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CONSUMER CREDIT

- preparing for FCA supervision

Bill McCaffrey and Simon MorrisCMS Cameron McKenna

18 June 2013

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1. Journey to the FCA – Bill McCaffrey

2. FCA regulation of Consumer Credit

The practical impact … and getting ready

– Simon Morris

18 June 2013

Journey to the FCA

Bill McCaffrey

CMS Cameron McKenna LLP

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Initial consultation

− Journey to the FCA – FSA – October 2012

− High level proposals for an FCA regime for consumer credit – FSA – March 2013

− A new approach to financial regulation – HMT – March 2013

• The Financial Services and Markets Act 2000 (Regulated Activities) (Amendment) Order 2013

• Financial Services Act 2012 (Consumer Credit) Order 2013

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Transfer to the FCA

− One single body regulating all retail financial services

− Ensure markets function well

• Promote effective competition in interests of consumers

• Secure appropriate degree of protection for consumers

• Protect and enhance the integrity of UK financial system

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The FSMA Model

− Rule making – complimented by high level requirements and principles

− Authorisation – robust scrutiny at gateway to market

− Approved persons – scrutiny of key individuals

− Supervision – monitoring and provision of information

− Enforcement – action against firms and individuals

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Authorisation

− Authorisation to replace current licensing system

− If carrying on a credit-related regulated activity, must be authorised or exempt

− Tougher scrutiny – meet and continue to meet threshold conditions

− Ensure appropriate systems, controls and individuals in place

− Ability to carry or remove permission or place requirements

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Interim permissions

− Any person holding current OFT licence will be granted an interim permission if:

• notify FCA of wish to obtain• pay fee (£350 unless sole trader, in which case £150)

− Expect to apply Autumn/Winter 2013

− If application not made cannot carry out regulated activity

− If want to carry out activity for which not licensed must apply for full authorisation

− Will remain in effect until 1 April 2016 or other date set by FCA

− May not act as principal for appointed representative in relation to an activity for which hold an interim permission

− Supervision to be “event driven” and “issues based”

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Tiered approach to authorisation

− Tier 1 – “Core” credit model

• high risk: lenders

• must meet all threshold conditions

− Tier 2 – “Limited permissions” regime

• lower risk: credit provision is secondary to core activities

• less onerous and tailored to business

− Appointed representatives – principal accepts responsibility for regulated activities

• may obtain authorisation and operate as an appointed representative

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Threshold Conditions

The firm’s strategy for ongoing business must be suitable for its regulated activities,

having regard to the FCA’s operational objectives.

Business model

The firm must demonstrate the competence and ability of management, and that the

firm’s affairs are conducted in an appropriate manner regarding the interests of consumers and the integrity of the UK financial system.

Suitability

The firm must demonstrate appropriate financial resources, nature and scale of the

business and skills and experience of those managing the firm’s affairs.

Appropriate resources

A firm must be capable of being effectively supervised by the FCA, including the

complexity of its regulated activities, products, and how the business is organised.

Effective supervision

If the firm is a body corporate constituted under UK law, the firm’s ‘mind and management’, e.g. directors, compliance function, audit function, should be in the UK.

Location of offices

ExplanationThreshold Conditions

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Approved persons

− Need to have right people in important roles

− Detailed proposals in September 2013

Controlled functions/significant influence functions

− Approval needed before individual can perform

− Consider fitness and propriety, including competence and capability

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Conduct standards

General principles for business(“PRIN”)

Systems and controls rules

(“SYSC”)

General provisions

(“GEN”)

Industry

codes

CCA conduct

provisions

OFT

guidance

Conduct Standards Rules

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Principles for business

A firm must deal with its regulators in an open and co-operative way, and must disclose to

the FCA appropriately anything relating to the firm of which the FCA would reasonably expect notice.

Relations with regulators11

A firm must arrange adequate protection for clients’ assets when it is responsible for them.Clients’ assets10

A firm must take reasonable care to ensure the suitability of its advice and discretionary decisions for any customer who is entitled to rely on its judgement.

Customers: relationships of trust

9

A firm must manage its conflicts of interest fairly, both between itself and its customers and between a customer and another client.

Conflicts of interest8

A firm must pay due regard to the information needs of its clients, and communicate

information to them in a way which is clear, fair and not misleading.

Communications with

clients

7

A firm must pay due regard to the interests of its customers and treat them fairly.Customers’ interests6

A firm must observe proper standards of market conduct.Market conduct5

A firm must maintain adequate financial resources.Financial prudence4

A firm must take reasonable care to organise and control its affairs responsibly and effectively, with adequate risk-management systems.

Management and control3

A firm must conduct its business with due skill, care and diligence.Skill, care and diligence2

A firm must conduct its business with integrity.Integrity1

The Principles for Businesses

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Rules etc.

SYSC – examples− Must have robust governance arrangements

− Must keep sufficient business records to allow compliance monitoring

− Must employ personnel with necessary skills, knowledge and expertise

Gen – examples

− Rules on statutory disclosure on customer correspondence

− Ban on insurance against financial penalties

− Firms may not pay financial penalties imposed on employees/directors

Where rules cannot be replicated under FCA they will be retained in CCA.

OFT guidance will be turned into FCA rules.

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Financial Promotions

− Proposal to replace CCA advertisements regime

− May have significant impact on additional costs – increased scrutiny

− Consulting Autumn 2013

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Enforcement

Powers significantly greater than those available to OFT. Will include:

Investigatory:

− make people answer questions and provide documents

− obtain warranty to enter and search

Civil, criminal and disciplinary

− withdraw authorisation and approval

− stop individuals working in financial services

− publicly censure

− unlimited fines

− freeze assets

− restitution orders

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FCA REGULATION OF CONSUMER CREDITThe practical impact … and getting ready

Simon Morris

June 2013

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Looking at ...

1) The view from the FCA

2) The FCA policy

a) Approach, culture & supervision

b) What it means for consumer credit firms

3) The rationale for change

4) The FCA agenda for consumer credit

5) 10 key changes

6) 10 steps for a firm to take

7) The longer outlook

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1) The view from the FCA

Renamed FSA with reduced scope

− Must act compatibly with strategic objective – ensuring markets function well

• Consumer protection – appropriate degree, proportionate to risk and

customer skills bearing in mind customer responsibility

• Integrity – protecting & enhancing integrity of UK financial system

• Competition – promoting effective competition in the interests of

consumers

− Taking a more pro-competition approach to regulation

• Still thinking but will take bold and wide reaching action

• Will challenge providers on value for money

• Market dominance; weak consumer engagement – bundled/inertia

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2) The policy ... The Journey to the FCA

1. This is our opportunity to reset conduct standards

2. The six retail TCF outcomes remain core

3. Ensuring fair treatment of consumers through CCA regulation

The FCA is considering eight success measures …

1. Successfully intervening earlier

2. Dealing quickly and effectively with crystallised risks

3. – 8. …

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Elements of the policy – approach

− We built ever more rules and guidance about how to build a compliant process. It was robotic. Too captured by the interests of firms. What we did too little was look at outcomes, so not ask ‘was the sale compliant?’, but ‘did it achieve a good outcome?’

− ... And that is why the FCA is looking not just at systems and processes, but asking serious questions about major moral hazards like buyer beware – or caveat emptor.

Martin Wheatley April 2013

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Elements of the policy – culture

Our approach today is to draw conclusions about culture from what we observe about a firm – in other words, joining the dots rather than assessing culture directly. This can be through a range of different measures such as

−how a firm responds to, and deals with, regulatory issues;

−what customers are actually experiencing when they buy a product or service from front-line staff;

−how a firm runs its product approval process and the considerations around these; the manner in which decisions are made or escalated;

−the behaviour of that firm on certain markets; and

−even the remuneration structures.

Clive Adamson April 2013

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Elements of the policy – supervision

Our forward-looking assessment of a firm’s conduct risks will be undertaken by the new Firm Systematic Framework (FSF). This is designed to answer the key question of ‘Are the interests of customers and market integrity at the heart of how the firm is run?’ and will involve:

• analysing firms’ business models and strategies so we are able to

form a view of the sustainability of the business from a conduct

perspective and where future risks might lie; and

• an assessment of how the fair treatment of customers and ensuring

market integrity is embedded in the way in which the firm runs its

business, from the ‘tone from the top’ through how culture is embedded

across the firm, to how the firm manages and controls its risks

Clive Adamson March 2013.

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So welcome to the mainstream ...

Where

1) Disclosure is not enough

2) Outcomes matter

3) Culture is important

4) “Show me” is essential

a) How do you manage remuneration & incentives?

b) Why is your product or service positively valuable?

c) How do you achieve compliant distribution?

5) Your business model is scrutinised

a) What makes your money?

b) Do we approve?

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3) Why? The rationale for change

Fundamental overhaul of regulation is now due. We need a system –

− able to flex to keep pace with a fast-growing, innovative market;

− with the powers and resources to protect consumers from actual –and potential – detriment,

− that puts a proportionate and manageable regulatory burden on business; and

− which delivers a well-functioning consumer credit market, which ensures that consumers have access to the credit they need and supports the sustainable growth of the UK economy.

=> Flexible not fixed; fully resourced; alert to potential detriment

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And therefore ...

The FCA will protect consumers

−police the gateway more thoroughly to ensure that firms entering the market meet appropriate standards;

−be proactive and forward-looking in identifying risks to consumers;

−approve individuals in influential roles in firms;

−make rules to tackle actual and potential consumer detriment;

−use its wide enforcement powers to tackle bad practice, illegal lending and drive up standards through credible deterrence; and

−ensure that consumers have access to redress if things go wrong.

=> Rules for firms & individuals, judgemental, enforcement & redress

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4) The FCA agenda for consumer credit

Nothing in FCA Risk Outlook; little in FCA Business Plan. But …− Consumers are not sufficiently protected from harm in this market. − To be effective, regulation must also keep pace with a rapidly

changing and growing credit marketplace. − The Government wants to ensure that the consumer credit

regulatory regime is equipped to deliver more robust consumer protection in the future.

− Where detriment does occur, the regulator will take strong and effective action, including enforcement action.

A New Approach to Financial Regulation March 2013

⇒stricter, more intrusive & dynamic

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5) Ten key changes …

1. Some specific changes – financial promotions

2. Some reserve powers – product intervention

3. Business reviewed through a competition focus

4. A higher hurdle after interim authorisation

5. Frequent policy initiatives

6. Active supervision

7. Subject to Principles for Business

8. Ability to require past business reviews

9. Reality of enforcement

10.Senior management subject to individual approval

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6) Ten steps for you to take …

1. Map risks from nose to tail

2. Ensure they are managed – senior management responsibility

3. Get full MI and act on it

4. Review your business from a TCF perspective

5. Follow the FCA policy initiatives, cases and speeches

6. Prepare for active supervision – be orderly and transparent

7. Consider the governance of how you operate

8. Think “how will this look to an intrusive and judgemental FCA”?

9. Think competition

10.Ensure comprehensive competence at all levels

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7) The outlook

1. Continuity of substantive rules for 3 to 5 years

2. Significant change in delivery from 2014 accelerating after 2016

– Supervision

– Manufacture of policy

– Creation of campaigns

– Highlighted by enforcement action

3. Imposition of senior management responsibility

4. After 2018-19 conversion of statute to rules

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Any questions?