The Financial Conduct Authority (FCA) has announced proposals for a new Consumer Duty which is intended to set higher expectations for the standard of care that firms provide to consumers.
The much-anticipated Consultation Paper (CP) follows the FCA's 2018 "Approach to Consumers" document, in which the regulator acknowledged that a clear statement of expectations which goes beyond the existing Principles was needed.
In terms of scope, the proposals relate to products and services sold to 'retail clients', a wide term which includes financial services offered to SMEs. The plans cover all firms involved in the supply of such products and services, even if they do not have a direct relationship with the end customer.
Why is a Consumer Duty needed?
Many firms who already comply with the existing Principles and TCF outcomes will probably be wondering why this new Consumer Duty is needed. Indeed, the FCA does acknowledge that many firms already demonstrate good practices in consumer protection, however it wants to go further. The regulator has noted that there are still poor practices in retail markets which lead to consumers not always getting the products and services that best meet their needs. The FCA says examples of poor practices which continue to cause consumers harm include:
- firms providing information which is misleading or presented in a way which is difficult for consumers to understand
- products and services that are not fit for purpose in delivering the benefits that consumers reasonably expect, or are not appropriate for the consumers they are being sold to
- products and services that do not represent fair value
- poor customer service that prevents consumers from taking timely action to manage their financial affairs and making use of products and services, or increases their costs in doing so.
The FCA is concerned that such practices could lead to consumers being unable to make informed decisions which may result in them buying products and services that are risky or inappropriate for their needs. It could also mean that they may find it harder to switch or get a better deal elsewhere.
A new Consumer Duty
So what actually is the Consumer Duty? Building on the FCA's "Approach to Consumers" document, the Consumer Duty is a package of measures comprising three parts. A new Consumer Principle will provide an overarching standard of conduct for firms. This will be supported by a set of cross-cutting rules and outcomes which will set clear expectations for firms’ cultures and behaviours.
The FCA wants to introduce a new Consumer Principle to set a higher standard than the existing Principle 6. As a reminder, Principle 6 requires firms to 'pay due regard to the interests of [their] customers and treat them fairly'.
The FCA is consulting on two options for the wording of the Consumer Principle:
Option 1: 'A firm must act to deliver good outcomes for retail clients' – this places the focus on consumer outcomes and the impact of firms' actions on consumers. The FCA recognises that the concept of a 'good outcome' does not have an established legal meaning but says that the rules and guidance in the CP should help firms establish what 'good' means. The FCA has also stressed that this option would not be limited to delivering the 'four outcomes' alone; and
Option 2: 'A firm must act in the best interests of retail clients' – the 'best interests' concept will be familiar to firms as it already exists in various parts of the FCA Handbook. The CP notes that outside the FCA Rules, 'best interests' is sometimes used in the context of fiduciary relationships, however the FCA has stressed that its intention is not that the Consumer Principle would give rise to a fiduciary relationship between firm and consumer.
The FCA's view is that firms will achieve the best consumer outcomes if they take an holistic approach. The regulator is therefore planning to introduce a set of new cross-cutting Handbook rules and guidance that will help to develop the standards of conduct expected under the Consumer Principle. These new rules will require the following three key behaviours from firms:
Take all reasonable steps to avoid foreseeable harm to customers – the FCA says this applies to firms' conduct, products and services, and moreover that firms should take proactive steps to avoid this harm wherever they can. This is about understanding consumers and not taking advantage of their vulnerabilities, behavioural biases or lack of knowledge. It is about firms making sure the information they provide to consumers is fair, does not disguise benefits and risks, or bury key terms in documents firms know consumers won't read.
However, the CP does note that many products are simply just risky and so it does not expect firms to protect consumers from risks they reasonably believed the consumer understood.
Take all reasonable steps to enable customers to pursue their financial objectives – the FCA acknowledges that consumers should be empowered to make their own choices and ultimately must be responsible for their own decisions. However, it expects firms to create an environment in which consumers can act in their best interests. Firms should use their knowledge of how consumers behave, taking into account any customer vulnerabilities, to support them in making good decisions.
Act in good faith towards customers – the FCA notes that there is generally an imbalance in bargaining position, knowledge and expertise between consumers and firms and so it is critical that firms act openly and honestly with consumers. If they don't, consumers cannot reasonably be expected to take responsibility for their decisions.
Building on the first two elements of the Consumer Duty, the four outcomes are intended to set clear expectations for firms' cultures:
Outcome 1: Communications – 'communications equip consumers to make effective, timely and properly informed decisions about financial products and services'. The FCA wants firms to consistently support consumers through their interactions with them, by giving them the information they need, at the right time and in a way they can understand. Firms should put themselves in consumers' shoes and make sure their communications are understandable at each stage of the lifecycle. Firms will not need to verify that all individual customers have in fact understood the information but they need to have taken appropriate steps to satisfy themselves that any communications are reasonably likely to be understood by the recipients.
Outcome 2: Products and Services – 'products and services are specifically designed to meet the needs of consumers, and sold to those whose needs they meet'. The FCA is concerned about products on the market that, for instance, generate a high proportion of profits from late payment fees or relending. It is also concerned about distribution strategies that are not properly targeted, for example selling packaged bank accounts to consumers for whom the benefits are unlikely to justify the price. Product providers and distributors should work to ensure that products and services meet an identified need and are fit for purpose. The FCA considers this an essential element of representing fair value to customers.
Outcome 3: Customer Service – 'customer service meets the needs of consumers, enabling them to realise the benefits of products and services and act in their interests without undue hindrance'. The FCA is concerned about practices which deliberately hinder consumers from taking action that would benefit them, for instance discouraging exit from a product or service by requiring an in-person branch visit to do so. The FCA is therefore looking to firms to design pre- and post-sale processes in a way that actively take consumer needs into account. Firms should ensure they deliver customer service that meets consumers' needs throughout their relationship with the firm.
Outcome 4: Price and Value– 'the price of products and services represents fair value for consumers'. Firms should set prices so they represent fair value. Firms should be assessing this at the design stage, before they offer the benefits, and then should actively assess the costs throughout the product's life. When considering the pricing, firms will need to be particularly aware of vulnerability and protected characteristics which might have the effect of charging certain consumers more.
Terms and themes
The duty is a "consumer" duty. The CP suggests that when formulating its thinking, the FCA had in mind the investment marketplace, because it suggests that when it says "consumer" it actually really means someone who is a "retail customer" for the purposes of the Conduct of Business Sourcebook – which is of course a term reserved only for designated investment business. In the other conduct of business modules, different terms are used, and sometimes different thresholds. But, despite this initial apparent focus on investment, it is clear that a number of the concerns that have led to the proposals come from the insurance and retail banking and lending markets, as many of the examples in the CP illustrate. Moreover, the consultation is littered sometimes with references to "consumer" and sometimes to "customer" – a difference which the FCA seeks to explain by saying that when it refers to "customer" it refers to an actual, specific customer of a firm, whereas "consumer" is a term designed to include all potential customers. This is significant in the context of many of the comments made in the CP about the suitability for products for target markets and the responsibilities of all in the distribution chain.
It is also interesting to note the stress the CP places on specific behaviours, some of which regulatory initiatives are already addressing. For example, there are many parallels with the many recent initiatives in the insurance markets, including the most recent rules on addressing the loyalty penalty, and it makes many references to "sludge" practices in certain markets – by which it means elements that will hinder consumers in making decisions which are in their best interests, such as making it hard for them to find details of cancellation rights. While this has been a concern for some time, the consultation notes that the increasing use of mobile apps highlights the problem. The concerns on the clarity of communications is also closely related to the current initiatives to review the way in which financial promotions are made and approved.
What is the impact on consumers and firms?
The new measures will give consumers confidence that the financial products and services they buy represent fair value and are designed to deliver the benefits they expect. The Consumer Duty will ensure that consumers receive clear and comprehensive information from firms to enable them to properly assess which products and services are most likely to meet their needs. That said, and as the CP acknowledges, the information-intensive requirements of sectoral legislation can create a challenge, especially in the increasingly digital environment in which consumers now choose their financial products.
The FCA says the Consumer Duty is like another Principle so it will probably appear in PRIN alongside appropriate guidance. Whilst the FCA clearly views the Consumer Duty as having wider application, the CP does acknowledge that there is an overlap between the Consumer Duty, and Principles 6 and 7 and the TCF outcomes. In proposing not to replace the existing Principles, the FCA will need to ensure that there is no potential for confusion about the purpose of the (albeit slightly) differing standards, and which standards it will be expecting firms to meet and assessing them against in any given circumstance.
So, what does the Consumer Duty actually mean for firms in practice? Does it not simply codify the good practices most firms already demonstrate in relation to TCF and consumer outcomes? Whether it does or not, there will be added burdens on firms to prove compliance with the Consumer Duty, through ongoing monitoring and testing of their processes and procedures. Firms should also be prepared to provide evidence of such compliance to FCA if required. Firms will welcome the acknowledgement in the CP that consumers should be able to take their own decisions, but firms must provide them with all the relevant information to enable them to do so; and they will also welcome the recognition that sometimes there will be poor outcomes that are not the fault of the firm. However, they will also be concerned about when, in practice, the regulator will accept a no-fault poor outcome.
The final aspect of the CP is whether there will be a new private right of action introduced to give individuals remedies if they have suffered because a firm breaches the Consumer Duty. The CP suggests that the FCA's jury is very much out on this, wanting to weigh consumer protection against the significant risk that firms may become risk averse and thereby limit consumer choice.
The recently enacted Financial Services Act requires the FCA to have made rules on the Consumer Duty by 1 August 2022. The FCA therefore intends to consult on the drafting of the new rules before the end of the year, with a view to implementing the proposed changes by 31 July 2022.