Full motor finance commission repayment would be a bad FCA redress outcome, but with the right data there could be a better option

Yesterday's FCA statement that it plans to consult on a compensation scheme for motor finance consumers was inevitable. But one key part of the announcement - the apparent focus on motor finance commission repayment - is nothing short of alarming due to the potential harm it would cause to both the motor finance industry and its customers.

As the FCA prepares to consult over redress arrangements, there is the opportunity now to demonstrate the need for, and practicability of, a better alternative.

Redress scope

Most of the attention up to now has been on the scope of any redress. The Supreme Court clarified only what the scope is not: It is not all finance agreements where any commissions were paid.

But the FCA can now press ahead with its redress plans for agreements where discretionary commissions were paid. These were mainly for used cars. Around 70% of agreements are for used cars, and the majority of these prior to 2021 used discretionary commissions. So, around half of all motor finance agreements are still in scope.

The main firms to benefit from the Supreme Court judgement are captives, with finance mostly for new cars at set levels, and non-prime and sub-prime lenders who used mainly fixed commissions for used cars. The large banks who offered mainly used car finance through dealers don’t benefit so much from the Supreme Court judgement.

There's also a need now to consider whether any agreements that didn’t use discretionary commissions were also unfair, based on the Johnson case. But that’s unlikely to add many. Non-discretionary commissions applied mainly to more expensive non-prime and sub-prime agreements. In that part of the market, commissions are unlikely to represent a high percentage of the total cost of finance.

Redress calculation

In its announcement on Sunday, the FCA notes that the Supreme Court decided that the appropriate remedy in the Johnson case was the payment [which presumably means repayment] of the commission. The FCA states it will consider this option alongside alternative approaches.

Then it continues with to state: “it is unlikely any alternative would lead to higher remedies overall than the full repayment of the commission”. Translation:  Full repayment of commission is likely to be the worst case for the industry. It then goes on to state: “Some could lead to lower payments”.  Translation: Oh, did we already mention, full repayment of the commission is likely to be the worst case for the industry?

The FCA goes on to feel it can provide guidance on the total cost of the redress, which it states “would not be materially lower than £9bn” – which, presumably, is based on the only specific redress method identified so far, full repayment of commissions for all relevant cases.

Identifying loss or damage

The FCA’s own redress guidelines, set out in the FCA handbook at CONRED 1.1, states that the under a consumer redress scheme, the purpose is to redress (i.e. remedy or set right) the loss or damage caused to consumers by a failure to follow regulatory requirements.

This will be a matter for the lawyers, but can the FCA really require redress for the years prior to it taking over consumer credit in 2014? 

Putting that aside, and if we accept that the use of discretionary commissions could have been a failure to follow regulatory requirements, then the vital question must be what is the loss or damage that such a failure could cause?

(There’s often some confusion about this, as discretionary commissions were only banned from 2021. But since the FCA took over consumer credit in 2014, there was the CONC 4.5.2 rule that: “A lender should only offer to, or enter into with, a firm a commission agreement providing for differential commission rates or providing for payments based on the volume and profitability of business where such payments are justified based on the extra work of the firm involved in that business.”)

Key scenarios

Where discretionary commissions were used, here are key scenarios about the possible loss or damage to consumers:

1)       The commission taken by the broker was at the bottom of the range set by the lender. The loss or damage is zero.

2)       The commission taken by the broker was near the bottom of the range set by the lender. The loss or damage is zero or very small. In its announcement yesterday, the FCA states that it will consult on whether there should be a de minimis threshold to be eligible for a compensation payment.

3)       The commission taken by the broker was materially above the bottom of the range set by the lender. However, there is evidence that the higher commission was justified based on the extra work of the intermediary. This is compliant with CONC 4.5.2, so no redress is due.

4)       The commission taken by the broker was materially above the bottom of the range set by the lender and cannot be justified based on the extra work carried out. This is non-complaint with CONC 4.5.2, so further analysis is then needed to consider whether the customer has experienced loss of damage. This raises two further possibilities:

• The customer paid the fair market rate or less. There is no loss or damage, so no redress is due apart, maybe, for a token 'apology' payment for the non-compliant conduct.

• The customer paid more than a fair market rate. There is loss or damage.  Redress is then due and should cover the difference between the rate paid and the fair market rate.  Based largely on the fact that the largest motor finance firms were the large banks, operating in very competitive market, my best guess is that the percentage of cases fitting this category would be small. Furthermore, the average redress due is likely to be less than the full commission paid.

The data imperative

The above may all sound very theoretical. I have also seen some commentators claim that historical data, which would be needed to support alternative approaches, may not be available. But I think a positive response to support the FCA is both needed and feasible.

The industry can I think identify under what circumstances higher commissions that the lowest available would be cost-justified (Scenario 3 above). Dealers that carried out affordability checks on behalf of lenders would incur extra costs. Dealers that employed dedicated staff to operate with a broker panel to find good deals for their customers would incur extra costs.  Independent analysis could provide robust evidence to help identify which agreements fit scenario 3, and to estimate by how much a higher commission would be justified.

What about comparing actual rates charged with alternatives available in the market (Scenario 4 above). I have already been able to compile initial data on 15 lenders covering from 2014 to 2021, using a combination of archived lender websites, archived price comparison websites, lenders’ financial accounts, and securitisation prospectuses. I don't know if similar data is already available elsewhere, but my (far from perfect) attempt is available now to any lender, and I am happy to make it available to any organisation looking to build on this to create robust independent analysis to provide to the FCA.

Why a better solution than commission rebates matters

Even before this reached the Supreme Court, there is very strong evidence that there has been a major long-term shift in the used car finance market away from lower cost to higher cost providers, as summarised in the chart above. This is based on 2025 rates offered by lenders, so it excludes changes to underlying interest rates over time.

A poorly designed redress programme would worsen this trend. The windfalls that consumers receive might not be quite a significant as some earlier estimates, but they could still have a significant financial impact on the very lenders who offer the lowest rates in the market, and make the market less attractive for new entrants.

A better alternative is needed to protect both consumers and the industry. The FCA would need independently verified data to support a more fair and reasonable approach. To be realistic, that data will have to come from the industry, and soon.

For details of the Apex Insight report referred to above please see here. For more information about the historical rates analysis, please email or call.