Tim Sargisson: Life of PI
Plans to increase the FOS award limit may have largely been greeted with dismay but, writes Tim Sargisson, the actions of the FCA are arguably a measured response to what it sees – and necessary for consumer protection
The news from the Financial Conduct Authority (FCA), confirmed in PS19/8, increasing the award limit for the Financial Ombudsman Service (FOS) was greeted with dismay by many in the advice profession.
Under the compensation limit increase proposals, complaints where the act or omission in question happened after 1 April 2019 will be subject to a £350,000 award limit. If a complaint is made after 1 April 2019 about an act or omission that happened before that date, the award limit would be £160,000 plus interest in line with the Consumer Price Index.
By its own admission, the FCA acknowledge that professional indemnity (PI) costs could rise by between 200% and 500% for financial advisers under a “worst-case scenario” – although the watchdog said that figure “contrasts” with its own estimate of a 140% increase.
Whether it is 140% or 500%, this is scary stuff for adviser firms and it is worth trying to understand what is going on here. To better understand what is behind this move by the FCA, it is necessary to refer to Consultation Paper CP18/31, published by the regulator in October last year.
First, our profession benefits from consumers having access to the ombudsman service. This will not, however, be fully appreciated if the current limit of £150,000 means complaining to the service does not result in payment of all – or at least a substantial portion – of the compensation the service believes is due for loss or damage.
The ombudsman service exists for individual consumers and businesses because the FCA believe they are unlikely to have the resources to pursue a complaint against a firm through the legal system, if they cannot resolve that complaint with the firm themselves.
Second, there is the need to account for inflation. The last increase – the jump to £150,000 – was back in January 2012. This increase included an allowance for future price inflation to avoid the need for another review in the short term. The FCA has now calculated the value of the £150,000 award limit began to decline in real terms from 2015 onwards – although four years of inflation hardly justifies a 133% increase.
Third, how many complaints made to the FOS involve compensation of more than £150,000? The answer is that approximately 2,000 complaints upheld by the ombudsman service each year involve compensation recommendations above £150,000.
The compensation for a high-value complaint is around £305,000, with a range of £150,000 to approximately £921,000. These complaints relate predominantly to business loans, interest rate hedging products, portfolio management and our old favourite, SIPPs.
On the assumption firms currently only pay compensation for such complaints up to the current award limit, then the new limit is designed to recognise the shortfall for complainants with complaints where redress is calculated to be between £150,000 and £350,000. Therefore, the new limit is designed to ensure the lion’s share of redress is picked up by the firm.
Fourth, one of the most telling observations in CP 18/31 is where the FCA makes the point it has considered “the evidence on the value of higher value financial products held by consumers, micro‑enterprises and newly-eligible SMEs, and – using case studies provided by the ombudsman service – the kind of compensation recommendations they could reasonably give rise to”.
Preparing the ground
In other words, the expectation is that future awards will be much higher due to the nature of advice provided. It seems clear the FCA is preparing the ground in readiness for future claims following defined benefit (DB) transfers. Certainly the Single Financial Guidance Body has put its support behind the FCA over the increase in the FOS‘s compensation limit, saying it will prove advantageous to consumers thinking about transferring their DB pensions.
DB compensation payments to date are predominantly about delays and not about benefits foregone. Some £23bn has been ‘cashed out’ and, when people come to look at the actual impact of pension freedom on the quality of their retirement and in terms of the demands for compensation, well, as Bachman Turnover Overdrive would put it: “You ain’t seen nothing yet.” The FCA is therefore preparing the ground for what lies ahead, and our profession would be wise to understand this.
In light of this, it can be argued the actions of the FCA are a measured response to what it sees and necessary to ensure it is meeting its statutory objectives of consumer protection. The good news is that the increased limits only affect acts or omissions that happen after 1 April 2019.
It is stating the bleeding obvious, I know, but better adviser behaviour – particularly over esoteric investments and DB transfers – is surely the way forward to keep PI increases below those worst-case scenarios.
Published 19th March 2019