PRIN, class actions and vulnerable customers at risk during the pandemic – Abdulali Jiwaji and Johnny Shearman

By Abdulali Jiwaji

Partner Abdulali Jiwaji and Professional Support Lawyer Johnny Shearman explore the FCA’s preoccupation with the fair treatment of vulnerable customers in these uncertain times, and how the rise of class actions represents an increased risk of litigation for firms, in Compliance Matters.

Abdulali and Johnny’s article was published in Compliance Matters, 8 September 2020. 

As the world’s markets continue to absorb the repercussions of the present pandemic, job losses and financial difficulties for individuals and businesses are inevitable. In this climate, nobody knows how financial institutions will react to their clients’ unprecedented levels of financial distress.

The UK’s Financial Conduct Authority has exhorted firms to obey its rules in their treatment of customers. Although the FCA’s core message here centres on vulnerable customers, firms must be alive to the fact that it will measure ‘vulnerability’ on a sliding scale. Inevitably, because of the depredations of the Coronavirus and in particular the resulting national lockdowns, that scale of vulnerability now looks very different and firms must review internal procedures, guidelines and training to ensure that they are ‘fit for purpose.’

Between April and June of this year, the UK’s GDP fell by a record 20.4%, marking the second consecutive quarterly decline. At that time, approximately 9 million workers were subject to the Coronavirus Job Retention Scheme (commonly referred to as the furlough scheme). Although there has been some pick-up in gainful employment since June, the furlough scheme is due to end in October and many previously robust and viable people and businesses will probably find themselves at a disadvantage, if they are not already.

It is against this backdrop that Mark Steward, the FCA’s Executive Director of Enforcement and Market Oversight, issued a warning to the effect that enforcement action will follow whenever there is evidence of firms treating customers unfairly.

However, firms do not only have to be alert to the threat of regulatory enforcement action. Because of the rise of class actions in the UK [initiated in 2013] they run an increasing risk of litigation from groups of customers who may have been placed at a disadvantage and suffered loss as a result of their actions. They must evaluate this risk even as they try to pick their way through the regulatory landscape.

The FCA’s position

The FCA’s Business Plan 2020/21, published in the midst of the pandemic in April, made it clear even then that the global economy faces massive challenges from the Coronavirus, the effects of which will be felt by millions of consumers and businesses. Those challenges will become more and more complex as government initiatives (such as the Coronavirus Act 2020 and the Corporate Insolvency and Governance Act 2020) are implemented and subsequently withdrawn. These initiatives are undoubtedly having some positive effects, but it is not clear whether those effects will endure in the long run.

In spite of the disruption caused by the pandemic, the FCA remains very keen to ensure that markets function well, that firms protect the most vulnerable and firms also treat consumers and small firms fairly. In order to achieve these results, the FCA has said that it will ensure that the vulnerable obtain the help and financial services that they need. One of its priorities, for example, is that credit should be available to smooth income. However, that credit must be affordable and must not be accompanied by exploitative fees and charges.

Following on from the stance that it struck in the Business Plan, in August the FCA published its latest Guidance Consultation and Feedback Statement on its guidelines that call on firms to treat vulnerable customers fairly. This follows an initial consultative exercise which took place more than a year ago – the delay in publication being attributed to the pandemic.

The consultative exercise regarding the new guidelines will close at the end of this month, with the finalised guidance expected later this year or early next. Once in force, the new guidelines will apply to the supply of products and services to retail consumers who are natural persons, which includes unincorporated businesses such as sole traders and some forms of partnership.

Although the guidelines will not apply to incorporated businesses which may be customers of a firm, firms must still comply with the FCA’s Principles for Business [found in PRIN]. They must also recognise that incorporated businesses may employ individuals with characteristics of vulnerability who will then interact with firms – a point firmly reiterated by the FCA.

The scope of the guidance is wide ranging and in future the FCA will use it to apply a ‘vulnerability lens’ to all of its other supervisory and policy work. Financial firms must therefore realise that they must be similarly embed the fair treatment of vulnerable customers in their businesses. This may require them to consider not only their internal business practices but also the offerings of third-party providers and outsourced functions. It is to be expected, at all times, that vulnerable customers are to be treated at least as well as their invulnerable counterparts.

Fundamentally, to achieve this, firms must not breach Principle 6 of the FCA’s Principles for Business, which requires firms to pay due regard to their customers’ interests and ensure that they are treated fairly. Although the FCA has indicated that the new guidance will not apply retrospectively, firms are already bound by this principle. As the consultative paper makes clear, the ‘vulnerability lens’ will equally apply when enforcement action is taken. That is not to say that the regulator will have to be able to point to specific breaches of the guidelines if it wants to take action (evidence of a breach of Principle 6 will be the basis), but if a firm can show that it has complied with the guidance, this will be a strong starting point from which it might contest enforcement action. It might also reduce any subsequent penalties that it might have to pay.

Redress schemes

Firms must also realise that, more and more, the FCA expects them to take steps to deal rapidly with and remediate systemic failures. This is bound to create tension because the more serious and widespread a breach, the longer it takes to investigate and map out the appropriate steps – and yet, in such a situation, the firm is bound to find it more urgent to resolve problems that beset customers and right wrongs. The FCA will want to see firms adding some structure to their response, with senior managers overseeing things in a meaningful way and appropriate timescales being mapped out.

The deployment of a redress scheme provides no guarantee against enforcement action, but must be part of every firm’s deliberations whenever it has spotted a systemic failing.

The recent fine against the Lloyds Banking group of companies provides an example of the FCA’s opinion about a firm’s appropriate response to a systemic issue. In this instance, even before the FCA’s conclusive finding of failures relating to the handling of customers in payment difficulties, Lloyds had set up a group-wide redress scheme for those affected. This scheme, set up in July 2017, has compensated approximately 526,000 customers and the payments that Lloyds has made in accordance with it total some £300 million. Despite this, however, the FCA still fined Lloyds approximately £64 million by the FCA for its misdeeds.

Although the fine against Lloyds did not set a record in its own right (there have been larger fines for FX manipulation and money laundering issues), when coupled with payments that Lloyds made under the redress scheme, the cumulative total is one of the largest financial hits recently suffered by a bank in the UK to do with “treating customers fairly” issues – and that is without considering any follow-on litigation claims.

Enforcement action

On the enforcement front, the Business Plan shows that for the financial year up to and including 31 March 2020, the FCA achieved 217 results using its enforcement powers, with the fines that it levied adding up to £224,428,900.

Of the four fines publicised in 2020 to date, two have involved breaches of Principle 6 and instances of customers being treated unfairly. Although these numbers are low at this stage of the year, there can be little doubt that the FCA is mindful of the effect of pandemic-related problems and we can expect to see it come down hard on financial institutions that treat customers roughly during the current economic difficulties. The FCA has stated that it will move more swiftly than before to take enforcement action against firms that take advantage of the disruption – no doubt any cases of fraud will be a high priority for its enforcement team.

When it comes to enforcement action, financial firms are at risk of a ‘double whammy’ effect: they have to show the FCA that they are being fair because of customers’ difficulties due to Covid-19 but, at the same time, the pandemic and lockdown have put great strain on people at financial institutions whose job it is to ensure – and show the FCA that they are ensuring – the compliance is effective. Firms that are not able to maintain operational resilience are less likely to be able to treat their vulnerable customers fairly.

Firms may also be exposed to FCA enforcement action if and when failures in their systems and controls lead to their customers (vulnerable or otherwise) being the victims of scams. Scams have reportedly been on the rise since the outbreak took hold, which in turn means that firms are on high alert to ensure that their customers are not the latest targets. In the case of payment scams, for example, the banking sector is about to be under pressure to try to compensate victims of fraud on a voluntary basis, rather than ‘stonewalling’ people who make legitimate complaints.

In recent years, we have seen FCA investigations and enforcement activity dragging out over several years. Part of the reason for this is that the FCA is still dealing with fallout from the financial crisis that began 12 years ago. It has needed to husband resources and that has slowed the progress of some investigations. However, it would be prudent for firms to anticipate a swifter response from the regulator in future, especially if their failures to meet its standards have been consistent.

The FCA has also clearly signposted its intention to target misconduct by senior managers, who will therefore be in the firing line if they fail to take reasonable steps to prevent bad conduct in relation to the areas of business for which they are responsible. The FCA has indicated that firms’ internal records should keep running commentaries of their senior manager’s actions (and their responsibilities) during this period. They should keep these records and make them available to the regulator upon request.

Litigation risk

The past suggests that whenever we see the FCA levy a fine, some degree of litigation is typically in the offing. That was certainly the case following the fines relating to foreign-exchange (FX) manipulation.

Collective redress schemes, such as the one instigated by Lloyds, always go some way towards offsetting the risk of litigation. Large numbers of customers can often be mollified in this way. Even then, however, the risk that some customers may not be able to benefit from the scheme remains real. They might also pursue claims through the courts if they believe that they deserve higher returns.

Firms, then, must bear in mind the fact that the propensity for class actions (such as group or representative claims) is increasing. The infrastructure on which financial firms can draw as they struggle to manage large groups of plaintiffs or (in the UK) claimants is, however, improving all the time. Law firms are more experienced in running cases of this type and technology is now helping with every aspect of class actions, from the ‘book build’ [the job of signing up plaintiffs] through to the verification process [taking notes on the veracity of everybody’s claims]. The courts have also shown that they are open to allowing claims to move forward on a class basis in the interests of efficiency and cost-saving.

As for the funding of class actions, while the market for and conduct of such claims still has some way to go in the UK before it is fully mature, ‘litigation funders’ are increasingly willing to finance them. Many funders operate globally and bring with them experience in jurisdictions where class actions are already commonplace. From now on, any wrongdoing in the current economic climate may prove more costly than ever.

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