The scale of PPI mis-selling became evident as the Financial Services Authority (FSA) took over responsibility for the regulation of sales of general insurance products in 2005 – sales of insurance had been self-regulated before that time. The extent of mis-selling unfolded during the FSA’s tenure, but proved difficult to fix.
The regulator was determined the same structural errors should not be repeated. It therefore sought the mandate to intervene sooner to prevent widespread harm to consumers from financial products. Its successor, the Financial Conduct Authority (FCA), was given that fiat.
The lessons learned from PPI can be seen in most of the FCA’s policy developments. However, the UK’s experience with PPI has also been used as the blueprint for the new European directive governing the sale and distribution of insurance policies – the Insurance Distribution Directive (IDD).
The scale of PPI mis-selling needs no introduction, but the headline figures are worth repeating. The FCA estimated that more than 64m PPI policies were sold between 1990 and 2010; UK banks have set aside more than £40bn for consumer redress payments (not counting additional interest sums); redress payments to strapped UK householders helped maintain GDP up in the aftermath of the financial crisis; the largest single fine imposed for PPI failures was £117m, paid by Lloyd’s Bank in 2015.
The lessons learned from PPI can be seen in most of the FCA’s policy developments
PPI is not a flawed product as such. It was originally designed to ensure policyholders could receive payments to cover credit commitments in certain circumstances, for example covering payments when the policyholder was ill or had lost their job.
The problem was not the product, but how it was sold and who it was sold to. PPI policies were frequently sold by banks to customers who would never be able to claim under their policies or offered on the basis that policies were a pre-requisite to the approval of a loan. The insurance was often bundled with the credit product, leaving customers unable to shop around for more suitable cover.
The root cause of this mis-selling was seen to be a culture within distributors that failed to protect customers in various ways – allowing aggressive sales targets for staff to sell PPI and confusing information about the product.
So, how does FCA and European regulatory policy reflect lessons learned through PPI mis-selling? Several regulatory measures originate from the PPI scandal. Most significantly, there has been a step change from regulation of solvency and point-of-sale information towards more intrusive supervision that looks at how financial products are designed, which customers products are suitable for, what incentives operate to make the sale and how sales to the target market are monitored.
In 2012 the FSA and Office of Fair Trading jointly adopted guidance on how payment protection products should be designed. This was the first intervention by the regulator into how firms should design policies. In its mission statement, Journey to the FCA, the new regulator brought product governance into the heart of financial regulation. It stated: “One of the key lessons we have learned from previous market failures, such as payment protection insurance, is that it can be much more effective to intervene early.”
Under the FCA’s product governance and intervention requirements, firms are expected to design products for specific target markets and monitor how well these products perform for the market for which they had been designed. They are also expected to review sales staff incentives to ensure remuneration is not driving inappropriate sales. Critically, the FCA has been given statutory powers to prevent sales of products that have been identified as harmful for customers.
The IDD, due to come into force early in 2018, requires all insurance distributors to act at all times in the “best interests of customers”.
This obligation introduces something akin to a duty of care to ensure customers buy insurance products they need and are able to claim under. Similar to the UK Principle 6 on treating customers fairly (TCF), customers’ best interests require both manufacturers of products and those who distribute them – direct-sellers, brokers, intermediaries and IFAs – to ensure customers’ interests are considered throughout the product lifespan.
Customers’ best interests
It is clear to see how the PPI mis-selling experience in the UK has influenced the IDD. How can insurers and distributors evidence that they are acting in their customers’ best interests?
Answer: by showing thatthey have designed their products for specified consumer markets and monitor how those products are working in those markets, and by ensuring sales targets do not push inappropriate products onto customers. PPI is the casestudy behind the IDD, showing what can go wrong when customers are left out of product design and sales incentives.
The decision to provide the FCA with an objective to promote effective competition and competition law powers was driven by recognition that the FSA had been limited in its ability to tackle the competition issues associated with selling PPI alongside primary credit products. In its submission to the Parliamentary Commission on Banking Standards, the FSA said: “Competition is vital in improving products for consumers and this new objective will require the FCA to identify and address competition problems.”
For the Financial Ombudsman Service (Fos), which had the responsibility of picking up the pieces of the scandal, PPI has shown how effective consumer dispute resolution can be. The Fos generally came out of the PPI scandal showing how effectively consumer dispute resolution can work within a regulatory structure.
By 2016 the Ombudsman had closed more than a million PPI mis-selling cases. In his review of Fos’s work in managing PPI claims, Richard Thomas, author of the report The Impact of PPI Mis-selling on the Financial Ombudsman Service, concluded that “the overall assessment of the handling of individual complaints has been positive”. Mr Thomas found Fos made the right decision to gear up funding, training and recruitment to tackle the tidal wave of consumer claims, and has so far been able to fulfil its mandate to handle consumer complaints while maintaining customer satisfaction and without significant challenges from firms.
It is perhaps because of the Ombudsman’s successful handling of PPI and the sheer pace and scale of claims processed that the FCA has been able to focus on the structural causes of the scandal and work to develop remedies that seek to prevent something similar happening again.
Noleen John is a partner and Laura Hodgson is senior knowledge lawyer at Norton Rose Fulbright