On 1 April 2014, the Financial Conduct Authority (FCA) assumed responsibility for the regulation of consumer credit activities. Firms are now required to comply with the new consumer credit sourcebook (CONC), as well as the FCA's Principles for Businesses (PRIN), Threshold Conditions (COND) and other regulations such as Senior Management Arrangements, Systems and Controls (SYSC). However, they should also be looking at how they act in the spirit of the regulations, how they can demonstrate that good customer outcomes are central to their culture and how they can evidence this to the FCA.
"There is an emphasis here not only on being compliant with the rules from day one, but also revisiting more fundamental questions of culture, ethics, business models and the like." - Martin Wheatley, Chief Executive Officer, FCA.
Consumer credit firms will face a rigorous assessment at the authorisation gateway and will be compared against their peers, as well as being required to evidence that they have met the FCA's Threshold Conditions. For many, this is the first dialogue they will have with the new regulator and it is vital for firms to have an open, honest and proactive relationship with the FCA.
The FCA expects 25% of applicants will not meet the required standards for authorisation and will be forced to drop out of the market. The regulator is also likely to take tough and swift supervisory action on any firms where cases of customer detriment are identified. Cases may be referred to enforcement and any action taken is likely to be widely publicised to reinforce the FCA's credible deterrence strategy.
The FCA has gained significant market intelligence from working with the Office of Fair Trading (OFT) in the run up to the transition and will be able to identify poor practices where the OFT has been unable to discipline firms, but where the FCA now have the requisite powers to do so.
Based on our experience of working with consumer credit firms and expectations of the regulator, we anticipate firms to face challenges in the following five key areas:
1. Governance arrangements
For the first time in the consumer credit space, senior management will need to seek FCA approval and governance structures will face tough scrutiny. The FCA has made significant reference to Principle 3 of the PRIN and SYSC rules and we expect it to focus on the skills, knowledge and expertise of staff, reporting lines, escalation of issues, use of third parties, record keeping and conflicts of interest. Individuals will face tough scrutiny, with the FCA performing a thorough review of their past.
Governance structures should allow senior management to have active and effective oversight of all parts of the business and consider how key issues are escalated to the Board and its committees.
Can your firm actively track an issue, from identification and, escalation through to resolution, from Management Information (MI) and meeting minutes? Can it evidence what action was taken to resolve the issue and to ensure it did not recur?
The FCA will look at a firm's business model and how this is underpinned by a culture of doing the right thing for the customer. The Board is responsible for setting the "Tone at the Top" of the organisation and this should be embedded and reflected in policies and procedures, staff training and firm wide communications. Your firm should consider whether:
- Incentive arrangements reflect customer outcomes rather than relying purely on commercial performance;
- Products are designed to add value to the customer;
- Complaints data is escalated to the Board accompanied by appropriate commentary and root cause analysis to ensure fundamental issues are being addressed; and
- It is able to demonstrate that it is acting in the best interest of its customers.
How can your firm evidence the right products are pitched at the right customers? Does the Board receive the right MI to track good customer outcomes?
3. Affordability and debt collection
The FCA has highlighted high levels of debt in the UK, stating that over 9 million people are over-indebted. We expect the regulator to focus on what affordability and credit worthiness assessments are in place, ensuring firms do not lend irresponsibly and that terms and conditions attached to the credit arrangement are made clear to the customer. There are likely to be a wide range of affordability assessment models in the industry and we expect to see significant challenge to some models by the FCA both at, and prior to the full authorisation process. With authorisations being scheduled by sector, the FCA will be able to assess firms' affordability models against their peers. It is important that consumer credit firms can support the appropriateness of their affordability assessment and can demonstrate that this results in the right outcomes for customers; at the very least, there should be consideration regarding what lessons can be learned from past business performance, with this built into any affordability assessment designed.
Particular focus will be given on the arrangements that are in place for when customers fall in to arrears. We expect the regulator to scrutinise how debt is collected, including investigating the calculation and charging practices for late and default fees, any additional lending offered, and how much, if any, advice has been given to the customer.
Are the costs of credit clear at point of sale? What are the steps taken if a customer is over-indebted, and are forbearance options appropriate? Can your firm justify the amount that it charges in fees?
4. Identifying vulnerable customers
We expect the FCA to have a core focus on how firms identify and manage vulnerable customers. A vulnerable consumer is considered to be someone who, due to their personal circumstances, is especially susceptible to detriment. Firms should have embedded procedures and ensure staff are adequately trained to proactively identify, deal with and know where to escalate issues when a customer is considered vulnerable. Barriers to forbearance should be as low as possible and firms should avoid using jargon in policies and contracts to ensure the processes for dealing with vulnerable customers are made as clear as possible.
Would employees be able to recognise the 'triggers' which may indicate that a customer is vulnerable?
5. Financial promotions
The FCA is already looking at financial promotions across the industry to ensure they are fair, clear and not misleading; raising particular concerns where customers are deliberately misled or promotions focus on particular features. We believe particular focus will be given to how clearly terms and conditions are given to customers to ensure they receive all the information about the credit products they use and the price of credit is easy for them to understand. Prices which include multiple components are likely to face additional scrutiny.
Are financial promotions framed in such a way that focus is on the ease of getting credit and fails to disclose all associated fees and the true cost of the credit?
These five key factors are based on our practical experience of working with a number of firms in their preparation for FCA regulation. Consumer credit firms that take these factors into account will be well positioned to meet the FCA standards for authorisation and will be able to demonstrate good customer outcomes.
We would also emphasise how important it is to submit your application on time. Firms failing to meet the timetable will then be operating on an 'unauthorised' basis with resulting potential for disciplinary action.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.