Implications of the new Consumer Duty for Asset Managers

The publication of the FCA’s PS22/9 “A new Consumer Duty - Feedback to CP21/36 and final rules” and FG22/3 “Final non-Handbook Guidance for firms on the Consumer Duty” are the culmination of the regulatory process to introduce a new Consumer Duty into UK financial services regulation.

The rules will come into force on 31 July 2023 for new and existing products and services that are open to sale or renewal, three months later than proposed in the consultation paper. For closed products the rules come into force on 31 July 2024.

Many of the proposals in the consultation are being implemented in substantively the same form as consulted upon but there are notable additions and some subtle but significant modifications.

The Consumer Duty comprises:

the Consumer Duty Principle
the so-called Cross-Cutting Rules
the four Outcomes

The Consumer Duty is underpinned by the principle of ‘reasonableness’. This is an objective test to be interpreted in line with the standard that could be reasonably expected of a prudent firm.

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Consumer Duty Principle

The Consumer Duty Principle (Principle 12) is set out in the Principles for Business (PRIN) at 2.1.1R: “A firm must act to deliver good outcomes for retail customers.”

On its scope, note that:

Principle 12 only applies in relation to a firm’s retail market business;
to the extent that Principle 12 applies, Principle 6 (Customer’s interests) and Principle 7 (Communications with clients) do not apply. Principle 12 provides a higher and more exacting standard of conduct.

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Cross-Cutting Rules

The Cross-Cutting rules are set out in PRIN 2A.2. They define how the firm should seek to deliver good outcomes (our emphasis).

Firms must:

a) act in good faith toward retail customers

this does not prevent a firm from pursuing legitimate commercial interests or seeking profit as long as it is done in a manner that is compliant with Principle 12

b) avoid causing foreseeable harm to retail customers

this does not mean a firm has responsibility to prevent all harm (e.g. inherent risks that retail customers accept by selecting that product)

c) enable and support retail customers to pursue their financial objectives

this does not require firms to go beyond what is reasonably expected by retail customers in the delivery of the product

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Four Outcomes

The Outcomes set out the expectations for firms’ conduct in areas that represent key elements of the firm-consumer relationship.

PRIN 2A.3 - Products and Services

Ensure that products and services meet the needs, characteristics and objectives of retail customers in the target market. The outcome applies differently to manufacturers and distributors.

Manufacturers must:

maintain, operate and review a process for the approval of a product and significant adaptations of a product
develop an approvals process for products and services
o for non-closed products:
- identify target market of consumers
- identify whether that market includes vulnerable consumers and take account of their needs
o for closed products:
- maintain, operate and review a process to assess and regularly review whether the firm is not complying with the cross-cutting obligations
- regularly review whether the closed product affects groups of retail customers in different ways (particularly vulnerable customers)
select appropriate distribution channels and give distributors the information they need to understand target market and customers
- avoid causing and mitigate foreseeable harm to retail customers
regularly review products or services and mitigate any circumstances which may adversely affect customers, taking appropriate action if necessary
test their products appropriately, including scenario analyses where relevant
there are further specific rules applicable to co-manufacturing

Distributors must:

develop distribution arrangements for each product and service
avoid causing harm
manage conflicts
ensure the needs of the target market are taken into account
obtain information from manufacturers necessary to understand target market and customers
regularly review distribution arrangements and mitigate any circumstances which may harm customers
ensure specific distribution strategies are consistent with the manufacturer’s intended distribution strategy and identified target market
share relevant sales information with manufacturers
if selling a product or service manufactured by a person not subject to the Consumer Duty, take all reasonable steps to comply with obligations
regularly review distribution arrangements.

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Vulnerable customers and the Consumer Duty

Firms must consider the range of needs in their target market, including characteristics of vulnerability, and factor this in to how they design and sell products and services and support their customers. FCA guidance for firms on the fair treatment of vulnerable consumers remains relevant to firms, despite the disapplication of Principle 6 and the differences in scope.

The FCA has added references to ‘inclusive design’ in their guidance. This is a methodology that involves designing products and services to be accessible and meet the needs of as many customers as possible and can be an effective way to meet the needs of diverse customers (including vulnerable customers). The guidance highlights that this is an option firms may want to consider, although firms are not required to follow this approach.

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Satisfying the products and services outcome by complying with PROD

To avoid firms being subject to two sets of essentially similar rules, asset management firms which currently follow the rules in PROD 3 (for financial instruments and structured deposits) or PROD 4 (for insurance products) can choose whether to follow the rules in PROD or those under the products and services outcome. Failing to comply with PROD would be taken as failing to comply with the products and services outcome.

PRIN 2A.4 - Price and Value

This outcome builds on the FCA’s Asset Management Market Study (“AMMS”) value assessment regime and requires firms to consider what is fair value.

While the FCA is not a pricing regulator, the Consumer Duty consultation included the possibility of regulatory tools being introduced in the future, which could open the door to market intervention.

Firms that meet COLL 6.6, 8.5 and 15.7 will meet the price and value outcome for the purposes of the Consumer Duty, avoiding the necessity to comply with two overlapping sets of rulees.

PRIN 2A.5 - Consumer Understanding

The FCA wants communications with retail consumers to enable them to make informed decisions. This can only happen if consumers are given the information they need at the right time and presented in a way they can understand. This includes both before the purchase of a product and at suitable points throughout the life cycle of the product.

A firm should:

explain and present information in a logical manner
make key information prominent and easy to identify with an appropriate level of detail

PRIN 2A.6 - Consumer Support

The FCA wants firms to provide a level of support that meets consumers’ needs (including those of vulnerable customers) throughout their relationship with the firm. This means customer service should enable consumers to realise the benefits of their products/ services and support them in pursuing their financial objectives.

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Implementation timetable

While the FCA has listened to firms’ concerns in feedback over the timing of the new rules given the risk involved, it agrees with consumer organisations on the need to implement the Consumer Duty as soon as reasonably practicable. The FCA’s compromise is a short three month extension to the implementation period for new and open products and services, but a longer 15 month extension for closed products.

Date	Milestone	Comments
By the end of October 2022	Firms’ boards (or the equivalent management body) should have agreed their implementation plans and be able to evidence they have scrutinised and challenged the plans to ensure they are deliverable and robust to meet the new standards.	Firms should expect to be asked to share implementation plans, board papers and minutes with supervisors and be challenged on their contents. For firms with a monthly board meeting cycle, the implementation plan needs to be included in the board pack for the October board meeting, which would typically be prepared in September - work should start for this in August, when many staff might usually be on holiday.
April 2023	Manufacturers should aim to complete all the reviews necessary to meet the four outcome rules for their existing open products and services.
By end of April 2023	Manufacturers should share with distributors the information necessary for them to meet their obligations under the Consumer Duty (e.g. in relation to the price and value, and products and service outcomes).
By end of July 2023	Identify where changes need to be made to existing open products and services to meet the Consumer Duty and implement these remedies.
31 July 2023	Consumer Duty comes into force for new and existing products and services that are open to sale or renewal.	Delayed by three months from previous implementation date. However, the timescale remains very tight.
31 July 2024	Consumer Duty comes into force for closed products and services.	The extra 12 months is intended to help firms with large numbers of closed products and to help mitigate some of the wider concerns firms raised about the difficulty of applying the Consumer Duty to closed products.

If firms will not be able to complete the work necessary to comply with the Consumer Duty before the implementation deadlines they must notify the FCA. The FCA expects “firms to be compliant, however firms should also take a risk-based approach and prioritise the implementation work that is likely to have the biggest impact on consumer outcomes (for instance, by reviewing the most complex and risky products and the most significant communications first).”

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No private right of action

As implemented, the Consumer Duty Principle does not confer a private right of action (“PROA”) on individual consumers, who therefore do not have standing to sue financial services firms for breaches of the Consumer Duty. While there is no PROA, should a consumer have other grounds on which it can sue a financial services firm, for instance a contractual or negligence claim, the firm having been found or demonstrated to be in breach of the Consumer Duty in relation to the same product or practice is, all things considered, likely to be disadvantageous to the firm’s prospects in such a case. And of course customers still have the ability to complain to the firm and ultimately to FOS in respect of breaches of the Consumer Duty.

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Enforcement

The FCA intends to be assertive in its enforcement of the Consumer Duty “to quickly identify practices that don’t deliver the right outcomes for consumers and take action before practices become entrenched as market norms.” The FCA was criticised by consumer bodies in their consultation responses for omitting a PROA from the Consumer Duty, which may be why the FCA has ramped up the enforcement mechanisms and the self-policing requirements in the Policy Statement.

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Self-policing

This element requires firms to notify other firms in their distribution chains and the FCA when they think that they might have caused harm to consumers and to report other firms in their distribution chains to the FCA if they think that they have caused harm. This is a significant step towards having the market police itself and signifies a shift from the current position.

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Managing distribution chains – will repapering be required?

Previously, product manufacturers had little regulatory reason to concern themselves with what happened to their products once passed to distributors, including platforms. With the advent of the Consumer Duty, it is generally the responsibility of manufacturers to identify a target market and generally the responsibility of distributors to follow it. Distributors may have a specific distribution strategy to supplement the manufacturer’s strategy, but it must be consistent with the manufacturer’s intended distribution strategy and the identified target market.

Manufacturers will require information from distributors. Distributors may require training from manufacturers as well as information on value assessments. Records will need to be kept and shared. Some contractual arrangements may provide sufficient frameworks for this, but it seems likely that in many cases those mechanisms may need to be enhanced and that in the fullness of time manufacturers and distributors may prefer to have tailored contractual obligations on which to rely, rather than seeking to operate existing contractual arrangements with extra-contractual arrangements based on looking at the rules and goodwill and understanding.

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Compliance boom

Given the pervasive nature of the Consumer Duty and the wide ranging obligations it imposes to continually consider whether harm may be being caused and whether redress and remediation is required, it seems likely that the immediate effect is going to be the further growth of compliance and internal audit departments and a battle for the limited talent pool of suitable candidates.

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Increased costs

The new compliance requirements will inevitably increase costs for asset managers and others in the distribution chain and it seems likely that at least some of these higher costs will be passed on in higher management, product and platform fees. This will be balanced by the impact of the price and value outcome.

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Exiting markets

If as a result of increased costs firms consider withdrawing or restricting access to products or services in a way that will have a significant impact on vulnerable consumers or on overall market supply then they must first consult with the FCA. While this appears to be principally aimed at circumstances in which lenders, insurers or banks want to withdraw products from vulnerable groups who might otherwise be driven into the arms of loan sharks, be tempted not to insure themselves against everyday risks or be unable to get to a branch, asset managers will also have to consider how they may need to consult with the FCA before withdrawing products.

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Reduced innovation

Some commentators are concerned that the Consumer Duty may reduce innovation in the market both initially and on an ongoing basis. Initially, as firms focus on implementing the Consumer Duty in respect of their existing products and practices instead of considering new products and practices. And on an ongoing basis, as the increased compliance costs generally and the increased compliance costs of any innovative product or service in particular act as an incentive to replicate existing models for which compliance implications are already understood and for which existing processes and systems can be scaled.

However, in the Policy Statement the FCA says:

“We do not believe that our price and value requirements will increase barriers to entry or increase the cost of innovation. … In our view, increased consumer trust and healthier competition would support innovation and encourage new entrants to the market, with firms competing to drive up quality for consumers.”

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Consumer Duty likely to apply when providing products and services to pension trustees and schemes

The Consumer Duty applies to a firm’s “retail market business” - a newly introduced definition which includes the activities of a firm in a distribution chain which involve a “retail customer”. The definition of retail customer has been expanded to capture the end user of a product or service, even where the immediate client is a professional client to whom the Consumer Duty would not ordinarily apply. For example, the Consumer Duty will apply to regulated activities which involve the beneficiaries of investments held by occupational pension schemes even where the immediate client is the pension scheme trustee.

While the scope of application of the Consumer Duty can be read extremely broadly, the practical implications are tempered somewhat by reference to an individual firm’s role and its ability to determine or materially influence customer outcomes in connection with:

the design or operation of retail products or services, including their price and value
the distribution of retail products or services
preparing and approving communications that are to be issued to retail customers
engaging in customer support for retail customers

If a firm has decision-making capability in relation to the above areas, or if its actions or inactions carry a direct risk of consumer harm, a firm will have greater levels of responsibility under the Consumer Duty. If a firm’s role is more limited, or remote from the ultimate retail customer, its obligations may be more limited. For example, the FCA indicates that fund managers must:

develop a fund to meet the needs, characteristics and objectives of a target market of customers
develop an appropriate distribution strategy and set charges to provide fair value to customers
communicate in a way that customers can understand and offer appropriate customer support standards
review the fund regularly to assess whether it meets the needs of the target market, offers fair value and has been distributed properly

Firms manufacturing products and providing services to trustees of occupational pension schemes will therefore need to be aware that they are likely to have a role in ensuring good outcomes for pension scheme members, for example, if participants in a defined contribution occupational pension are able to choose from a range of funds provided by authorised firms. Firms will need to consider carefully the extent to which they are able to influence members’ outcomes, and if they determine that the Consumer Duty applies in relation to their activities, conduct a gap analysis to confirm whether additional measures are needed to ensure good outcomes for their ultimate retail customers.

The activities of pension scheme trustees themselves will continue to be regulated by the Pensions Regulator, and will not be subject to the Consumer Duty.

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Application to unregulated activities ancillary to regulated activities

The Consumer Duty applies to unregulated activities carried out by authorised firms which are ancillary to their regulated activities. Ancillary activities are unregulated activities necessary for the completion of a regulated activity. For example, the design of a product or service, and ongoing customer support services, are not themselves regulated activities. They are, however, necessary activities linked to regulated activities.

Arguably this is an extension of the FCA regulatory perimeter in respect of Consumer Duty obligations.

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Consumer Duty applies to TPR firms

Although not set out in terms in the regulations, firms in the temporary permissions regime are subject to all relevant UK regulation, which includes the Consumer Duty.

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Consumer Duty and overseas funds under TMPR

Although overseas funds and their manufacturers are beyond the scope of the Duty, the Rules set out specific requirements for UK distributors who distribute products manufactured by a non-UK manufacturer at PRIN 2A.3.13. These primarily relate to the distribution arrangements in place; in particular, the UK distributor must take all reasonable steps to maintain, operate and review the product distribution arrangements for each product it distributes. It also sets out requirements in respect of obtaining and providing information from and to manufacturers and distributor-specific distribution strategies.

However, the application of the Duty for distributors in relation to the distribution of these funds will become clearer when the new but delayed Overseas Funds Regime is published, as it will work on the basis of the equivalence of the overseas funds to UK funds.

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Extra territorial application to firms in the distribution chain located outside the UK

The starting point is that firms located outside the UK are beyond the FCA’s regulatory remit and thus beyond the scope of the Consumer Duty rules. The non-Handbook Guidance notes that if a distribution chain includes non-UK distributors, UK manufacturers may not be able to obtain relevant information from them. The Guidance suggests that UK manufacturers should consider doing what is “reasonable in the circumstances” to gather information, and states that UK manufacturers are not expected to obtain information from those not caught by the Consumer Duty, but instead to use any information they do have available to support their work.

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Will the Consumer Duty apply to the manufacture and distribution of investment companies?

The Consumer Duty will apply to the manufacture and distribution of investment companies, including investment trusts. The FCA recognises the difficulties this poses and that the company structure of such products is such that the FCA authorised firms working with them cannot always ensure issues are resolved. The FCA has introduced additional guidance to help address the concerns.

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Our Consumer Duty podcasts

Our podcast series explores different aspects of the Consumer Duty. Listen to the full series here>

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For any further information on Consumer Duty and how the rules may impact your business or organization, please get in touch with your usual Eversheds Sutherland contact or the below authors:

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