FCA modified scheme totals £7.5bn redress

The Financial Conduct Authority (FCA) has published final details of its industry-wide motor finance redress scheme, including tighter eligibility criteria which the regulator says mean only those treated unfairly receive compensation. As a result 12.1m agreements are now eligible for compensation, down from 14.2m at consultation, with firms expected to pay out around £7.5 billion in redress, down from £8.2 billion.

Finance Connect is hosting a webcast, sponsored by Odessa, on 2nd April at 9:30am to explore and examine the FCA motor finance redress scheme and outline what steps you should take next. Register now to secure your place.

The FCA says it has modified its approach to ensure that consumers are not put back in a better position than they would have been had they been treated fairly, so in around 1 in 3 cases compensation will be capped.  It has adjusted how compensation is calculated to better reflect greater loss between 2007-2014 but has also split the scheme into two elements in anticipation of any potential legal challenge regarding timeframes.  

Changes from the original proposals means agreements involving minimal commission or zero APRs will not receive redress. Where a lender can prove there were visible links with a manufacturer and dealer, a contractual tie alone will not trigger compensation. The threshold for high commission cases has been modestly raised.

Scope

The FCA has not changed its status on the timeline for claims. Under the scheme, motor finance agreements taken out between 6 April 2007 and 1 November 2024 where commission was payable by the lender to the broker will be considered for compensation.

The regulator says if complaints stretching back to 2007 were not covered they would need to be dealt with individually by firms, the Financial Ombudsman Service and through the courts, resulting in higher costs, lengthy delays and greater uncertainty.

However, recognising that this decision may see legal challenge by lenders, the FCA is to implement two schemes: one covering 6 April 2007 – 31 March 2014 and one from 1 April 2014 – 1 November 2024. The FCA maintains that if the earlier period is subject to legal challenge, redress for consumers with agreements from April 2014 should not be delayed.

Eligibility

Consumers will only be considered for compensation if they were not told details of at least one of three arrangements between the lender and the broker (usually the dealer):

1. A discretionary commission arrangement (DCA), which allowed the broker to adjust the interest rate the customer would pay to obtain a higher commission.
2. A high commission arrangement (at least 39% of the total cost of credit and 10% of the loan).
3. Contractual ties that gave a lender exclusivity or a right of first refusal, except where the lender can prove there were visible links with the manufacturer and dealer.

There will be some exceptions, with cases considered fair, if:

• The commission was £120 or less for agreements beginning before 1 April 2014 and £150 or less from that date. Commission amounts below those levels are unlikely to have influenced the consumer’s decision or broker’s behaviour.
• The borrower was not charged interest.
• The DCA was not used to earn discretionary commission.
• The lender can prove, in certain limited circumstances, it was fair not to disclose one of the arrangements above or that the consumer did not suffer any loss. This includes if a tie was not operated in practice or no better deal was available.

Exclusions

Consumers who have successfully complained to the Financial Ombudsman, had their claim determined by a court or accepted redress will be excluded from the scheme.

Claims for high value loans – higher than 99.5% of other loans that year – are also excluded, as they are not suitable for a mass-market redress scheme. These consumers can still complain to their lender and the Financial Ombudsman.

Consumers generally have six years to bring a claim, but that may be extended where information about commission or a tie was deliberately concealed. The FCA says it does not expect lenders to routinely find that cases are out of time to be considered for the scheme, given how poor disclosure was.

However, firms can exclude cases only involving high commission and ending before 26 March 2020 if they can show that the fact commission was payable was clearly and prominently disclosed. If firms rule consumers out of the scheme on this basis, they must inform them and explain why. The consumer will have the right to challenge this with the Financial Ombudsman.

Consumers whose arrangement is deemed fair under the scheme can ask the Financial Ombudsman to review whether the scheme rules were followed. They could still make a claim in court.

Calculating redress

Approximately 90,000 consumers whose cases align closely with the Johnson case considered by the Supreme Court will receive redress of all commission plus interest. These are defined as cases involving an undisclosed contractual tie and/or DCA and very high commission of at least 50% of the total cost of credit and 22.5% of the loan.

For all other cases, consumers will receive the average of estimated loss and the commission paid, plus interest (the hybrid remedy). The estimated loss is based on economic analysis that shows there was a difference in the APR on DCA loans compared to those with flat fee arrangements.

The FCA says it has enhanced its analysis, following feedback, incorporating more agreement data and covering a longer period of 2017-2021. It estimates average loss to be equivalent to an APR adjustment of 17% for this period and apply it to agreements from 1 April 2014.

DCA

Firms have advised that the availability of pre-2014 data is limited. The FCA says collecting such data risks delaying compensation for consumers and certainty for firms with no guarantee it would materially improve any estimate of loss.

The regulator argues that feedback and supporting evidence from respondents indicate that more harmful forms of DCA were more prevalent in earlier years. Differences between average DCA and non-DCA APRs were also larger during this period, indicating greater financial loss.

To reflect that, it has set an APR adjustment of 21% for pre 2014 cases. This sits at the mid-point between a 17% and 26% APR adjustment. The latter figure is, on average, equivalent to being repaid commission, which is the remedy reserved for those who suffered the most unfairness. The difference between APR-17% and APR-21% results in an increase to average redress of £31 for pre 2014 cases.

The FCA is also using these APR adjustments for the relatively small number of cases that did not involve a DCA, but involved high commission or a tie.

Hybrid remedy

The FCA view is that consumers should not be compensated more than if they had been treated fairly or than those who suffered the most unfairness. So in around 1 in 3 cases receiving the hybrid remedy, compensation will be capped at the lowest of:

• 90% of commission plus interest.
• The total cost of credit, adjusted to account for a minimal cost offered to only 5% of the market at the time, excluding 0% APR deals.
• The actual total cost of credit, calculated on a simpler basis. This may be the lower figure if the adjusted cost of credit cannotbe accurately calculated, for example, if the lender doesn’t have the payment schedule.

This means that about 64,000 agreements, where the APR was in the lowest 5% offered in the market at the time, excluding 0% deals, will not get compensation.

Simple interest will be paid on compensation, based on the annual average Bank of England base rate per year plus 1% from the date of overpayment to the date compensation is paid. There is a floor so the minimum interest rate consumers will receive for any year is 3%. Consumers will no longer be able to challenge the rate they get.

Scheme operation

There will be a short implementation period so firms can prepare. This will be up to:

• 30 June 2026 for loans taken out from 1 April 2014.
• 31 August 2026 for those agreed earlier.

People who have already complained or complain before the end of the relevant implementation period will be compensated sooner. Lenders will have three months from the end of the implementation period to let complainants know whether they are owed compensation and how much.

Firms will only have to contact people who have not already complained if they are potentially owed money or those who are timed out of the scheme and have six months from the end of the relevant implementation period to do so. Consumers must respond within six months if they wish to join the scheme. Consumers who are not contacted can still complain to their firm by 31 August 2027.

Lenders can use a range of communication channels that best meet consumers’ needs, with appropriate safeguards to prevent fraud.

Cost of redress

Based on further analysis, the FCA’s current estimate is that 75% of eligible consumers will take part, resulting in firms paying redress of £7.5 billion. Non redress costs are estimated to be £1.6 billion, taking the likely total bill to firms to £9.1 billion, down from £11 billion at consultation.

Register now for the Finance Connect webcast, sponsored by Odessa, on 2nd April at 9:30am to take a deep dive into the FCA motor finance redress scheme and outline what steps you should take next.