On pp. 173-178 of their ruling the judges opined that certain commissions that lenders paid to car dealerships for arranging loans were deemed to be unlawful, paving the way for the set-up of customer redress schemes.
The defendants, Close Brothers Ltd and FirstRand Bank Ltd, have stated their intentions to appeal to the Supreme Court. The FCA has asked that the Supreme Court decides quickly as to whether to consider the appeal and in making a final ruling. Until this has happened, the full implications of this decision – in terms of how far it extends and which services are covered, alongside the scale of any potential redress won't be known.
How does this ruling link to the FCA’s investigation?
The FCA announced that it was re-investigating discretionary commission models for motor finance brokers in January 2024. This followed a market review which concluded in 2019 that discretionary commission models led to higher finance costs for consumers, ultimately leading to a ban in 2021 on the use of discretionary commission arrangements. Customers have since been raising complaints to firms about these commissions, many of which were being rejected and are thus being reviewed by the Financial Ombudsman Service.
The issues in the Court of Appeal decision go well beyond the scope of the FCA’s current motor finance investigation to cover the whole range of lending activities involving the payment of commissions by consumer finance providers to brokers. The ruling was based on common law principles of fiduciary duty, as opposed to FCA rules, which means the broker must act in the best interests of the customer and not put themselves in a position of conflict. The same ruling would seem to apply also to business lending – this has potentially significant consequences for lenders and for the economy if they pull their products.
What does this mean for the industry?
The ruling has implications for a far broader range of products than motor finance, capturing any goods and services purchased through credit arranged by credit brokers. For example, this might include insurance premiums, such as those purchased through insurance price comparison websites, and major household purchases on finance, such as sofas, kitchens, and even holidays.
How has the market reacted?
This judgement has introduced further uncertainty into the market and the potential breadth of services captured will be of concern to many. Motor finance providers are currently digesting what this means, and how this will impact their initial analyses on potential redress based on the FCA’s investigation and the liability that this creates for firms.
It's been reported that lenders (providers of consumer and small business finance) have held talks with the Treasury to warn of potential implications of this outcome and to permit more time to deal with customer complaints. The FCA has stated that it has been in close contact with the firms involved, the wider sector, the FOS, and the Government to monitor the market, analyse the impact on the industry and consumers, and identify what actions are required. It has already paused new motor finance complaints relating to discretionary commission arrangements and is considering broadening its freeze to consider a wider breadth of commission-related complaints.
Lenders have been reacting to this judgement. Close Brothers Bank, which has one of the highest exposures to car finance, announced that it had temporarily paused its motor finance lending and its shares were down over 30% in the week since the judgement was announced. It has now lost around half its value since the FCA first announced its investigation in January. Santander UK, although keen to downplay the potential impact of this decision, has delayed publishing its subsidiary accounts to give itself time to assess the financial impacts. Lloyds Bank, owner of Blackhorse car finance businesses, has said the rule sets a higher bar for disclosure than had previously been understood across the industry.
Some lenders have paused consumer finance offers while they work through this. For example, Metro Bank has paused its asset-finance lending. This will have impacts for consumers who were expecting to use these credit arrangements to make purchases over the coming days.
What's next for motor finance?
The lenders and products which are impacted and the level of any potential redress will depend on the outcome of any appeal and whether the judgement stands. However, the judgement makes it more likely that the FCA will implement a consumer redress scheme. In terms of benchmarking: the PPI redress ended up being approximately £50 billion and analysts were predicting motor finance might be around £16 billion. However, with a wider scope and look back, meaning that many historic contracts aren't valid, and an extension outside the regulated industry to include 'everything' sold through brokers (of any form) together means that if redress is calculated on repayment of the full amount, the effect could be larger than that of PPI.
The exact quantum of any redress is unknown. Even if the historical arrangements are found to be unlawful then the calculation methodology will need to be determined, with a particular focus on the relevant counterfactual. For example, is the whole level of commission to be repaid, or only that which is in excess of what a consumer could reasonably have been expected to pay if the charges had been more transparent? Would the redress be calculated in excess of that which would be paid on alternative product? What's the relevant interest rate to be used over the period? This also depends on whether the judgement or FCA rules take precedent for the calculation process.
At this stage, there's no clear action for consumers. Until any Supreme Court ruling is made and the FCA completes its own investigations, they can only watch and wait. In due course, if and when a redress scheme is put in place, it's expected that this would lead to automatic reimbursement (with firm’s identifying those impacted and calculating the compensation due), although similar to PPI it could be that consumers will need to contact firms. Although we're aware that some customers are signed up to both opt-in and opt-out group actions and this would need to be worked through if redress is provided automatically.
Where lenders have paused consumer finance offers while they work through this, there are implications for consumers who were looking to access this finance to be able to fund their purchases. In the short term, consumers may need to look to other forms of payment, such as credit cards or bank loans. However, we anticipate these products will be quickly reintroduced alongside clearer details as to the commission payments being made and what's due to be repaid and to whom by consumers.
The FCA introduced the Consumer Duty rules that require firms to provide customers with products which have costs and benefits commensurate to one-another, including non-financial costs and benefits (para. 7.28), to more carefully consider their target market (para. 6.88), and to ensure that they're offering fair value to consumers (paras 7.9 and 7.10). As a whole, firms within the Consumer Duty’s remit are required to assess the value inherent in their products and to ensure that customers are receiving fair value. As these rules are implemented by lenders, we would expect to see less of these market-wide issues going forwards.
What should consumer finance providers be doing now?
Consumer finance providers should keep a keen eye on any updates on this matter. There are a number of steps which firms could take to ensure that they're fully prepared for any action from the FCA and the FOS:
- Assessing the extent to which they have used brokers, and their potential exposure to the matter
- Mapping their sales journeys through brokers and gauge an understanding as to whether they are compliant with the new interpretation of common law
- Attaining a better understanding of potential claims, through extracting and processing legacy information; this might include market analysis and impact assessment, including and calculating the quantum through the lens of alternative counterfactuals
- Undertaking scenario analysis and stress-testing to quantify the scale of the issue, drawing from similar remediation programmes in the past such as PPI
- Planning for commercial stress
- Reviewing and reconfirming their products and services are fully aligned with the Consumer Duty’s requirements to reduce the likelihood of future claims.
How we can help
We're experienced in helping firms to become and remain compliant with emerging and changing requirements imposed by the regulator. We perform more section 166’s than any other firm for the UK Financial Regulators and have a strong understanding of their requirements. Our economists and financial services specialists employ a range of appropriate techniques to both identify and mitigate harm, remediation requirements for which could be imposed on firms.
Please contact us if you are impacted by the FCA investigation and Court of Appeal implications:
- We have subject matter experts with market driven credentials who can support in a variety of areas including; financial services advisory, data analytics and redress calculation specialists, economic and financial valuation and accounting experts, indirect tax and restructuring experts. We can also second appropriate resources to augment your own team.
- We can map your sales journey and advise on compliance with the various rules and judgements.
- We have experience as advisory and independent experts in the calculation of quantum under different methodologies and counterfactuals, including market and impact assessment. This includes extracting and processing legacy information at scale having done similar assignments already.
- We have extensive experience of redress schemes and can offer practical advice on the design of your redress methodology, assurance on your customer population or redress calculations, through to fully coordinating and managing your redress programme and supporting stakeholder engagement (e.g., FCA, borrowers, shareholders) and contingency planning. This can include assistance with complaints handling, potential claims values, stress testing and working through the implications of potential redress and remediation projects through a range of options to suit your requirements.
- Planning for commercial stress or distress, impact to business continuity. This is a difficult time for directors of all firms involved i.e. the larger lenders, the captive finance companies and the many middle market finance firms. Our Financial Services Restructuring team can offer solutions to maximise value in distressed circumstances and plan to avoid insolvency, as they had done for number of large remediation schemes in recent years. There are possibly important points to consider regarding directors’ duties that we will be publishing separately on.
- We offer deep insights into responding to the Consumer Duty in a positive and pragmatic way. The FCA aims to move the financial services industry from a world where firms must demonstrate that they treat customers fairly, to a world where this fair treatment leads - consistently and demonstrably - to good outcomes. We work with firms to design, deliver, support, and provide opinion or assurance on principles, assumptions, policies, procedures, and guidance.
For more insight and guidance, get in touch with Schellion Horn or Paul Garbutt.
