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they occur and the retention of a portion of the members' earnings on their share accounts to meet losses before they occur.

I would like to submit at this point for the information of the committee a letter of January 16, 1951, from the Federal Savings and Loan Insurance Corporation on the subject of the loss experience among building and loan associations. This letter clearly shows that building and loan associations are following a sound policy in building necessary loss reserves for their continued safe operation.

Mr. REED. Mr. Chairman, I ask unanimous consent that this letter to which Mr. Kreutz has referred be included in the record.

The CHAIRMAN. Without objection, that may be done.
(The letter referred to follows:)
FEDERAL SavinGS AND LOAN INSURANCE CORPORATION,

HOUSING AND HOME FINANCE AGENCY,

Washington, D. C., January 16, 1951. Mr. Oscar R. KREUTZ, Executive Manager, National Savings and Loan League,

Washington, D. C. DEAR MR. KREUTZ: We are glad to give you information bearing upon the subject of loss reserves which you raised in your letter of January 3, 1951. First, we may stress their importance and, second, we may give you the results of our studies on the question.

The history of all types of financial institutions has shown in no uncertain terms that adequate provision for possible future losses is vital to safe operation. Moreover, protection against losses must be anticipated in advance. To await their realization is too late. In institutions such as savings and loan associations, losses are mainly cyclical in character and may not make their appearance for a decade or more. This makes the problem more difficult to perceive and possibly more complex because of the deceptive successes of prosperity. Today loss reserves also take on more significance than at any previous time.

In turn, savings and loan associations occupy a large niche in the financial economy so that their operations play a vital part in the functioning of the national economy. The Federal Government itself is directly involved because of the insurance of savings through one of its instrumentalities. In giving recognition to this larger perspective, prudent management and business statesmanship must make adequate provision for loss reserves. It is not a little question; rather, the subject is of national importance.

Prior to the creation of the Home Loan Bank Board and the Federal Savings and Loan Insurance Corporation, cumulative and over-all records relating to losses of savings and loan associations were not maintained. As a result, it is necessary to appraise the problem on a sample or spot-check basis. The information that we can give you in response to your request may be summarized as follows:

Test No. 1: Analysis of the experience of 18 associations which became insured without write-down of their shares or segregation of their assets.

Test No. 2: Analysis of six cases with capital write-down so as to provide a cushion to absorb losses.

Test No. 3: Analysis of 35 associations where segregation of assets was necessary to qualify for insurance.

Test No. 4: Results of nine institutions liquidated by the Massachusetts Share Insurance Fund.

TEST NO. 1

Analysis of the experience of 18 associations which became insured without writedown of their shares or segregation of their assets. ---In selecting the 18 associations in this category, it should be pointed out that we deliberately took institutions which had more than the usual amount of real estate. We did this for the very sound reason that in providing reserves to cover future contingencies safety is found in maximum rather than minimum coverage. Also, it gave us a more representative basis for the study of losses incurred on real estate owned. At the same time, it should be stressed that the conditions were not serious enough to warrant either a write-down of shares or a segregation of the assets.

As you will note in the enclosed table, the ratio of the gross losses on real estate to the average assets during the 9-year period of 1937–45 amounted to 8.7 percent for the entire period and averaged 1 percent per year. Obviously, if the period is extended through 1949, the respective ratios drop slightly.

TEST NO. 2

Analysis of six cases with capital write-down so as to provide a cushion to absorb losses.- In putting the insurance program into effect in the thirties, it was not uncommon to find that many institutions could not qualify for insurance without a write-down of the value of their shares in order to absorb recognized losses or to provide a reserve to meet contingent losses. Obviously, institutions in this category would be in a weaker financial position than those mentioned in the previous category.

To test this type of condition, we made a study of six associations of scattered geographical location. Since the losses were recognized at the time insurance was granted, there is no way of measuring the actual losses which were realized from the liquidation of the real estate itself. Hence, we may simply advise you that the ratio of the write-down to the total assets of these institutions amounted to 19 percent.

TEST NO. 3

Analysis of 35 associations where segregation of assets was necessary to qualify for insurance.--Still another method used by the Insurance Corporation as a means of rehabilitating institutions in the thirties was that of segregating unsound assets into separate liquidating trusts or corporations. The shares issued by such institutions to cover the remaining good assets were then insured by us, while the shares against segregated assets realized only liquidating dividends to the extent made possible by the proceeds received from the liquidation of the segregated assets.

We know that there were at least 177 associations subjected to this treatment, but once again complete records were not always kept of the results. However, we do have fairly complete records showing the final losses in 35 cases. In order to apply our findings to the problem before us it seemed best to relate the losses to the total assets as of the date of segregation and not simply to the amount of segregated assets. The purpose of this is to bring the management problem into perspective, since the universally recognized measure of loss reserves for going institutions is the ratio of such reserves to the total assets. We found that in cases of this type the final losses of the 35 institutions, with total assets at thə time of segregation of $25,917,550, amounted to $5,621,488, or 21.7 percent of total assets.

TEST NO. 4

Results of nine institutions liquidated by the Massachusetts share insurance fund.Finally, there are the familiar cases where institutions were liquidated in entirety, and not in part as was true in test No. 3. However, as stated before, the results of such liquidation are generally not available. Often savings and loan associations were liquidated voluntarily by the directors, and, in any event, the State authorities seldom kept comprehensive or uniform records. Fortunately, we have been able to obtain the results of the liquidation of nine cooperative banks by the Massachusetts share insurance fund.

In this instance, because of the existence of the insurance fund, a record of the losses which it suffered from the liquidation of its insured members was maintained. The assets of the nine cooperative banks amounted to $8,700,000 at the time they were taken over and the net losses to the insurance fund amounted to $1,541,000, or 17.6 percent of the assets. For your information, these data were obtained from a book entitled "Three Score and Ten Years” by Oreb M. Tucker, which is a history of the cooperative banks in the State of Massachusetts.

We hope that this limited information will be helpful to you, and we will be glad to answer any inquiries that you may wish to make about the study. Best wishes. Sincerely yours,

William H. HUSBAND, General Manager. Mr. KREUTZ. We are in a period of high prices and prosperity and have been for a number of years. Obviously these associations must build adequate loss reserves. The total amount in the reserve accounts of insured building and loan associations at the end of 1950 was 6.9 percent of their assets. It is apparent from this ratio that building and loan associations are not retaining an excessive portion of their earnings for loss reserves.

At the end of 1949 the total reserves of all insured associations were 6.9 percent of their assets. The insured institutions held nearly 80 percent of assets of all associations and were used for this estimate because the figures were readily available. Assuming that a tax such as has been proposed had been in effect during the previous 5-year period and assuming that the same dividends would have been paid to the members of these associations, there would have resulted a sharp diminution of reserves. For example, on the assumption of a 38 percent tax rate in the period 1945 to 1949, these insured associations would have had total reserves of only 5.4 percent on December 31, 1949, instead of 6.9 percent. Assuming that such a tax had been in effect for the previous 10 years, the reserves at the end of 1949 would have been only 4.8 percent. Moreover as an example of what could happen under higher tax rates, these insured associations would have had total reserves of only 4.3 percent of assets at the end of 1949 instead of 6.9 percent had they been subject to a 47 percent tax rate for the preceding 10 years.

We believe, however, that prudent management would, under a direct income tax, continue to make needed allocations to reserves for losses. It is necessary, therefore, to take a look at the effect of a tax upon the earnings distributed to the members of these associations. For example, we will assume that such a tax was in effect in 1949 and that consistent with statutory requirements and prudent management policies these associations made the same transfer to reserves for losses as were actually made. If under those conditions a 38-percent tax rate had been in effect on these associations, their weighted average dividend rate would have dropped from 2.52 percent to 1.75 percent. If the tax rate had been 47 percent, the weighted average dividend rate would have dropped from 2.52 percent to 1.41 percent. Obviously a direct Federal income tax on these associations would have come directly out of the pockets of the 10,500,000 small savers of the country who are members of building and loan associations and would have resulted in taxing twice the already taxable earnings in the hands of the recipient.

Any such drastic reduction in the rate of dividends distributed to the members of building and loan associations would necessarily result in a drying up of the flow of thrift capital into these institutions. Such a result would be in direct conflict with all of the anti-inflationary efforts which are being developed by the Congress and by the executive departments. In addition, the drying up of this important source of thrift capital would place a greater strain on the resources of the Government by increasing the demand for direct Government financing and building of housing.

A direct income tax will fall upon such associations more severely than do corporate income taxes against banks and corporations generally. No other type of organization compares with savings and loan associations in the long-term character of their investments and the length of the period which elapses before losses are realized. Banks and other corporations, because of the nature of their investments the earlier development of losses, are generally able to make allowances for such losses before taxes. Savings and loan associations cannot do this because of long-term character of their loans.

As shown by the figures presented and the official reports, savings and loan associations already produce 49.2 percent more tax revenue per million dollars of savings (deposits) than do insured commercial banks.

To place a heavier burden on the owners-shareholders or savings account holders, as they are variously known-would, in our opinion, be unfair.

Without lengthening this statement unduly, suffice it to say a direct income tax on building and loan associations will result in at least a partial reversal of the policy of Congress to foster these institutions on a sound basis, will reduce or at least cause a disruption in the supply of home mortgage financing and may well lead to increased governmental activity in this field.

Therefore, we urge that there be no change in the tax status of building and loan associations.

(Mr. Kreutz submitted the following list of building and loan associations in the United States and possessions.)

Building and loan associations in the United States and possessions

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Total Number of Number of number of

savings borrowing savings and members members borrowing

members

14,000,000

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59, 600 32,400 48, 100 861,500 104,300 201,400

24, 30 205,000 251, 600 169,800

33,000 1, 159, 800

465, 700 149,900 162, 300 209.800 192, 100

41,000 313, 700 837,000 319, 870 297, 600

37,200 243, 400 29,600 108, 200

3,000 45, 700 672 100

23, 220 1,356,500 290,00

36,900 2,067, 300

149, 300

100,700 1, 110, 3

102, 500 110, 600

9,900 122, 20 292, 500 112,700

12 600 125,00 239,900

45,800 256,500 15,000

The CHAIRMAN. Does that conclude your main statement?
Mr. KREUTZ. Yes, sir.
The CHAIRMAN. Mr. Reed?

Mr. REED. Mr. Kreutz, do many associations own buildings that have space to rent to other tenants?

Mr. KREUTZ. No, sir; just a few. Most of the buildings owned by the associations are single-purpose buildings.

There was a point made this morning about buildings in Chicago. I am not acquainted with all the facts. I do know that the Bell Savings and Loan Association, which is a big institution, and which does own indirectly a large building, in order not to have that building on the tax-exempt rolls, has placed its ownership in a separate corporation, the stock of which is wholly owned by the association so that any revenue from that building operation is taxed.

Mr. REED. It is not a general practice?
Mr. KREUTZ. No, sir.

Mr. REED. What is the requirement of the Internal Revenue Code for reporting payments by building and loan associations?

Mr. KREUTZ, Building and loan associations have been discriminated against in that regard. They are required to report all dividends in excess of $100 whereas banks are not required to report interest unless it exceeds $600, I believe.

Some figures we had sometime ago showed that something around 60 percent of all the dividends paid by building and loan associations are reported by the associations to the Internal Revenue Bureau.

Mr. REED. Just how do the activities of the building and loan association compare with the activities of the commercial bank?

Mr. KREUTZ. I would prefer, if you do not mind, to have one of these gentlemen, who operates an association, answer that. Mr. O'Malley of Wilkes-Barre has a $5 million association.

Mr. O'Malley. In Wilkes-Barre, we accept savings, handle the financing of homes, the selling of Government bonds, whereas commercial banks handle savings accounts, notes, bonds, a travel department, travelers' checks, safe-deposit boxes, and trust departments.

Mr. REED. Thank you very much.

Does any one of you know about the State of New York, whether they have a tax on building and loan associations?

Mr. KREUTZ. No, sir; there is no tax whatever on building and loan associations.

Mr. REED. I assumed that was so. Thank you very much.
The Chairman. Mr. Jenkins.

Mr. JENKINS. I want to ask one or two very general questions. Is there any other agency that can take the place of a building and loan association?

Mr. KREUTZ. None; no, sir.

Mr. JENKINS. The fact that the building and loan associations have grown in considerable stature financially proves that those who had the idea started first; in other words, they saw what was coming and they filled a gap. A wonderful gap has been filled by their activities.

Mr. KREUTZ. The movement grew like religion or anything else of merit.

Mr. JENKINS. In these days we talk a lot about inflation. There would be no better way for us to curb inflation than to encourage people to put their money into building and loan associations?

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