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Smarter regulation in 2023: Consumer Duty works, FRED 82 doesn't

As we enter 2023, the UK leasing industry is just gearing up for its essential role in supporting a post-Covid recovery in business investment by UK businesses. As happened after the 1991 recession and financial crisis in 2008, when businesses begin to invest again, they turn first to leasing to protect their cash. We started to see this last year, but the potential for 2023 is very positive.

All we, and the Government, needs to do is to make sure nothing gets in the way, such as unsuitable regulation. For many, implementation of the FCA’s Consumer Duty rules may be a concern. It really shouldn’t be: This is an example of smart new regulation and we should welcome it.

It’s true the Consumer Duty rules in the FCA Handbook, and the ‘non-handbook’ guidance may not be easy to follow, with three ‘cross-cutting rules’ and four ‘outcomes’ that for some reason don’t seem to fit together to create 12 of anything, and a whole book of guidance that doesn’t include cross-references back to the specific handbook rules.

But behind all of this, the regulation is simple and good. The FCA is saying, in effect, put aside for a moment everything else in the thousands of pages of Handbook rules, and just be certain that your customers get a fair deal. Fairness is, of course, a matter of judgement, but the guidance gives plenty of useful indicators of what to look for.

It’s easy, and mostly right, to say that what our industry does is so obviously fair and in customers’ interest. Consumer Duty implementation should therefore be focused on collecting more evidence of this and fine-tuning some policies and procedures. Yet there’s bound to be some areas that all firms will want to review for their regulated business, and quite possibly to give some useful ideas across all customers. Some examples:

  • As I have noted in an earlier blog, many will be pleased to see clarification that firms should not create unreasonable barriers to consumers acting in their interests, so car dealerships making it near-impossible for customers to use alternative finance options will have to change their ways.

  • The Guidance has plenty to say about distribution arrangements. It’s clear lenders and brokers have a shared responsibility to meet the needs of the target markets, and what’s needed is a stronger collaboration and testing of outcomes. A ‘tick-box’ route of testing broker compliance and requiring brokers to complete a training course or qualification risks missing the focus of Consumer Duty, which is about evidence of outcomes rather than inputs.

  • The same focus on outcomes applies to how brokers are paid. There’s nothing in Consumer Duty to suggest Difference in Charges commissions are a problem (for good reason - DiC is an efficient and fair commission model, see earlier blogs for example here) provided any potential conflicts of interest are identified and addressed. Ensuring fair value may be more about showing that fees and charges are fair, including - the FCA guidance specifies - 'contingent' charges that apply in some circumstances.

These, and other areas, should all be considered as part of a gap analysis between existing practices and the new requirements, noting the FCA is clear that what is expected of firms should be interpreted ‘in light of what is reasonable’ given the nature of the product, the characteristics of customers, and the firm’s role in the distribution chain. These factors point to asset finance being low risk, suggesting a lighter-touch implementation. So if Consumer Duty is becoming a very large project, I suggest take a step back and ask whether that’s necessary and what the FCA intends.

FRED 82, the latest Financial Reporting Exposure Draft from the UK accounting regulator, the Financial Reporting Council (FRC), was an unwelcome present to the industry just before Christmas. It proposes that all UK companies follow similar lease accounting rules to the the new international standard, the International Accounting Standards Board’s (IASB) IFRS 16.

If these proposals were to be implemented, the results could be serious. The IFRS 16 rules may be suitable for very large companies (actually, that is highly debatable) but even with certain proposed ‘simplifications’ (again, debatable) this would create a lot of unnecessary and expensive bureaucracy for the 99% of UK companies that use UK accounting standards rather than IFRS. That extra hassle seems likely to lead to materially lower use of leasing and lower investment overall by UK SMEs.

It's strange timing for the FRC to propose this, coming just a a couple of months after the IASB said it planned not to change lease accounting rules in its IFRS for SMEs standard. This followed strong feedback the IASB received that the IFRS 16 rules were ‘not relevant’ to SMEs (Translation: the costs would vastly exceed the benefits, if indeed there are any benefits). The IASB’s plans are still subject to a final decision expected by mid-2023.

Although IFRS for SMEs is not approved by the European Commission for use in Europe, and so far at least hasn't been adopted post-Brexit for use in the UK, national accounting standards setters tend to follow the IASB's direction when setting their own rules. If the UK regulator was to proceed with this bad proposed regulation, it would almost certainly be doing so entirely alone.

Hopefully the FRED 82 consultation will be met with a strong response along similar lines to the IASB’s consultation last year, and this problem will go away. The UK economy needs smarter regulation than this to allow the leasing industry to facilitate a strong recovery in business investment in 2023 and beyond.

Update 8 February. I am most grateful to Bermans for referring to this post in their Asset Finance Law Briefing Winter 2022/23 I do however differ from the view in their article that there is no application to business customers. It's right that Principle 12, the new Consumer Duty Principle, refers specifically to 'retail customers' that would exclude business customers. But, unfortunately, PRIN 1.2.1 (pending, see the Made rules as published in PS22/9) amplifies this by stating that Principle 12 (alongside others) imposes requirements on firms expressly in relation to their 'client' or 'customer'. And the FCA glossary shows that a 'customer' is not restricted in the same way as a client. If there was doubt over the FCA's intentions, its Policy Statement PS22/9 page 13 notes: 'So, where SMEs are already protected by our rules under a sectoral sourcebook, the Duty will also apply'.

Second update 20 February. Today Bermans has re-issued its Briefing, with amended wording that suggests the scope of Consumer Duty will go beyond 'retail customer'. However, I think Bermans were correct to identify that Principle 12 refers only to the narrower FCA glossary definition of 'retail customer' (being an individual who is acting for purposes which are outside his trade, business or profession). As I describe above, the FCA's intention was clearly to include unincorporated SMEs. But it's still a mystery why Principle 12 wasn't written to say that. This uncertainty will only disappear with clarification from the FCA.

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