FCA to force investment advisers to hold extra capital for redress

The proposals seek to ensure that the 'polluter pays' for the redress costs they generate.

Related topics:  Finance News,  Regulation
Rozi Jones | Editor, Barcadia Media Limited
29th November 2023
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"Diligent advisers are having to compensate through the levy for the bad advice of their failed competitors. That needs to change. It is important that the polluter pays."
- Sarah Pritchard, executive director of markets at the FCA

The FCA has announced proposals to require investment advisers to set aside capital so that they can cover compensation costs and ensure the 'polluter pays' when consumers are harmed.

The proposals would require personal investment firms to calculate their potential redress liabilities at an early stage, set aside enough capital to meet them and report potential redress liabilities to the FCA. The regulator says any firm not holding enough capital will be subject to automatic asset retention rules to prevent them from disposing of their assets.  

The Financial Services Compensation Scheme (FSCS) paid out nearly £760m between 2016 and 2022 for poor advice provided by failed personal investment firms. 95% of this was generated by just 75 firms.

The proposals seek to ensure that the 'polluter pays' for the redress costs they generate.

In a statement, the FCA said: "It will be those who provide bad advice who will be responsible for setting aside enough capital to compensate for it. In turn, the proposals will create a significant incentive for firms to provide good advice in the first place and to right wrongs quickly."

The proposals are designed to be proportionate, building on existing capital requirements. The measures would exclude around 500 sole traders and unlimited partnerships from the automatic asset retention requirements. Firms that are part of prudentially supervised groups, which assess risk on a group-wide basis, would also be excluded.

The FCA is seeking feedback from the industry and other stakeholders and is extending its consultation period to 16 weeks, supplemented with an programme of industry outreach, until 20 March 2024.

The FCA expects to publish the next steps in the joint review of the Advice Guidance Boundary which it is conducting alongside the Government in the coming weeks.

Sarah Pritchard, executive director of markets at the FCA, said: "We want to see a thriving financial advice market to make sure consumers can access the support they need from financially resilient advice firms that want to do the right thing. Diligent advisers are having to compensate through the levy for the bad advice of their failed competitors. That needs to change. It is important that the polluter pays.

"We want to hear from industry and consumer groups on our proposals. Please do let us know what you think so that we can reform the way the current framework operates to ensure that those polluting the sector pay."

Liz Field, chief executive of the Personal Investment Management & Financial Advice Association (PIMFA), commented: “We note the FCA's proposals on extending capital requirements to personal investment firms to cover future consumer redress.

“We strongly believe in, and have argued the case for a number of years, for a ‘polluter pays’ model to compensate consumers that have received a poor outcome, and we are aware of the moral hazard the existence of the FSCS provides for well-run firms funding the misdeeds of others. 

“We would stress the need for these proposals to be proportionate, and specifically not to act as a barrier to firms wishing to enter the market. While we do strongly believe that these proposals will incentivise good advice, the FCA must be mindful that it does not strangle the supply of advice to consumers.

“We look forward to engaging with the consultation process and would urge the FCA to be mindful to the fact that, at least initially, firms will face the prospect of two charges by way of the FSCS levy and the requirement to hold additional capital as proposed. We still believe additional sources of funding to subsidise the FSCS levy should be considered to reduce this burden and would continue to urge the FCA and Treasury to consider FCA fines to subsidise the FSCS levy in the short term.”

Steven Levin, CEO of Quilter, added: “We are fully supportive of the polluter pays model. It means that bad actors who have caused harm, or threatening to harm consumer outcomes will be penalised for their failings. While we need to understand the detail, it is likely that quality firms will broadly support this type of reform, which could serve to build trust with consumers and give greater confidence in advice in the longer term.

“We expect that larger firms, such as Quilter, already operate capital models that include the need to actively monitor for potential client remediation and, as such, already incorporate this methodology in their approach when determining the capital requirements of the business.

“While it may create additional work for smaller firms, as they will need to rigorously understand any potential need for future redress, it is better than the current unpredictable and significant ad-hoc costs under the FSCS which makes effective business planning difficult and can have a knock-on impact on investment in other areas.

“Through a more rational model for the capital that needs to be set aside and the right support that enables good client outcomes on a consistent basis, firms will be able to invest in the future growth of their business without the uncertainty of unexpected levies derailing their plans.”

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