NetworkAug 8 2019

Court ruling to create two-tier client protection

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Court ruling to create two-tier client protection

Clients of appointed representatives could find themselves unprotected against losses following a judgement which ruled in favour of the Sense Network this week, a lawyer has warned. 

Last week (July 31) the Court of Appeal sided with Sense, which was taken to court by 95 claimants over an alleged secret £12.8m "Ponzi scheme" run by one of its appointed representatives. 

The ruling followed that handed down by a judge in November, who found the network was not responsible for the losses experienced by the claimants because the advice given by the appointed representative sat outside of its AR agreement. 

The AR in question had advised clients to invest in what the judge called a Ponzi scheme, which involved what the clients understood to be short-term deposits carrying very high interest rates. 

Philippa Hann, managing director of litigation at law firm Clarke Willmott which is representing the claimants, warned the ruling could create a "two-tier system of protection" for UK investors, with clients of principals afforded more protection than those of appointed representatives. 

She said the crucial point in the decision landed with the provider panel approved by the network.

The court found because the investment scheme being run by the appointed representative, regardless of its legality, was not on the network's panel of approved providers, the network did not have any liability for the losses that occurred as a result as it fell outside of the business Sense had specified it was responsible for. 

The Court of Appeal agreed with November's ruling that the private contract between a principal and appointed representative determined the business for which the former was responsible.

Ms Hann said: "Where an adviser is not an appointed representative but directly authorised by the FCA, the consumer will be protected in relation to the business it is permitted to undertake and which is listed on the publicly available FCA register.

"If the appointed representative had been directly authorised, the claimants would have been protected."

The judgement would be relevant to any appointed representative acting outside of its agreement with its principal, Ms Hann said. 

She added: "The fact that the investment in this case was a Ponzi scheme is irrelevant to the decision the judge made and the consequences on the general public.

"Any client of an appointed representative advised in relation to anything which falls outside of the agreement with the principal – for example advice to invest with one provider rather than another - will leave the client without protection entirely without their knowledge.

"In this case, the staff at the appointed representative did not inform the claimants that the advice fell outside the agreement with the principal."

The court found the appointed representative had taken steps to conceal the scheme from the network and in particular no documents in connection with the scheme were uploaded to the cloud-based system operated by Sense.

According to the judgement, payments and repayments under the scheme were not made to or from the bank account of the appointed representative, which was audited by Sense, but rather to and from a separate account personally operated by its director.  

Ms Hann said: "This judgment now leaves consumers at the mercy of unscrupulous appointed representatives acting in breach of their private arrangement with their principal, for which the principal avoids liability despite the law providing for it to seek damages from the appointed representative for breach of that contract.

"Yet again the consumer is blind, victim of an inequality of information and bottom of the pile when it comes to protection. This can hardly be paying due regard to the interests of its customers and treating them fairly."

A spokesperson for Sense said: "Whilst Sense feels sympathy for the investors and the losses that they have incurred, Sense was totally unaware of the scheme and had no part in causing those losses.

"Responsibility for those losses lies 100 per cent with [the appointed representative] and the individual who masterminded the fraud." 

The claimants are now seeking permission to appeal the decision to the Supreme Court.  

Harriet Quiney, partner and professional indemnity lawyer at DWF Law, said the ruling would prove helpful in an area of ongoing dispute in the advice industry, especially in providing clarity in cases reaching the Financial Ombudsman Service. 

The Fos is required to take judgements into account when deciding a case or explain itself if it chooses to differ from a court ruling. 

Ms Quiney said: "The network is responsible for the actions of their appointed representatives as though it had carried them out itself, as specified in the regulation.

"It gives direct liability for those actions but there has to be some sort of break in it, because obviously you can risk having an appointed representative who goes on a rampage of fraud and it is not right that a network who has taken reasonable precaution should be liable for those kind of actions.

"We've always said the key is in the contract between the network and appointed representative, and if, as in this case, there are very specific products included in that contract and reasonable checks in place with a proper relationship then that ought to be good enough in terms of imposing liability." 

Ms Quiney suggested advice networks "look carefully" at contracts with appointed representatives and review agreements in light of the Sense ruling, meaning advisers could potentially be hearing from their principals with any future changes. 

Phil Young, chairman of the Sense Network and founder of adviser consultancy Zero Support, said Section 39 of the Financial Services and Markets Act 2000 only imposed liability on the principal for the business described in the contract with the appointed representative, which was existing law he said was "simply upheld" by the original judge and the Court of Appeal. 

He added: "It’s good to see the courts again draw a line on this which does not create more pressure on the profession."

Last year advice network Tenet lost a High Court case in which a judge ruled it was liable for the unregulated activities of one of its appointed representatives. The Fos had previously reached the same conclusion. 

But in this case where the appointed representative had given advice to invest in an unregulated investment it had also advised clients to surrender a regulated investment, and the judge found the central issue to be how closely the two pieces of advice were entwined. 

Stephen Young, former chairman of the Sense network and now an independent director on its board, said: "In Tenet Connect, the advice to invest was unregulated and unauthorised but in order to invest the AR gave regulated and authorised advice to surrender a Friends Provident bond.

"Hence, the judge held that the two pieces of advice were so closely connected that they were effectively the same transaction and was regulated and authorised by Tenet Connect.

"There were other investments made by the same client where no surrender was advised and these were unregulated and unauthorised.

"In Sense, the advice to invest was clearly unauthorised and the judge held that Sense could not be liable under s39." 

rachel.addison@ft.com 

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