With 2019 behind us, the FCA’s work on commission models and disclosure will doubtless be keeping many busy, as firms build broker remuneration packages to ensure a competitive position in an increasingly difficult market. Gemma Napper, partner, financial services at Shoosmiths, writes.
Commissions were a hot topic for 2019 in the motor finance sector, and continue to be in 2020.
They are also an area that the Financial Conduct Authority (FCA) has been interested in for some time, having had the bonnet up on commissions in 2012 and 2015. While those previous reviews did not lead to any specific outcomes, there have clearly been continuing concerning behaviours to warrant the FCA going back for another look.
This time around the FCA carried out a significant amount of market research to get a better understanding of the issue; sampling approximately 1,000 motor finance transactions, over an 18-month period, from 20 lenders who represent around 60% of the UK’s motor finance market.
That market research resulted in a clearer articulation of the concern: demonstrable consumer harm through poor disclosure practices, and an ability for brokers to influence the incentive they receive by adjusting the interest paid by a consumer. These ‘discretionary commission models’ were therefore seen as having the potential for consumer detriment. When the FCA published its final report on its review of the motor finance market in March 2019, it was clear that where brokers had the ability to upwardly adjust the customer’s interest rate in order to receive a higher commission – an increasing difference in charges (DiC) model – good consumer outcomes were not being achieved and this needed to be looked at.
However, when the most recent consultation on discretionary commission models and commission disclosure was published in October, it was apparent that increasing DiC models are not the only evil in the FCA’s eyes. That report identified that all discretionary commission models – whether increasing or decreasing DiC, or scaled models that offer a more limited ability for a broker to influence the amount of incentive received – were producing poor customer outcomes. In the FCA’s view, this meant that lenders did not have sufficient control over the prices charged to customers for their finance products.
In addition, it transpired that brokers had quite different approaches to interpreting the commission disclosure rules. In the FCA’s view, this meant consumers were not being given the right information at the right time, and therefore were not empowered to make an informed decision as to the credit product that was right for them.
In terms of what this means for the industry going forward, the FCA has issued consultation paper CP 19/28, which sets out several suggestions to address the perceived consumer detriment related to commissions. These include:
- Banning discretionary commission models in the motor finance market, and
- Proposing amendments to the commission disclosure rules.
Given the potential for abuse of discretionary commission models, the ban is perhaps unsurprising. However, what has raised a few eyebrows is the fact that the amendments to the commission disclosure rules are far wider reaching then just motor finance. As such, the amended rules would have the potential to apply to any type of credit that is caught by the FCA Handbook rules on consumer credit.
Whether lenders outside of motor finance have picked up on this is unclear, but a wider consultation on the amendments to the commission disclosure rules is unlikely to come, due to the fact that changes to those rules are being positioned as minor clarification amendments. Nonetheless, any change will require policy and training updates, all of which take time to create and implement. Similarly, any ban on discretionary commission models means redrafting broker agreements and putting in place an alternative structure that firms can demonstrate does not lead to customer detriment.
We do not expect a lot to change – if anything – from the draft proposals, which is helpful given the short consultation period and that final rules are expected at the beginning of the second quarter of 2020. The FCA is then proposing a three-month window to implement the ban on discretionary commission models. However, there is no such luxury in relation to updates to the commission disclosure rules, which will come into effect on the day that the updated rules are published.
If all goes to plan, the FCA intends to monitor compliance with the ban within the three months following implementation of the rules and then, at the start of 2022, whether the amended rules are addressing the identified consumer harm.
With so little time, and so much to do, firms should not delay, and need to ensure that their practices can meet the requirements of the proposed rules as soon as possible, and ideally ahead of the implementation date.
by Gemma Napper