Compensation (London Capital & Finance plc and Fraud Compensation Fund) Bill (First sitting)

Pat McFadden Excerpts

Committee stage
Tuesday 15th June 2021 Public Bill Committees

[The Chair]

Before we hear from the witnesses, do any Members wish to make declarations of interest in connection with the Bill? I take that as a no.

I remind all Members that questions should be limited to matters within the scope of the Bill and that we must stick to the timing in the programme motion. The Committee has agreed that we have only until 10.15 am for this session. Will the witnesses please introduce themselves for the record?

Sheree Howard: Good morning. My name is Sheree Howard and I am the executive director of risk and compliance oversight at the Financial Conduct Authority.

Robin Jones: Good morning. I am Robin Jones and I am a director within the risk and compliance oversight function of the FCA.

Simon Wilson: Good morning. I am Simon Wilson, the interim head of resolution at the Financial Services Compensation Scheme.

Casey McGrath: Good morning. I am Casey McGrath, head of legal at the FSCS.

James Darbyshire: Good morning. I am James Darbyshire, chief counsel and a member of the executive team at the FSCS.

[Mr Pat McFadden (Wolverhampton South East) (Lab)]

Q I thank all the witnesses for appearing before us this morning. I would like to begin with a question for the witnesses from the Financial Services Compensation Scheme. Clause 2 of the Bill authorises a Government loan in the case of pension fraud and mis-selling. Simon, what is your estimate of the level of fraud and mis-selling in pensions and investments? Do you think that phenomenon is growing or has it always been with us?

Simon Wilson: Thank you for the question. If it is okay, I will pass it over to my colleague, James Darbyshire.

James Darbyshire: It is difficult to put a figure on the extent of pension mis-selling going on at the moment. We are certainly seeing an increase, and certainly an increase through the covid crisis. It is important to make it clear that there is a clear distinction between the two compensation schemes. Here at the FSCS it is triggered in relation to authorised firms that go bust and regulated activities, whereas the fraud compensation scheme is triggered by dishonesty in occupational pension schemes. There will be differences, but the mis-selling we see is through authorised financial advisers as well as unregulated firms.

[Mr McFadden]

Q Can you tell us a bit more about how it works? Give us a picture of the common mis-selling techniques and scams that are out there. How do these people operate?

James Darbyshire: The typical cases of mis-selling that we see at the FSCS involve scenarios in which somebody has been misadvised to transfer from a vanilla pension into a self-invested personal pension and, within that, invest in illiquid, esoteric and high-risk investments. Sometimes there is a fraud element as well, but they are certainly very high risk and often lead to that person losing all their pension savings. That is our most typical scenario.

[Mr McFadden]

Q Do you think that online advertising and selling exacerbates the problem because it might remove the kind of face-to-face discussion that you would have with an adviser? Or should we not look at it that way because the advisers might sometimes be part of the problem?

James Darbyshire: We are triggered because a regulated firm is involved, so there is an adviser who has mis-sold. But we have also seen an increase in pure scams, if we can call them that, that relate to investments that have been advertised through search engines. They are scams and not genuine investments. As part of the FSCS’s strategic role for prevention and our strategies for the 2020s, we are identifying those kinds of scams and ensuring that we pass the information, data and insights that we see on to the relevant enforcement agencies so that they can take action. We work very closely with the FCA and last year, for example, we signed a memorandum of understanding with the Serious Fraud Office to ensure that we share information in the right way.

[Mr McFadden]

Q Thank you. I now have a couple of questions for the FCA’s representatives. The findings in the Gloster report are pretty damning in a number of ways. I will not go through them all but they include repeated phone calls about what was happening in London Capital & Finance not being acted on, interventions by the financial promotions team not being passed up the line, different bits of the organisation not speaking to one another and so on. After this report, I suppose the most important question is this: how confidently can you say that this could not happen again?

Sheree Howard: Thank you for the question. Obviously you are correct that Dame Elizabeth Gloster undertook a very thorough and detailed investigation and produced a detailed report. It has identified a range of issues and mistakes that the FCA made, for which we are profoundly sorry. We know that it has had a devastating impact on many people.

We embarked on a range of initiatives and interventions as a result. We have done a significant amount of work on mini-bonds, in particular, and on other high-risk investments in the investment space and financial promotions arena. Actions are under way in all of them: some are closed, some are ongoing and some will take some time to be sustainable and to embed.

Financial firms do fail due to a variety of circumstances. We are investing heavily in an ongoing transformations programme, but can I give you an absolute assurance that something will not happen again? Sitting here today, I cannot give that absolute assurance, no.

[Mr McFadden]

Q You are right that financial firms fail, but the issue is not just their failure. The reason for the Bill is that the Government judge that such was the degree of regulatory failure that a compensation scheme is in order. The question is not whether financial firms can fail—of course they can—but whether, following Dame Elizabeth’s report, there has been such a degree of change in the FCA’s operations that that degree of regulatory failure could not happen again.

Sheree Howard: A significant range of action has already been undertaken and is still under way to ensure that we make the embedded change that makes the FCA fit for the digitised future. A huge amount has been done. If you are asking whether we have changed, for example, our approach to financial promotions, we now escalate much earlier—we have a much clearer escalation process with a clear route through it. We have changed policies—for example, our contact centre policy—around areas highlighted in Dame Elizabeth’s report.

[Mr McFadden]

Q In 2014, the FCA took on responsibility for supervising tens of thousands more firms as a result of the transfer of responsibilities from the Office of Fair Trading. Should we understand that that created significant difficulties for the FCA in absorbing tens of thousands of firms to supervise, or do you think other organisational things were going on that were unrelated to the size of its responsibilities?

Sheree Howard: Dame Elizabeth Gloster’s report outlined the circumstances and nature of the changes that occurred at the time that consumer credit was transferred from the OFT to the FCA in 2014. The report is clear about the state of supervision within the FCA at that point and the changes that were implemented by the then executive members of supervision and others in the light of issues that they identified when they came into the organisation. It was a very substantial change of responsibilities, and it came from a regime where there was not a supervisory regime.

[Mr McFadden]

Q Are you telling us that it was a difficult thing to swallow but you now have the systems in place to deal with it?

Sheree Howard: I was not in the FCA at the time, but it was a very large assumption of remit. We have changed systems. We have implemented various programmes highlighted in Dame Elizabeth’s report on delivering effective supervision and effective authorisation programmes.

As I have already outlined, the financial services market is not sitting still; the FCA cannot sit still—hence the changes that are under way and will be a fact of life going forward. We are undertaking a significant programme to ensure that we invest in digital and data and have much greater access to the information, given the quantum of firms that we oversee.

[Peter Grant (Glenrothes) (SNP)]

Q May I start with the witnesses from the Financial Services Compensation Scheme? I am happy to let you decide among yourselves who is best placed to answer. One of the major problems with LCF was that mini-bonds were unregulated, and the same applies to a lot of other unregulated businesses involved in the same activity. If a decision was taken to make the sale of mini-bonds a regulated activity, would it cause administrative difficulties for the FSCS to start to include them in its compensation scheme?

James Darbyshire: I don’t think it would cause administrative difficulties; it would just mean an additional area of coverage for the FSCS. The cost to levy payers—to the financial services industry—would potentially go up, depending on whether there were any failures involving mini-bonds.

--- Later in debate ---

[The Chair]

I call the shadow Minister, Mr Pat McFadden.

[Mr McFadden]

Q Good morning. Thank you very much for giving evidence today. Clause 2 of the Bill authorises a Government loan that will subsequently be paid for by a levy on the industry over a period of years. Can you tell us how that levy will work and how the burden of it will be divided between different types of pension schemes, for example the auto-enrolment schemes that have been established over the last decade or so?

David Taylor: Absolutely. We have the power to set the levy up to limits set out in legislation. Since we got clarity on the eligibility of scam schemes for compensation in the last year, we have raised the levy to the maximum we can at the moment. That is 75p per member for schemes in general, and 30p per member for master trusts. Any change to those maximum levels is a legislative matter that the Government plan to consult on in the autumn.

[Mr McFadden]

Q The reason for that is the growth of pension fraud and mis-selling. Obviously, you are the ultimate backstop at the Pension Protection Fund. What is your view of the trajectory of pension fraud and mis-selling? Is it growing in nature? If so, how could the Government and the regulators do more to combat it?

David Taylor: Our role in relation to this is, as you say, as the backstop to pay compensation in the particular circumstances where there is a pension scheme that has been defrauded, or where money has been lost from the scheme due to dishonesty. The sorts of cases that we are talking about here, and for which the loan will be required, are actually predominantly historical in nature. As you will no doubt hear from other witnesses, there have been a number of measures since then that have tightened up in various respects and mean that cases like the ones we are talking about here are less likely to happen in the future.

[Mr McFadden]

Q My final question is about information to consumers. We have the Pension Protection Fund, we have the financial services compensation scheme, and now we have the Fraud Compensation Fund as well. If a pension scheme member finds themselves in need of redress, how will they navigate their way through this? How will people know whom to contact? What efforts will be made to let people know that this help is available to them?

David Taylor: The Fraud Compensation Fund has been in existence since the main Pension Protection Fund was set up in 2004-05, but it has actually had relatively few claims on it prior to this raft of pensions liberation cases. I believe you will be hearing later from the transparency taskforce, which very helpfully flagged to us that information on the Fraud Compensation Fund was not perhaps as successful as it could be. We have taken various steps to increase visibility. We are in the process of creating a separate website for the Fraud Compensation Fund, where it is very straightforward for members to find information about how the fund works. For the sorts of members we are talking about, their first port of call is also the scheme trustees or professional trustees who have been put in place by the Pensions Regulator and who will be able to keep them posted as to where their applications have got to.

[The Chair]

I turn now to the SNP spokesperson, Mr Peter Grant.

--- Later in debate ---

[The Chair]

I thank all the witnesses for giving evidence today. I urge them to keep their answers short so we can get through all the Members who wish to contribute. I call the shadow Minister, Pat McFadden.

[Mr McFadden]

Q Thank you, Ms Ghani, and I thank all the witnesses for giving us their time. Dame Elizabeth, I would like to begin with you. You produced a hefty, detailed report of hundreds of pages with a number of different recommendations. Having looked into the collapse of London Capital & Finance so deeply, what is the single biggest lesson that you would like us to take from your report?

Dame Elizabeth Gloster: It is probably set out in the executive summary of my report, in chapter 2. I think the biggest lesson that should be taken away is that there has to be a cultural change at the Financial Conduct Authority in order to ensure that the FCA is able to regulate in accordance with its obligations in a digitalised world.

[Mr McFadden]

Q You were, of course, asked to look into the collapse of one particular firm. At the heart of quite a lot of your findings is the tension of a regulated firm selling unregulated products. Although you were asked to look into the collapse of one firm, do you think that the kind of regulatory failure that you identified could apply in other cases? After all, LCF is certainly not the only regulated firm that is selling unregulated products—many firms do that.

Dame Elizabeth Gloster: Let me make it clear, as I think I did in my letter to the Committee, that I only looked—and was only instructed to look—at the regulation of LCF. I did not look at the regulation of other firms that may or may not have been similar. Having said that, some of the criticisms my report made could potentially apply to other firms. First, for example, the restricted approach to the regulatory perimeter when dealing with authorised firms; secondly, the failure to consider LCF’s business holistically in the application, variation and the regulation supervision processes; and thirdly, the absence of training that we pointed to of those employees at the FCA who had to review financial material. Those are all three failings that potentially could apply to other businesses.

[Mr McFadden]

Q Thank you. This is my final question to you, Dame Elizabeth. You made a recommendation about dealing with the lacuna in how ISA status were dealt with between the FCA and HMRC. Could you tell us a bit more about this? What is this lacuna? ISA status is important. It is a trusted and successful brand. People may think that you cannot lose money on an ISA—of course you can—but certainly putting your money in one is regarded as a safe and responsible thing to do.

Dame Elizabeth Gloster: The gap we identified—I would be grateful if John or Dorothy could direct me to the particular chapter in my report—was that neither the FCA, nor HMRC, at any time checked on or seemed to conduct any analysis of, either as part of a regulatory or a taxation process, whether or not the product being flogged to the investors was ISA compliant. John, do you have the chapter?

John Bedford: Yes, Dame Elizabeth. It is chapter 14, page 303 of your report.

Dame Elizabeth Gloster: Thank you. The fact that LCF bonds could be acquired in an ISA wrapper was absolutely critical to attracting investment because bondholders believed that the ISA status indicated that LCF’s products were subject to an additional level of regulatory security and assurance. Once LCF got its approval, and marketed its bonds as ISA-eligible, the sales significantly increased. That was our concern—this gap with neither the FCA nor HMRC actually looking at the question—and was something that should be addressed.

[Mr McFadden]

Q Thank you. That is a very important finding. I have one further question to the Transparency Task Force about the uniqueness, or otherwise, of the LCF case. The Government’s case is that the LCF collapse— rather not the collapse but this response to it—is unique because, as both Ministers said on Second Reading,

“LCF is the only mini-bond firm that was authorised by the FCA and sold bonds in order to on-lend to other companies.”—[Official Report, 8 June 2021; Vol. 696, c. 905.]

My question is whether the case of LCF is unique and, if not, why not?

Mark Bishop: Shall I take this one? If you look at what the Minister said, then no doubt it is unique. I am not aware of any other situation where there is a regulated product being sold by an authorised firm who is conducting literally no regulated business, and is also allowed into an ISA. Those are exceptional circumstances.

However, if you look at the many other financial services scandals that have occurred where regulatory failure is either proven, as in the Connaught case, or is alleged with very good reason, they all have exclusive and specific circumstances. I think the question for this Committee is whether you want to use the opportunity of this Bill to create a right for consumers—with a high bar—to have their claims for compensation considered, where they are able to demonstrate significant regulatory failure and that that failure has led to loss.

[The Chair]

I call the SNP spokesperson, Mr Peter Grant.