURIA Bill did not reflect a policy
    intent to modify the substantive effect of s101(2). The purpose of the repeal was simply to
    reflect that it would no longer be needed due to the addition of s107B via clause 24.

44. In addition, s101(2) is expressed in the negative (“A credit union shall have no power…”), but
    s107B(1) is expressed in the positive (“A credit union has…full capacity…and…full rights,
    powers and privileges”). Thus, reinserting s101(2) would be unsatisfactory because it would
    appear to have the effect of making the whole of new s107B redundant.

Conclusions and recommendations
45. Some submitters have expressed concern that the legal position would change if s101(2) was
    repealed. Although we do not agree, we do consider that retaining it would have the benefit of
    removing any doubts. On balance, we recommend that s101(2) be retained in substance, not
    repealed. However, because s101(2) is expressed in the negative, not in the positive, we
    propose implementing this change by amending s107B, not by reinstating s101(2).

III. Making loans directly to enterprises related to a member and the
potential impact on traditional lending to individual members
46. Clause 12 of the FSCURIA Bill proposes adding a new power for a credit union to make loans
    to an SME that is related to a member of the credit union. The Committee has sought advice
    about whether there are risks that this new power could weaken the traditional community and
    thrift focus of credit unions.

47. Paragraphs 64 to 66 of the initial briefing set out the policy rationale for allowing a credit union
    to lend to a business enterprise related to a member. At present loans cannot be made direct
    to a business, which forces a two-step ‘work-around’ process. This imposes unnecessary
    compliance, with the credit union making a loan to its member and the member on-lending the
    amount to the related business. The two-step process imposes unnecessary compliance costs.

48. In addition, it can reasonably be expected that some credit unions will seek to expand their
    business lending, i.e. to make loans to businesses related to members where they are not
    currently doing so under the current two-step process. This is the potential area where the
    issues that were raised at the Committee meeting on 20 December 2017 could arise.

49. We consider that there are four broad issues:
    •   the operating basis of credit unions
    •   the opportunity to facilitate credit union growth
    •   regulatory constraints, both prudential and investor protection
    •   what submitters opposing the FSCURIA Bill said about this matter.

The operating basis for credit unions
50. Other than mutuality and common bonds, credit unions also operate on the basis of open
    membership and democratic control (one member, one vote). In addition, the surplus arising
    out of the operations of a credit union belongs to and benefits all members, with no member or
    group benefiting to the detriment of others. Surpluses may be distributed among members as
    dividends in proportion to their transactions with the credit union, or used to improve or provide
    additional services to the members.

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51. Unlike some other countries (e.g. the United Kingdom 5), the business lending-related changes
    contained in the FSCURIA Bill do not provide for credit unions to establish a category of
    corporate membership. It will continue to be the case that only individuals can be members of a
    credit union and, therefore, be able to vote. Hence, any rule changes aimed at permitting loans
    to be made direct to SMEs (and any future rule changes to change those powers) would need
    to be approved by individuals on a one member one vote basis.

The opportunity to facilitate credit union growth
52. We do not take the view that credit unions have a fixed amount of money available for making
    loans and, therefore, that facilitating business loans will reduce the amount of money available
    to lend to individuals. Rather, our perspective is that the business enterprise lending changes
    will provide credit unions to grow by providing new opportunities to retain existing members
    and attract new members.

53. Craig Gold, Chair of the New Zealand Firefighters Credit Union gave an example in his oral
    submission on 6 December 2017. He noted that the proposed business enterprise loan
    provisions will provide his credit union with new opportunities to expand their membership to
    volunteer firefighters who operate businesses.

54. Credit Union Central, NZCU South & NZCU Baywide and Steelsands Credit Union all stated in
    their written submissions that these changes would provide them with new banking service
    opportunities (see items 402-405 in Table 4 of Part B of this report). For example:
     •   Credit Union Central stated that the current restriction often results in it losing members to
         commercial banks which are permitted to lend to legal entities such as private companies
         (item 402)
     •   Steelsands Credit Union said the changes would allow it to adapt to the needs of their
         customers and be more competitive (item 405).

Regulatory constraints
55. All credit unions are subject to prudential regulation under the Non-Bank Deposit Takers Act
    2013 (NBDT Act) and investor protection regulation under the Financial Markets Conduct Act
    2013 (FMC Act).

Prudential regulation
56. Credit unions are non-bank deposit takers for the purposes of the NBDT Act and must hold a
    licence. Licensed NBDTs must maintain a minimum capital ratio. In addition there are liquidity
    requirements and restrictions on related party lending.

57. Under s27 of the NBDT Act every licensed NBDT must have a risk management programme.
    This must set out the procedures that the NBDT will use for effectively identifying and
    managing credit risk. Credit risk is defined in guidance material published by the Reserve Bank
    of New Zealand as “…the risk of loss to an NBDT arising from a party to a contract or
    transaction with the NBDT that (a) is not able to meet its obligations; or (b) defaults on its
    commitments.” 6

58. Typically, credit unions will have credit policies that restrict secured and unsecured lending as
    a proportion of the credit union’s total assets. For example, NZCU Baywide and Credit Union
    South’s loan books cannot comprise unsecured loans totalling more than 5% of total tangible
    assets (and secured loans totalling more than 10% of total tangible assets).

5
  See the discussion of the Legislative Reform (Industrial & Provident Societies and Credit Unions) Order 2011 on the
third page of the submission made by the Association of British Credit Unions Limited.
6
   See the Reserve Bank of New Zealand Risk Management Programme Guidelines: Non-bank deposit takers (July
2009). Three other categories of specific risk included in the guidelines are: liquidity risk, market risk, and operational
risk.
                                                            11
Trustee Supervision under the Financial Markets Conduct Act
59. Offers of debt securities by credit unions to members are regulated under the FMC Act. Credit
    unions must register a Product Disclosure Statement with the Registrar of Financial Service
    Providers when they make a regulated offer of debt securities to their members (i.e. bank
    accounts) and have an independent supervisor (typically a trustee company such as Public
    Trust). The supervisor’s functions include acting on behalf of the holders of the debt security in
    relation to the credit union and any matter connected with the trust deed for the debt security or
    the terms of the regulated offer. The supervisor also has obligations to draw any material
    breaches by the issuer of its issuer obligations to the attention of the Financial Markets
    Authority.

What submitters opposing the FSCURIA Bill said about the SME provisions
60. Although four credit unions have been very critical of other provisions in the FSCURIA Bill,
    none of them have raised significant issues about the business enterprise lending provisions.

61. Credit Union Auckland and Westforce Credit Union did not make any comments about clause
    12 in their written submissions.

62. The submissions made by First Credit Union and Police and Families Credit Union both
    question whether business lending will be financially viable for legal and operational complexity
    and cost reasons (see items 408 and 409). However, this only means that those two credit
    unions have a different perspective on whether or not the changes will provide new competitive
    opportunities for credit unions. They did not raise any concerns about the potential for clause
    12 to compromise credit union community service and thrift objectives.

Conclusions and recommendations on the SME provisions
63. For the reasons outlined above, we consider that the proposals in clause 12 to permit credit
    unions to extend loans to enterprises related to their members will reduce compliance costs
    and provide credit unions with growth opportunities.

64. Accordingly, we recommend that the FSCURIA Bill should continue to provide for credit
    unions to make loans to enterprises that are related to members.

65. That said, there are other issues with the current provisions in clause 12. After considering the
    discussion at the Committee meeting on 20 December 2017 and consulting with Co-op
    Money’s legal adviser, Michael Webb, we are recommending that the following modifications
    be made:
       a) Only permit a loan to be made to a trust if the member and/or one or more of his or her
          immediate family 7 is a beneficiary of 25% or more of the assets of the trust.
       b) Remove limited partnerships from the list of eligible entities – The purpose of the Limited
          Partnerships Act 2008 was to promote venture capitalism. We consider that the private
          equity goals of the Limited Partnerships Act are incompatible with the policy objectives of
          clause 12(3)-(6) of the Bill.
       c) Remove the 19 FTE employee limit – This change will recognise that an enterprise which
          obtains a loan from a credit union when it has no more than 19 FTE employees that grows
          into a larger enterprise with more than 19 FTE employees will not have to repay the loan
          (see the additional discussion of this issue in Part B of this report, item 411).

66. There is at least one other feasible option in relation to the 19 FTE employee rule: retain the
    rule, but only apply it at the time that the loan is made. Co-op Money proposed this approach in
    its submission (see item 411 in Part B).

7
    Subject to advice from PCO, we anticipate that “immediate family” would comprise:
      (a)   Any current or former spouse, civil union partner or de facto partner of the person;
      (b)   Any brother, sister, lineal ancestor or lineal descendant; and
      (c)   Any current or former spouse, civil union partner, or de facto partner of any person referred to in paragraph (b).

                                                                     12
FRIENDLY SOCIETIES AND CREDIT UNIONS (REGULATORY IMPROVEMENTS)
                                AMENDMENT BILL

                                            PART B: CLAUSE BY CLAUSE ANALYSIS

                                                                  Contents of Part B
Table no.   Name of table                                                                      Clause      Bill page
                                                                                               numbers     numbers
   1        General comments                                                                   n/a         n/a
   2        General comments relating to the incorporation of credit unions                    11-30       6-15
   3        Specific comments relating to the incorporation of credit unions                   14-24       7-14
   4        Making loans direct to SMEs related to members                                     12(3)-(6)   6-7
   5        Amalgamations, transfers of engagements, suspension, liquidation and dissolution   31-38       15-25
   6        Associations of credit unions                                                      39-42       25-27
   7        Submissions about other provisions in the Bill                                     n/a         n/a
   8        The transition (New Schedule 1AA)                                                  Schedule    30-35
   9        Matters not covered by the Bill                                                    n/a         n/a

                                                                               13
Table 1: General comments
Item Submitter            Submission                                                                              Officials’ comments
Submitters generally supporting the Bill
101   Aotearoa CU         Strongly supports the Bill. It is critically important to the ongoing operation and     Noted.
                          effectiveness of the work Aotearoa CU does in Māori and Pasifika communities of
                          South Auckland and around the country. Without the Bill Aotearoa CU is
                          concerned about its ability to remain valid and competitive in the market.
102   Association of      The prevailing legislative framework is unduly restrictive and limits CUs’ potential.   Noted.
      British Credit      The Bill would considerably modernise the CU framework in NZ and better align
      Unions              the legislative framework with that applying in other jurisdictions, such as the UK.
103   Christian Savings   CS supports the Bill. CS wishes to obtain licensed access to software and other         This is an indirect reference to clause 39,
                          services from Co-op Money to modernise and facilitate its business. The Oracle          which clarifies that associations can provide
                          core banking platform is strategically important to CS and its growth aspirations.      services to other co-operative and mutual
                                                                                                                  entities, not just member CUs.
104   Co-op Money         The FSCU Act has not been fit-for-purpose for many years. It is complex and             Noted.
                          presents significant uncertainties and risks and involves unnecessary compliance
                          costs for CUs and associations. It is generally an unstable legal framework under
                          which to operate. The changes set out in the Bill are therefore very welcome,
                          absolutely necessary and long overdue.
105   NZ Firefighters     Very much welcome, support, and look forward to the Bill being enacted to enable        Noted.
      CU                  NZFCU to continue to serve its membership within an environment that better
                          reflects banking services today. The Bill is fundamental to NZFCU’s sustainability.
106   NZCU South &        Support the Bill and welcome the proposed changes. The Bill recognises the              Noted.
      NZCU Baywide        changing needs and provision of services undertaken by a CU for its members.
                          Support Co-op Money’s submission.
107   SamoaNZ             Support the Bill. SNZ Finance intends to become a full service financial institution    Noted.
      Finance             that can understand the needs of the Pacific Island community. Co-op Money’s
                          values align with SNZ Finance’s and partnering with Co-op Money is integral to
                          their strategy to achieve it.
108   Steelsands CU       The Steelsands directors are unanimous in generally supporting the Bill. They also      Noted.
                          unequivocally support the Co-op Money submission.
109   Steelsands CU       Important for no changes to be made in relation to objectives, mutuality, financial     Noted. The Bill does not propose changes in
                          reporting, tax treatment and the process for electing directors.                        relation to any of these matters.

                                                                             14
Item Submitter            Submission                                                                              Officials’ comments
110   World Council of    Strongly supports NZ’s efforts to modernise its CU legislation, including               Noted
      Credit Unions       incorporating CUs and associations as legal entities. The Bill will bring NZ law into
                          line with international best practices without affecting CUs’ mutuality.
A submitter that supports some aspects of the Bill but opposes others
111   CU Auckland         Some provisions are worthy of support. Some other provisions need to be                 Noted.
                          changed to maintain CUs’ special character and the interests of their members.
Submitters generally opposing the Bill
112   First CU            Oppose the intent of the Bill:                                                          Noted.
                          • There is nothing in the FSCU Act which limits First CU’s ability to provide
                            financial services to members.
                          • The proposed amendments, with the ability to pursue a wider set of objects will
                            introduce a corporate feel to CUs, reducing their uniqueness in an already
                            highly competitive market.
                          • The proposed amendments do not remove unnecessary operating or
                            compliance costs, or promote efficiency, innovation and accountability. On the
                            contrary, they have significant negative financial impacts, resulting in
                            burdensome overheads.
113   Police & Families   Oppose the intent of the Bill.                                                          Noted.
      CU                  The current Act allows CUs to participate within the CU financial services niche
                          effectively and efficiently and without excessive financial impacts and burdensome
                          overheads. The proposed amendments create a dichotomy with the clear and
                          honourable objects of a CU as articulated in the FSCU Act.
                          In this age of the ‘sharing economy’ the FSCU Act is more relevant than it has
                          been for many years. PFCU believes that the proposed amendments will reduce
                          the oversight of this successful sector of the finance industry, and potentially
                          cause financial harm to some CU members.
114   Police & Families   PFCU has obtained legal advice which strongly indicates a future challenge to the       We cannot comment on legal advice that we
      CU                  mutuality of CUs, despite Mr Smith MP purporting that this is not the objective of      have not seen.
                          the proposed amendments.

                                                                            15
Item Submitter            Submission                                                                           Officials’ comments
115   Westforce CU        Opposes the intent of the Bill.                                                      Noted.
                          • The current FSCU Act allows CUs to participate within their financial services
                            niche effectively and efficiently and without excessive financial impacts and
                            burdensome overheads.
                          • Far from containing a “very complex supervisory and oversight regime” the
                            FSCU Act has a straightforward, appropriate (for CUs), well established and
                            understood supervisory and oversight regime that does not need changing.
                          • The Bill will destroy mutuality, which is the essence of CUs.
                          • The Bill is unnecessary, incomplete and raises more complications than it
                            solves.
                          • The proposed changes relating to incorporation and increased directors’ duties
                            will increase operating and compliance costs.
116   First CU            First CU concurs with MBIE, which stated that they “do not regard it as a good use   This quote has been taken out of context. It
                          of House time to have stand-alone credit union related Bill because CUs are a        was included in a briefing to ministers in
                          relatively small part of the NZ banking sector.”                                     March 2016 recommending (a) that the CU
                                                                                                               provisions be removed from the Regulatory
                                                                                                               Systems Amendment Bill, and (b) to not
                                                                                                               introduce a stand-alone government Bill to
                                                                                                               implement those CU reforms.
                                                                                                               The advice MBIE gave at that time has no
                                                                                                               bearing on the current situation because:
                                                                                                               • the Bill is a member’s bill, so it is not
                                                                                                                 competing for parliamentary time with
                                                                                                                 other government bills; and
                                                                                                               • the Bill is part way through the legislative
                                                                                                                 process. The costs of getting it to this point
                                                                                                                 are irrelevant because they are sunk.

117   Police & Families   Concurs with MBIE which stated in an email to PFCU that “…it would not be a          Disagree. See item 116.
      CU                  good use of scarce House time to introduce a stand-alone bill.”

                                                                            16
Table 2: General comments relating to incorporation of credit unions (clauses 11-30, pp 6-15)
Item Submitter         Submission                                                             Officials’ comments
General comments supporting incorporation
201   Co-op Money      Establishing CUs and associations as bodies corporate with             Noted.
                       the powers of a natural person will be in line with other
                       business entities and bring NZ in line with other countries and
                       the World Council of Credit Unions’ model law.
202   Co-op Money      It will not be possible for a CU to demutualise under                  Noted. Retaining mutuality as an object of a CU under
                       the Bill.                                                              s101(1)(b), retaining the common bond requirement in s
                                                                                              102(1) and not including a company conversion mechanism
                                                                                              means that demutualisation will not be possible.
203   Customer Owned   In Australia, all CUs became unlisted public companies under           Noted.
      Banking          the Corporations Act in 1999. These changes included scope
      Association      for CUs to demutualise. COBA supports the right of the
                                                                                              Unlike Australian legislation, the Bill does not include a
                       members to determine the future of their CU, provided that
                                                                                              mechanism that would allow members of credit unions to
                       members are fully informed about the advantages and
                                                                                              demutualise the credit union.
                       disadvantages of the proposal.
204   Customer Owned   CUs in Australia have been bodies corporate for many years             Noted.
      Banking          and this has not presented any difficulties in practice.
      Association
205   NZCU South &     Support incorporation because it will likely result in a transfer of   Noted.
      NZCU Baywide     power from internal trustees to the CU’s directors. It will also
                       remove questions as to the respective legal responsibilities of
                       the CU’s management committee and the internal trustees and
                       remove risks to parties entering into transactions with CUs in
                       good faith.
206   NZCU South &     Incorporation is a step towards allowing a CU to better serve          Noted.
      NZCU Baywide     its members. By allowing CUs to become incorporated, the
                       submitters believe they can better apply their management
                       structure and services to members at reduced cost, with
                       greater efficiency, and eliminate much of the cumbersome and
                       complex administrative tasks associated with the present
                       processes whereby our internal trustees must implement
                       actions (e.g. entry into contracts) and hold assets.
207   Steelsands CU    Moving CUs into a corporate structure in common with other             Noted.
                       businesses will make financial markets simpler to explain and
                       promote to Steelsands members.

                                                                          17
Item Submitter            Submission                                                           Officials’ comments
208   World Council of    By incorporating CUs as legal entities, NZ would simply be           Noted.
      Credit Unions       bringing its legal framework in line with CU laws in other
      (WOCCU)             jurisdictions. The legislative framework combining the Bill and
                                                                                               See item 217, expressing a contrary view.
                          the current Act on CU incorporation, amalgamation,
                          permissible business activities, liquidation, and so forth, are in
                          line with WOCCU’s Model Law for Credit Unions and common
                          practice in other jurisdictions with CUs. Challenges CUs face
                          as legal entities typically stem from outdated CU laws that
                          have not been updated to reflect international best practices
                          and a modern financial system.
General comments opposing incorporation
209   Ashley Burrowes     The explanatory note suggests that CUs may be able to                Disagree.
                          incorporate. This contravenes the spirit of cooperatives and         In addition, it is incorrect to state that CUs “may be able” to
                          emphasises the loss of identity of members, creating a ‘we and       incorporate. They will be required to incorporate.
                          them’ mentality.
210   First CU            Oppose removing the trust deed because it will remove a              Disagree. The FSCU Act is governance legislation. Fund
                          supervisory and oversight regime that is necessary for the           safety is addressed by other legislation:
                          safety of members’ funds.                                            • Systemic risks are addressed under the Non-bank Deposit
                                                                                                 Takers Act 2013 and related legislation.
                                                                                               • Investor protection is addressed under the Financial Markets
                                                                                                 Conduct Act 2013 and related legislation.
211   Westforce CU        The Bill proposes that all CUs will become corporate entities        Disagree that incorporation is inconsistent with mutuality
                          and cease to have trustees. CUs will lose a key and valuable         principles for the reasons stated in:
                          aspect of their composition in that process. The trustees            • paragraphs 78-82 of the initial briefing, and
                          enable CUs to be controlled by people having fiduciary
                          obligations. This is consistent with CUs being mutual entities       • the more detailed analysis in the supplementary material
                          (i.e. representing their members and in essence being the sum          prepared by Michael Webb attached to Co-op Money’s
                          of their members).                                                     submission.

212   First CU            First CU opposes removing the trust deed because it will             Disagree. See item 211.
                          remove mutuality.
213   Police & Families   CUs’ unique point of difference is that they are owned and           The Bill does not change this. Mutuality continues to be a
      CU                  controlled by their members for the benefit of members rather        requirement under s101(1) of the Act.
                          than simply for the benefit of the organisation.

                                                                            18
Item Submitter            Submission                                                         Officials’ comments
214   CU Auckland         Incorporation has had an unintended consequence of                 There is no provision for demutualisation in the Bill.
                          demutualisation overseas. Predatory corporate raiders in
                          Australia, USA and Canada have identified the strong reserves
                          often built up within CUs and sought to divert them for their
                          personal benefit.
215   Police & Families   Corporatisation could have the unintended consequence of           Disagree. We consider that making the board responsible for
      CU                  blurring our current governance responsibilities and our           all governance matters will clarify, not blur governance
                          existing governance model could be challenged.                     responsibilities.
216   Police & Families   PFCU is proud that its assets are held on behalf of its            Noted.
      CU                  members by three elected internal trustees who must be New
                          Zealand Police employees.
217   Westforce CU        It has been suggested that incorporation of CUs is consistent      Noted.
                          with WOCCU’s views. This is not correct. Nothing much can be
                          taken from WOCCU's position because WOCCU must deal
                                                                                             See item 208, expressing a contrary view.
                          with all types of law in different countries and non-English
                          based law countries do not have the trust concept as NZ does.
218   Police & Families   PFCU does not agree that having internal trustees creates a        Noted.
      CU                  complex supervisory and oversight regime or adds to
                          compliance costs. Concerned that the proposed changes will
                          make legal and operational costs prohibitive for smaller CUs.
219   Police & Families   Strongly recommend that if any CUs want to be corporatised         There is no alternative legislation. S98(1) of the FSCU Act
      CU                  then there is plenty of existing legislation to allow them to do   states that an entity can only trade or carry on business as a
                          that.                                                              CU if it is registered under Part 3 of the FSCU Act.
220   First CU            The changes may open the door to the loss of the CU tax            We do not agree that there is a causal link between
                          exemption.                                                         incorporation and tax status. See paragraphs 84-85 of the
                                                                                             initial briefing.

                                                                            19
Table 3: Specific issues relating to the incorporation of credit unions (clauses 14-24, pp 7-14)
Item Clause          Submitter             Submission                                                       Officials’ comments
301   n/a            CU Auckland           Estimate transitional costs for the CU movement of $350-         It is unclear how CU Auckland estimated this
                                           $400,000 without commensurate cost reduction benefits.           amount. See paragraph 16 of the initial briefing
                                                                                                            for Co-op Money’s much lower estimate.
302   n/a            CU Auckland           The only unnecessary compliance costs associated with the        Disagree.
                                           current structure is the inability of trustees to delegate       Modifying s31 (which also applies to friendly
                                           operational powers. This could be easily dealt with by           societies) will not address the main issue, which
                                           amending s31 to allow trustees to grant a power of attorney      is that the current division in governance
                                           in relation to their administrative duties. That change alone    responsibilities between the internal trustees
                                           does not warrant the extensive changes in the Bill.              and the board is unsatisfactory.
303   14             Departmental          In first line of s100B(1), change “section 100for” to “section   Corrects a typo.
      (s100B(1))     submission            100 for”.
304   14             Departmental          Replace subsection (f), which states that, as a condition of     This change would require the Registrar to be
      (s100B(1))     submission            incorporation, the Registrar must be “satisfied that the         satisfied that there are rules in relation to each
                                           requirements of this Part as to incorporation have otherwise     matter specified in Schedule 4 of the FSCU Act.
                                           been satisfied”. The replacement provision would state that      However, the change would also mean that the
                                           the Registrar must be satisfied that the proposed rules of       Registrar would not be required to make
                                           the CU comply with s100A(2). That section relates to the         judgments about the quality of those rules.
                                           matters that must be provided for in the CU’s rules.
305   14             Ashley Burrowes       The duties of the Registrar for the initial application of       Disagree. This would be inconsistent with the
      (s100B(2))                           registration and subsequent annual returns should extend         principle for MBIE’s registers that the party
                                           to ‘public interest’ compliance certifications not merely        lodging the information is responsible for its
                                           ticking the box for filing forms.                                accuracy.
306   15             Co-op Money           Pleased the Bill makes no changes to the current statutory       Noted.
      (s101(1))                            objects of a CU and the elements of mutuality.
307   15             NZCU South &          Agree with the removal of s101(2), which provides for            Noted.
      (s101(2))      NZCU Baywide          widening CUs’ powers, e.g. to securitise lending activities.

308   15             Co-op Money, CU       See items 711-713.                                               The points made by these submitters on clause
                     Auckland, Westforce                                                                    24 (see items 711-713) also impact on clause
                     CU                                                                                     15.

                                                                            20
Item Clause       Submitter        Submission                                                       Officials’ comments
309   21          Co-op Money      Amend s106B(1) so that a credit union’s rules can only be        Disagree.
      (106B(1))   (supplementary   amended by special resolution (i.e. 75% or more of               The reason for imposing a statutory super-
                  submission)      members entitled to vote and voting) rather than an              majority requirement is that some decisions (e.g.
                                   ordinary resolution (i.e. a simple majority). This would be in   amalgamations) have such far-reaching effects
                                   line with Co-op Money’s submission to have a special             that it is essential to include protections which
                                   resolution requirement in relation to clause 31                  ensure that the decision reflects the democratic
                                   (amalgamations) and clause 34 (liquidations).                    wishes of the membership.
                                                                                                     This ‘major transaction’ rationale does not apply
                                                                                                    to ordinary rule changes. To the extent that any
                                                                                                    credit union considers that changes to some or
                                                                                                    all of its rules that govern other matters should
                                                                                                    be subject to a super-majority requirement
                                                                                                    (whether 75% or some other percentage) then it
                                                                                                    can include provisions to this effect in its rules.

                                                                    21
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