Doubts over legality of FCA redress scheme

A leading UK expert in regulation has challenged the legal basis of the Financial Conduct Authority (FCA) motor finance redress scheme, claiming it is “grounded essentially on a huge regulatory overreach” and questioning whether claims relating to the period before 2014 should be in scope.

Writing in the Times newspaper John Swift, a barrister who was Rail Regulator 1993-98, argued that a major part of the redress scheme could be seen as unlawful as the FCA does not have the necessary powers to be able to go all the way back to complaints from 2007.

Swift’s argument is based on the requirements of section 404E of the Financial Services and Markets Act 2000 (FSMA), the primary legislation that gives the FCA its regulatory powers. This sets out who are regarded as “consumers” for the purposes of being included in a consumer redress scheme by reference to — and limited to — the activities the FCA has powers to regulate. 

Under Section 404 FSMA, “consumers” are defined as those:

(a) who have used, or may have contemplated using, any of the services within subsection (2); or

(b) who have relevant rights or interests in relation to any of the services within that subsection 

(2) The services within this subsection are services provided by …… authorised persons in carrying on regulated activities.

Powers to regulate

In his Times comment piece, Swift wrote: “By reason of section 404E, a scheme can only be applied if the relevant consumer services are provided by ‘authorised persons in carrying on regulated activities’.”

Swift points out that the FCA did not have powers to regulate consumer credit until 2014, when it took over from the Office of Fair Trading.

He says the FCA’s response to this is that “firms’ liabilities for widespread failures arise under existing law for the entire period  ‘irrespective of whether the FCA exercises its powers’ under FSMA to establish a scheme’”.

Swift disagrees with this view, arguing that “it is not a question of whether consumers could pursue such so-called failures under consumer credit rules but whether the FCA has the authority to exercise scheme-making powers before 2014.”

“What the FCA is claiming to be able to do is to retrospectively apply its rules to a period when it had no statutory powers to regulate the activity in question,” Swift maintained.    

Exceeding regulatory powers

This point is echoed in a briefing from international law firm Stephenson Harwoodlooking at whether the FCA has exceeded its powers in its construction of the redress scheme.

This states: “The FCA appear to be saying that because firms may have a liability to consumers in relation to agreements pre-dating 1 April 2014 (due to the existence of an unfair relationship under section 140A of the Consumer Credit Act 1974 (CCA)), the FCA can and should exercise their statutory powers under S.404 FSMA to include such agreements within the scope of a mandatory redress scheme”, which it says is  tantamount to saying the FCA are exercising their powers irrespective of whether it is in their power to do so.

However, the critical point is whether the FCA has jurisdiction to compel those firms to pay compensation to the relevant consumers under a s.404 redress scheme, rather than whether or not there may have been wrongdoing which gives rise to a legal obligation to compensate.

Scheme split

Indeed, other commentators have already made the point that the FCA’s surprise decision to split the redress scheme into two elements, one covering pre-2014 claims and the other those arising from 2014 onwards, is a tacit acknowledgement that there could be a legal challenge to the inclusion of claims from 2007 – 2014 in any redress scheme.

By dividing the scheme into two, the FCA opens the way for a legal challenge to the first part on the basis the regulator was acting “ultra vires” or without the necessary legal grounds for that period of time, while the second element relating to post-2014 agreements continues to implementation.

If any legal challenge to the first part of the scheme was successful, that would reduce the scope of the FCA redress scheme and thus lenders’ compensation payments due under that scheme. However, it would also open the way for claimants to take pre-2014 claims to the courts, potentially creating legal, administrative and possibly also compensation costs for lenders.

Background

As well as his time as Rail Regulator, overseeing the privatisation of Railtrack, Swift also led a 2021 review of the FCA’s conduct in respect of mis-selling by banks of Interest Rate Hedging Products (IRHPs), over the period 2001- 2011.

Swift’s findings were critical of the decision to limit the scope of a proposed redress scheme to “non-sophisticated” customers, and decisions which meant  about 10,000 sales of IRHPs to customers designated by the FSA (the FCA’s predecessor or the FCA’s rules as private customers/retail clients were excluded, which reduced complaint numbers by about 10,000 cases and left about a third of the total with no relief other than through the courts, the FOS (only if they were an individual or a micro-business), or through the banks’ existing complaints procedures.

In his summary to his report Swift commented on the redress approach saying  “what had started off as a broad test of what was fair and reasonable evolved into a complex set of rules. These included a hypothetical question, or counterfactual, as to what the customer would have done had the bank not been in breach.” He also highlighted issues with the transparency and monitoring of the eventual scheme.