The Financial Conduct Authority (FCA) has published a discussion paper aimed at improving the industry compensation framework to “provide appropriate protection for consumers, funded in a fair and sustainable way”.
The Financial Services Compensation Scheme (FSCS) provides redress when certain authorised financial services firms are unable to meet claims against them.
The FCA is seeking views on questions about the purpose, scope and funding of the FSCS’ compensation framework “to ensure it continues to meet the needs of consumers and firms”, it said in a statement.
This includes discussing whether certain sub-sections of the advice sector are omitted from the FSCS, eg investments products, as well as whether FSCS coverage should be limited to UK authorised or domiciled funds.
The regulator has two principles about the FSCS. Firstly, it says that the “FSCS is a fund of last resort and should not be the first line of defence for protecting customers of authorised firms from harm” and FSCS protection for a “particular regulated activity and category of individual should increase consumer confidence in the financial services sector”.
The discussion paper is aimed at:
- consumers;
- groups representing consumers’ interests;
- regulated firms, including FSCS levy payers; and
- trade bodies for regulated firms.
The deadline for views on the paper is 4 March 2022.
Increasing costs
The FSCS’ operating costs and compensation payments are funded by levies on financial services firms. The overall FSCS levy has increased over the last decade to £717m ($950m, €842m) in 2021/22 from £277m in 2011/12.
Many of the claims driving these costs relate to historic misconduct by firms in the investment sector, including financial advisers and self-invested personal pension (Sipp) operators, which have subsequently failed.
The financial watchdog said that the “pipeline of historic claims is expected to result in further FSCS payouts over the coming years”.
The FCA added that it is “committed to stabilising and reducing the size of the compensation levy over time”, as it wants to “address the root causes of the increase in compensation liabilities by improving the conduct of firms to prevent harm from happening in the first place”.
Additionally, it wants to improve the financial resilience of firms so “they are better able to meet their own redress liabilities and put things right for consumers”.
The regulator believes the following issues will help tackle the root cause of high FSCS costs:
- The newly improved consumer duty;
- Ensuring people can choose appropriate pension products;
- Consumer engagement strategy;
- Consumer investments strategy;
- Coordination across regulatory partners;
- Raising standards in the appointed representative regime;
- Tackling phoenixing;
- Prudential regime for investment firms; and
- Prudential regime for non Mifid investment firms.
‘Fit for the future’
Sheldon Mills, the FCA’s executive director for consumers and competition, said: ‘We want consumers to have trust in a thriving UK financial services sector, and businesses to be confident that they can bring new and innovative products to market.
“To achieve this, it is vital that consumers have an appropriate level of protection if things go wrong – and that we find a fair and sustainable way of funding the cost of this protection. Now is the time to ask how we can ensure our compensation framework is fit for the future.
“We are already taking action against the drivers of compensation claims. These include our measures to reduce the impact when firms fail and to tackle misconduct in the investment market.”
Opportunity
Steven Cameron, pensions director at Aegon, said: “The FSCS plays a vital ‘last resort’ role in protecting consumers on the failure of a firm responsible for financial detriment. But despite previous attempts to improve the funding, and providers now paying a share of intermediary levies, many adviser firms who consistently offer their clients a professional service, and don’t give rise to compensation payments, feel unfairly treated as levies continue to rise sharply.
“We welcome this new opportunity to think again about how to strengthen the concept of ‘polluter pays’. Many favour a move to risk based levies, so it’s disappointing that the FCA continues to see this as unworkable despite the new data it has been collecting on higher risk activities.
“We fully support the FCA’s efforts to tackle the root cause of compensation payments and look forward to more details of how FCA initiatives such as the new consumer duty and the consumer investments strategy might help here. Alongside these, we encourage the FCA to continue to clamp down on phoenixing and to get smarter at identifying firm-level issues as early as possible.”
