Implications of FCA 'polluter pays' proposals for DB transfer advice

The Financial Services Compensation Scheme paid £760mn in redress due to unsuitable advice given by personal investment firms between 2016 and 2022. An astonishing 95 per cent of this redress involved only 75 firms.

In light of this finding, the FCA wants what it calls 'polluter firms' – those who have “got things wrong” – to hold sufficient funds to meet their own redress obligations, rather than effectively passing the cost to other firms through the FSCS levy.

In particular, in consultation paper CP23/24 "Capital deduction for redress: personal investment firms", issued November last year, the FCA is proposing to require firms to set aside capital for potential redress liabilities arising from designated investment activities.

The calculations would allow for a probability factor, reflecting that not all potential redress liabilities will result in a redress outcome.

The capital to cover potential redress liabilities would be deducted from the firm’s capital resources.

If the firm is undercapitalised after this deduction has been made, it will have to comply with asset restriction rules.

These rules would prevent the firm from carrying out transactions not deemed by the FCA to be “in the ordinary course of business”.

The FCA references its advice-guidance boundary review at various points in the consultation paper.

The FCA will also use new reporting requirements to direct their supervisory process. Firms will need to provide the aggregate value of redress liabilities and the number of consumers affected. They will also be expected to keep records of how they have arrived at their stated redress liabilities.

Alongside the polluter pays proposals, the FCA is consulting on a wider review of the regulatory regime for personal investment firms. The aim is to move towards a more comprehensive regime that would incorporate:

• New regulatory rules around capital and liquidity adequacy.
• Improved risk management requirements.
• More extensive reporting and disclosure requirements.
• Wind down planning requirements.

The consultation was accompanied by a ‘Dear CEO’ letter, reminding firms not to avoid their redress commitments.

When will the changes take effect?

The changes are expected to come into effect in the first half of 2025.

The consultation closes on March 20 2024 and the FCA plans to issue a policy statement in the second half of this year. There will then be a period of at least six months for firms to prepare for the changes.

Which firms are affected?

The FCA expects around 4,900 firms to fall within the scope of the proposals. 

Exemptions will apply for some personal investment firms – most notably sole traders and unlimited partnerships. However, exemptions for these firms will only apply to the asset retention requirements.