Implementing the Consumer Duty: are retail financial markets ready?

On 3 March 2023, the Financial Conduct Authority (“FCA”) issued five more ‘Dear CEO’ letters addressing the upcoming deadlines for relevant firms to implement the Consumer Duty (the “Consumer Duty”) - the standard of care that firms should give to customers in retail financial markets. Copies of these letters can be found:

• FCA - Implementing the Consumer Duty in Credit Brokers

• FCA - Implementing the Consumer Duty in Mortgage Intermediaries

• FCA - Implementing the Consumer Duty in Credit Unions

• FCA - Implementing the Consumer Duty in the Retail Finance Providers portfolio

• FCA - Implementing the Consumer Duty in the Motor Finance Providers portfolio

In July 2022, the FCA published the final rules and guidance for firms in respect of the Consumer Duty, a copy of which can be accessed here (FG22/5, the “Finalised Guidance”). Looking forwards, by the end of April 2023, manufacturers should have completed all reviews necessary to meet the relevant rules requiring them to share necessary information with their distributors. The Consumer Duty comes into force on 31 July 2023 (for any new and existing products or services that are open to sale or renewal) and on 31 July 2024 (for any closed products or services).

We have considered each of the five ‘Dear CEO’ letters in turn, focusing on their individual impact in their respective industries and highlighting any key takeaways.

The FCA, in the case of each of the ‘Dear CEO’ letters, has placed great weight on the protection of consumers due to the increased prevalence of financial crime, and as a result of the cost-of-living crisis, which the FCA discusses here. The FCA has also highlighted the key aspects deemed to be “especially important”:

• Design services that meet the needs, characteristics and objectives of a specified target market.

• Offer products and services that provide fair value with a reasonable relationship between the price consumers pay and the benefit they receive.

• Communicate in a way that supports customer understanding and equips consumers to make effective, timely and properly informed decisions.

• Provide support that meets consumers’ needs throughout the life of the product or service that the industry provides.

Credit Brokers

The FCA outlines key aspects of the Consumer Duty which ultimately extends a firm’s duty to their customers further, focusing on the characteristics and objectives of specific target markets (being sure not to restrict customers from acting in their interests or exploiting a customer’s behavioural biases); ensuring products and services are offered at a fair value (and disclosing to customers when a refund is payable – including pursuant to section 155 Consumer Credit Act 1974); providing customers with full, prominent and timely information regarding the credit broking services provided by their firm; and ensuring that the staff brokers have sufficient training, knowledge and experience to properly support a customer’s needs throughout the duration of the product or service’s lifespan.

Particular focus areas for credit brokers include:

• ensuring that a communication or financial promotion is ‘clear, fair and not misleading’, complies with the relevant rules in CONC 3, and that prohibited terms are not used (e.g. any reference to a customer’s guaranteed acceptance);

• carefully checking that their regulated status is clear to consumers; and

• a reminder that, since 8 December 2022, new rules strengthened the oversight of appointed representatives by principals. Principal firms need to check they have appropriate controls in place to oversee activities and ensure compliance with the Consumer Duty.

Mortgage Intermediaries

In a similar vein to those key listed factors in relation to credit brokers, mortgage intermediaries are expected to ensure that they understand the target market for which the product was designed by the manufacturer, adding an element of third party communication.  Further, they are expected to ensure that their strategy for intermediating sales is appropriately targeted to relevant consumers depending on their characteristics.   They should also be clear on their role within the distribution chain bearing in mind that they distribute products designed by lenders but also design and operate their own advisory service.

Second charge and lifetime mortgages are highlighted by the FCA as higher risk products given their target markets and the increased likelihood that customers will have characteristics of vulnerability.

To ensure fair value and clear communication, mortgage intermediaries are expected to seek and obtain from the manufacturer a summary of the benefits of any given product; full and transparent information in relation to price or fees; and confirmation that the manufacturer considers that the total benefits are proportionate to the total costs. Given the methods used by mortgage intermediaries to provide their services, the FCA also requires them to provide customers with easy access to properly assess key information in relation to products; especially when mortgage intermediaries make use of different channels to intermediate their products.

Mortgage intermediaries are expected to provide a “balanced picture” of costs, risks and any connected benefits of any given product.  The FCA has suggested that lifetime and second charge mortgages can also present a higher risk from a value point of view due to significant differences in pricing structures to standard mortgage products.   

It is recognised by the FCA that segments of the mortgage market are more likely to display vulnerability characteristics- customers may have additional needs or be at a greater risk of harm in the event that things go wrong. Firms are expected to actively consider how to provide appropriate support both (i) at the points of sale; and (ii) over the life term of the  product or service. It is expected that the service will be adapted for each different segment of customers.

There is a specific focus on the threat and risks associated with mortgage fraud.  The FCA notes that some intermediaries have inadequate systems and controls to mitigate against fraud and can be used to facilitate fraudulent applications.  Good cyber controls are also essential to ensure protection of consumer data.

Particular focus for mortgage intermediaries include:

• the rising cost of living and economic downturn may increase demand for second charge advice and lifetime mortgages. Firms are to be mindful of the rising interest rates and less disposable income which may impact suitability and affordability; and

• a reminder to firms that they cannot impose excessive charges on customers where MCOB12 applies.

Credit Unions

In relation to credit unions, the FCA directly links to their ‘Portfolio Strategy letter for Credit Unions’, a copy of which can be found here which outlined risks which the FCA considered relevant when considering their implementation of the Consumer Duty.

Credit unions are expected to introduce and implement risk management frameworks to prevent risks of harm to members going undetected. The FCA focuses on risks associated with cyber security threats and consumer scams, with the burden of managing the same risks and protected customers on the individual firm. The same is true in the case of both money laundering and financial crime.

The Financial Services and Markets Bill contains amendments to the currently in force credit unions Act 1979. The same introduces an option for credit unions to offer a list of new products to their members. It is noted that the Consumer Duty will apply to all regulated activities. As with products offered historically, credit unions must ensure that any new products meet the needs of consumers. To this end, credit unions should consider the (i) affordability of the products; (ii) the complexity of the product and whether a consumer can realistically understand the costs and benefits associated with the same; and (iii) information available and whether a consumer would have sufficient information to understand the benefits and risks associated with a product that would enable them to make a properly informed decision.

Particular focus for credit unions include:

• consideration of third parties and ensuring that they are suitably managed. Any third parties that a credit union engages are also expected to properly “oversee and test the outsourced activities; identify, monitor, and mitigate against risks arising; and properly manage an exit or transfer from an existing third-party provider”;

• ensuring that they anticipate and plan for scenarios they may face testing both their financial and operational resilience;

• recognition that any future products introduced pursuant to the Financial Services and Markets Bill must also meet the needs of their customers;

• having particular awareness to customer vulnerabilities, but especially those resulting from the cost of living crisis; and

• ensuring that, as well as considering the non-handbook guidance, firms are applying equivalent resources to supporting customers and delivering good outcomes for them as to generating sales and revenue.

Retail Finance Providers

The FCA sets out the importance of firms’ distribution strategy for the target market, which should be identified at a sufficient “granular” level with regular review. Firms must assess whether there is a reasonable relationship between the total price of the product and the benefits the customer receives. The FCA are clear that ‘fair value’ is about more than just price – it includes unsuitable features (unmanaged commercial or staff incentives) which firms must review to ascertain if such features could lead to foreseeable harm. In addition, financial promotions should be clear, fair and not misleading, containing accurate and balanced information.

Particular focus areas for retail finance providers include:

• adequate systems to assess affordability to deliver outcomes that ensure consumers do not become overindebted, with CONC 5 in mind;

• innovation in this industry to ensure there is a competitive market to meet the varied needs of customers. In doing so, firms are reminded that a change in business model might trigger a notification in line with SUP15.  The FCA also highlights that incentives and commission models need to be carefully reviewed to prioritise a healthy culture where staff are adequately trained to prevent inappropriate sales practices causing harm to consumers and to identify vulnerabilities and handle them appropriately.

• a review of their approach to product sales, arrears management and collections to identify whether harm is foreseeable (and prevent this); and

• a balanced picture is provided to customers which is clear and transparent.

Motor Finance Providers

This CEO letter is aimed at firms involved in both lending and hiring (regardless of size). The FCA acknowledges that the market faces challenges, in particular around the control of dealer networks and oversight of these by the lender. The challenges foreseen surround the adequacy of the point-of-sale information and the changes in the market/consumer behaviour (ownership, alternative fuel vehicles (“AFVs”) and increased digitisation). Firms also need to be mindful of their commission models and have regard to the rules in PS20/8.

Particular focus areas for motor finance providers include:

• the need for adequate systems to assess affordability (including the total amount payable and not just the monthly spend). It is clear that affordability assessments remain a challenge because firms use different assessment criteria and approaches. While some utilise ONS (Office of National Statistics) data, others focus on open banking or transactional data (or a combination of sources), all of which result in different outcomes for consumers regarding their eligibility;

• ensuring consumers understand that AFVs may require ancillary services/charging points in addition to funding the vehicle;

• the need to have adequate oversight of dealer/broker networks and monitor point of sale compliance with CONC rules. This is accepted as a challenge by the FCA, but is included in the topics which firms need to consider; 

• the FCA highlight that there has been a shift in consumer behaviour and attitudes from ownership to usership and firms should have clear agreement terms to help the consumer understand the risks and benefits, the rights and responsibilities and the protections available under the different types of agreements; and

• the FCA’s Borrowers in Financial Difficulty review found that firms could do more to encourage customers to engage, particularly when payment issues start to arise. The FCA expects firms to provide customers in financial difficulty with appropriate and tailored forbearance that is both in their interest and takes account of their individual circumstances.

Next steps

The FCA has identified the following three key areas where all firms should focus their attention during the second half of the implementation period (up to 31 July 2023):

• effective prioritisation ensuring that, where some implementation works are prioritised over others, there is a focus on reducing the risk of poor consumer outcomes;

• embedding the substantive requirements of the Consumer Duty, being careful not to consider the FCA’s guidance superficially; and

• working with other firms to implement the Consumer Duty within the time constraints. It has been acknowledged by the FCA that firms may need to work and share information with other firms in their distribution chain. However, all firms should be alive to the fact that some may need to accelerate the implementation of an aspect of the Consumer Duty in comparison to another.  

The FCA expects all CEOs to be responsible for their respective firm’s assessment of the FCA’s requirements and put plans in place to ensure that any gaps or shortfalls are rectified. CEOs should take all necessary actions to ensure these are met and to hold their senior managers accountable for managing these risks. Firms should also have a Consumer Duty ‘champion’ at board (or equivalent management body) level.

The FCA have made it clear that the cost of living crisis is an important context for the Consumer Duty. In a recent FCA speech, Sheldon Mills (Executive Director FCA, Consumer and Competition) highlighted:

“…what this looks like in practice, we can look at the plight of homeowners who are struggling with rising mortgage costs. Or to savers who often wait longer for the corresponding rise in their interest rates. We would remind firms that the [Consumer] Duty needs to deliver good outcomes for customers in financial difficulty and that retail customers need to be offered fair value. 

And of course, hard economic times hit those at the bottom of the financial ladder the hardest so the [Consumer] Duty does carry responsibility to look out for customers in vulnerable circumstances.”

There is no doubt that the Consumer Duty sets high expectations for firms and that consumer protection and fair competition sits at the heart of the FCA’s strategy. The upcoming deadlines are fast approaching and, to meet this deadline, firms ought to be well underway with their planning given the complexity of governance processes and the requirement to share with FCA supervisors their implementations plans, board papers and minutes.

Remember, firms need to be able to evidence how they have implemented and complied with the Consumer Duty, which will likely require enhancements to their record-keeping systems. Thorough, consequential and contemporaneous records will be critical to enable firms to evidence that they are delivering good customer outcomes. If firms are not able to complete the necessary work to comply with the Consumer Duty before the implementation deadlines, they must notify the FCA under SUP15.3.11R.

Other ‘Dear CEO’ letters issued by the FCA:

• asset management, custody & fund services and alternatives - read our article, "The FCA's Dear CEO Letter on Asset Management Supervision Strategy"

• claims management companies (CMCs)

• consumer investments

• contract for difference (CFD) providers

• credit brokers

• credit reference agencies and providers of credit information services

• credit unions

• debt advice firms

• debt purchasers, debt collectors and debt administrators

• general insurance and pure protection firms

• high cost lenders

• life insurance

• mainstream consumer credit lenders

• mortgage intermediaries

• mortgage lenders and administrators

• motor finance providers

• payments services and e-money

• retail finance providers

• retail banks and building societies