Financial Conduct Authority Redress Scheme

Ian Swales Excerpts

Thursday 4th December 2014 Commons Chamber

[Ian Swales (Redcar) (LD)]

I rise to join the chorus of thanks to the hon. Member for Aberconwy (Guto Bebb); we all owe him a great debt for his relentless spearheading of our efforts in this long saga. Only a handful of constituents have come forward to tell me that they have been affected by this problem, but I have a very strong feeling that they are only the tip of the iceberg. I think that there are a lot of business people out there who are frightened of their banks and of what might happen to their business reputation if they come forward, or who are so unsophisticated that they do not even know that they have a problem. I think that there are many affected businesses that we do not hear from.

Having said that, I have certainly seen the problem. I welcome what has been done so far with the direct redress scheme, but I still think that it has taken too long. During this period we have seen business collapses and even suicides, although not in my constituency. There are still huge issues remaining. Many Members have spoken of the problems with the consequential loss scheme, and I wish to add my voice to that.

I want to talk in greater detail about the banks’ behaviour and what they have done to my constituents. I will talk about one constituent, Mr Stephen Lilley, who operates a single retail shop in a seaside village. I am sure that he would not regard it as an insult if I described him as unsophisticated as far as these products are concerned. Indeed, such is their complexity that I regard myself as unsophisticated, despite being a qualified accountant.

[Tessa Munt]

It has always struck me that it would be completely logical to require bank staff and independent financial advisers to be qualified to a certain level in order to flog these things. Surely “unsophisticated” means anybody who does not have an equal qualification when buying one of these things.

[Ian Swales]

My hon. Friend makes an interesting point. I think that even small businesses, such as those mentioned by my hon. Friend the Member for Brecon and Radnorshire (Roger Williams), probably should have had independent financial advice to deal with their own banks, which is a completely unacceptable situation.

I think that Mr Lilley’s case has wider implications, although I could equally have used those of other constituents, such as Roy Myers, Martin Johnson and Peter Broom. Mr Lilley took out a loan for his business. He was asked to put up as security his house, his son’s house, the commercial property, a share portfolio and the goodwill of the business, which he did. It was a swap product with the additional liability of a credit line, which was not declared at the time. I think that we all know how complex these products are. It was a derivative product that was priced in US dollars and then converted back to pounds. Mr Lilley had unknowingly fully indemnified the bank for these facilities, including the credit line, which they were not aware of. They have, through a pro bono arrangement, had some very expert advice on their situation. I should say that Mr Lilley made it clear to his bank from the start that he wanted a simple, declining balance loan, but that was never offered to him. He was very keen to repay the loan and not to take out a long-term arrangement, but that is what he did.

Mr Lilley has now been offered an alternative product—a cap—by the independent reviewer. The expert whom Mr Lilley is using believes that it is a regulated product, but the independent reviewer is not regulated to deal with the product, so right from the start there is a question of legality about his being offered that alternative product. At a meeting with HSBC on 24 October, the independent reviewer admitted that he was paid by HSBC, which brings the independence into question. Until that date, Mr Lilley did not know that there was an additional credit line in place, although it is some years since the original arrangement. The failure to disclose that puts a real question mark over whether it was contrary to section 1 of the Fraud Act 2006. It has been impossible to ascertain when the credit line was put in place or by whom. Moreover, the relationship manager was, in effect, selling a regulated mortgage because domestic properties were involved, and they were not qualified or regulated to do so. There is a whole issue about the legality of what the banks were doing. Mr Lilley and his family turned out to be guarantors of the extra credit line, which was secured against their homes, and under an “all moneys” charge they would have full liability. They have consistently asked for information about this, but the bank has still failed to provide it.

On 21 August 2013, an adjudication was agreed, part of the terms of which were that the swap was cancelled. Today, well over a year later, the swap is still in place. This is a small business person running a single shop—a mom and pop business, as the Americans like to call it. He has had to lodge two homes, business premises and a share portfolio worth far more than the loan that he took out. Because of the way that the bank has structured these products, it will not release any of the collateral. Mr Lilley would like to get some of his share portfolio back to help finance the problems he has as a result of the loan, but the bank will not release it. That is because it is itself using the assets that have been lodged for wider purposes. There is an underlying scandal going on.

Mr Lilley’s loan agreement says:

“In the event of HSBC’s insolvency or default or that of any brokers involved with your transaction positions may be liquidated or closed without your consent. In certain circumstances you may not get back the actual assets which you lodged as collateral and you may have to accept any available payments in cash.”

That means: “Your home may be at risk if the bank does not keep up the repayments. Even if the loan is up to date, if the bank or any brokers become insolvent, the bank may call in your assets.” That is a very onerous condition. The bank can do this because in 2007 the FCA changed the client asset rules, which contain two important clauses. CASS 3.1.5 says:

“the firm is given a right to use the asset, and the firm treats the asset as if legal title and associated rights to that asset had been transferred to the firm subject only to an obligation to return equivalent assets to the client upon satisfaction of the client’s obligation to the firm.”

In CASS 3.1.7, the position becomes even clearer:

“the asset ceases to belong to the client and in effect becomes the firm’s asset and is no longer in need of the full range of client asset protection. The firm may exercise its right to treat the assets as its own by, for example, clearly so identifying the asset in its own books and records.”

That starts to explain why the banks are so reluctant to offer shorter-term products, or different products, as part of the redress scheme: it is because they are using these assets in their own balance sheets. Between 2007 and 2008, when the regulations changed, RBS added £700 billion of assets to its balance sheet—equivalent to about half the UK economy. I suspect that an awful lot of houses and businesses are on RBS’s balance sheet and people do not even realise it. As a major shareholder of RBS, the Treasury needs to examine this, particularly as the Bank of England is saying that it is more likely to let banks fail in future. Many people could find themselves losing businesses and assets they did not even know were part of a bank’s balance sheet.

The operation of the compensation scheme, the behaviour of the banks, and, importantly, as the hon. Member for Wyre Forest (Mark Garnier) said, the behaviour of the FCA and question marks over its independence, mean that the scandal is continuing. It really is time for the Government to conduct a truly independent inquiry.

--- Later in debate ---

[Cathy Jamieson]

My hon. Friend makes a good point and I was going to say something about the circumstances that he and my hon. Friend the Member for Dumfries and Galloway (Mr Brown) mentioned and that element of compulsion. Clearly, many people felt that they had no option but to take those products or else they would not get the loan. As I am sure everyone understands, there are circumstances in which people rely on banks, and they trusted them and believed they were getting good advice.

[Ian Swales]

To emphasise that point, a constituent of mine was presented with an agreement to sign at the point when they thought they were signing a straightforward loan agreement. They literally did not have time to think, let alone make a choice.

[Cathy Jamieson]

Indeed, the hon. Gentleman makes a useful point and similar circumstances have been brought to my attention of people who thought at the point of signature that all they were signing was a refinancing agreement, and they had not understood the full consequences. We must drill down on those issues to ensure that people get the justice they deserve.

In some instances, product sellers painted only a partial picture of the product and the nature of the protection offered—I see the Minister is listening intently and I am sure she will agree. That resulted in customers purchasing products that were not appropriate to their circumstances, with the result that they lost money or spent money unnecessarily.

In the review, the FCA draws a distinction between sophisticated and unsophisticated customers. Under the terms of the agreement with the banks, only the cases of customers deemed to be unsophisticated were subject to the review. The FCA defines unsophisticated customers as those less likely to have had the expertise or resources to seek advice before purchasing an interest rate hedging product. People might suggest that that is a common-sense distinction, and one that correctly focuses on customers who were less likely fully to comprehend the nature and consequences of the product they were being sold, but the question of how the distinction was arrived at is an entirely different one. It will be interesting to hear the Minister’s view on that, and on the question of whether people ought to have the opportunity to appeal if they were put into the sophisticated category.

--- Later in debate ---

[Andrea Leadsom]

Tailored business swaps were provided by largely Yorkshire and Clydesdale bank, which has voluntarily agreed to look at redress in a similar way to that in which the interest rate swap redress scheme works.

I want to move on because there is another debate to follow. Let me address some of the questions raised by my hon. Friend the Member for Aberconwy. He asked why some banks are not splitting the original loss and the consequential losses, and he pointed out that the amount of redress paid is inconsistent between banks. He mentioned the fact that a particular whistleblower says that banks have pressurised independent reviewers to serve the banks’ interests rather than those of the SME, and argued that the FCA is not showing the bank-by-bank redress numbers. He asked whether we should set up an appeals process for reviewers to look at each other’s banks’ reviews, and spoke about the lack of payment of consequential losses beyond the 8% that is normally provided. He addressed the issue of HMRC’s tax treatment of redress and of whether embedded swaps should be included. I want to run through those issues very quickly.

I can assure my hon. Friend and all Members that the FCA has been determined throughout the process to get to the bottom of this. Occasionally, Members might think that the FCA is not interested or not keen to resolve the matter, but that could not be further from the case. In particular, the FCA carefully considers any variance in redress offers to make sure that standards are applied consistently. It selects individual cases for review based on feedback from customers, campaign groups and MPs to ensure these have been dealt with fairly. Independent reviewers report regularly to the FCA, both on the judgments they are making and on how the banks are performing, and independent reviewers regularly meet each other to ensure a consistent approach to assessing claims.

My hon. Friend referred to the agreement between the FCA and the participating banks. As I understand it, this agreement sets out the principles of how the review should have been undertaken. I understand, too, that the FCA is prohibited from releasing these agreements by confidentiality restrictions. I can assure Members, however, that I will write to the FCA and ask for clarification, bearing in mind Members’ desire to have that made public if possible.

[Ian Swales]

The Minister has talked about the independence of reviewers. Even the FCA’s notes state that it has had to require banks to change independent reviewers when there has been a potential conflict of interest. It is clear that reviewers are not always as independent as they should be. What is the Minister doing about that?

[Andrea Leadsom]

The FCA has considered whether reviewers are independent, and the instance cited by the hon. Gentleman probably demonstrates that it is actively taking part in that process. As I have said, however, if Members want to raise particular cases with me, I will look into them.

My hon. Friend the Member for Aberconwy referred to the allegation by a former independent reviewer from KPMG that the banks had applied undue pressure for a change in a redress determination. That is a very serious claim, and I know that the FCA has taken it very seriously. The regulator has given a reassurance that it has maintained close oversight of the relationship between banks and their independent reviewers throughout the review, and that it does not believe that that allegation is supported by the facts.

A number of Members raised the issue of embedded swaps. It is important to define that term. I understand it to refer to fixed-rate loans with an economic, or mark-to-market, break cost. As is standard practice with fixed-rate loans, a break cost is incurred by a borrower who pays off a loan early. The tradition in the United Kingdom has been that the terms and conditions of contracts between businesses, such as loans, are not generally prescribed by the Government, and we normally expect businesses to take positive action. First, they can complain to their banks if they are unhappy with their fixed-rate loans, and many customers have already taken that route. The FCA monitors banks’ complaint-handling processes, and takes action if it sees a problem. Secondly, smaller businesses can have recourse to the Financial Ombudsman Service.

What is vital—and the Treasury has ensured that this will happen in future—is that when a business enters into a fixed-term loan, the terms of the contract and, in particular, the way in which break costs are calculated are absolutely clear. We have secured a voluntary agreement, through the British Bankers Association, that banks will provide the same level of disclosure of features within fixed-rate loans— such as break costs—as applies to interest rate hedging products. Most important, the banks will ensure that break costs are fully explained, and that worked examples are provided.

A number of Members also voiced concerns about the number of businesses that have been assessed as sophisticated and therefore fall outside the scheme. The Government have made it clear that when a business lacks the necessary skills and knowledge fully to understand the risks posed by these products, it should receive appropriate redress. So far, about a third of businesses have been deemed to be sophisticated and to fall outside the scheme. There has been criticism of that: many have suggested that all businesses should be covered. The Government believe that there needs to be a defined cut off-point at which more sophisticated businesses take responsibility for understanding the products they are purchasing. Failure to introduce that cut-off point would weaken the incentives for businesses to act sensibly when purchasing financial instruments, and could open the floodgates to any businesses that had lost out as a result of a financial transaction.

However, the FCA has amended the way in which the sophistication test criterion can be applied, and information about that is available. Time does not permit me to give every detail of where we started and where we are now, but the aim has been to ensure that all businesses that are unsophisticated can fall within the scheme. There may well have been some incorrect reassessments, but there have been very few subsequent complaints.