Below is a copy of the R3 paper for treatment of claims for Miss Sold IRHP’s
INTEREST RATE HEDGING PRODUCTS – REDRESS FOR MIS-SELLING
This paper is for purposes of guidance only, and is not intended as a substitute for legal advice in particular cases.
Interest Rate Hedging Products
Interest rate hedging products (IRHPs) are products sold by banks to customers for the purpose of providing protection against fluctuations in interest rates. IRHPs are typically separate from the loans to which they relate.
There are broadly four types of IRHP:
•Swaps – which enable customers to fix their interest rate.
•Caps – which place a limit on any interest rate rises.
•Collars – which enable customers to limit interest rate fluctuations to within a simple range.
•Structured collars – which enable customers to limit interest rate fluctuations tp within a specified range, but where, if the reference interest rate falls below the bottom of the range the interest rate payable by the customer may increase above the bottom of the range.
Mis-selling and the Review Process
Following complaints from a number of sources, in 2012 the Financial Services Authority conducted a preliminary review into possible mis-selling of IRHPs. The review identified a variety of poor sales practices, exacerbated by the fact that some of the products were too complex for ‘non-sophisticated’ customers to understand. The review found that over 90% of sales of IRHPs to ‘non-sophisticated’ customers did not comply with one or more regulatory requirements. Redress will be owed to the customer in a significant number of these cases (though non-compliant sales may not necessarily amount to mis-selling).
Under the auspices of the Financial Services Authority (now the Financial Conduct Authority) the banks are currently undertaking a review to identify cases of possible mis-selling and to enable customers to obtain redress. Under the review, ‘non-sophisticated’ customers who bought IRHPs other than interest rate caps will be contacted by their bank with details of how to engage with the review process. Customers who bought interest rate caps and who want their sale to be reviewed will have to contact their banks themselves. The review began at the end of April, and the FCA expects the majority of provisional offers to be made in six to twelve months, although negotiations in individual cases may continue beyond this date.
Further details of the review process and the approach being adopted by the banks and the FCA are set out in the Annex to this note. The criteria for determining whether a customer is ‘sophisticated’ or ‘non-sophisticated’ are set out in the separate FSA flowchart.
There are likely to be a number of cases in which insolvency practitioners are appointed as office holders to corporate or non-corporate bodies which have a potential claim for redress under the review process. The likelihood of a claim being successfully maintained will depend on the circumstances of each case, and it is not possible to give guidance on how individual claims should be dealt with. However, there are a number of general issues of relevance to insolvency practitioners which R3 has discussed with the FCA, the Treasury and the Insolvency Service. The following are the responses which have been provided to the questions raised by R3.
Will the banks contact the office holder in all cases, including where he is appointed over a partnership or sole trader?
The FCA expects banks to contact office holders of insolvent businesses with a Category A or B IRHP (i.e. an IRHP other than a cap) in place. There is no standard letter or questionnaire from all banks, though the approach is likely to be similar and will give the option to provide further information.
The FCA would expect the banks to apply the same process to any customer in the review and would therefore expect them to contact IPs appointed in relation to sole traders and partnerships
The FCA does not foresee any need to employ the services of claims management companies.
If not contacted, how might IPs be able to identify whether or not a product is or has been taken out?
Will IPs be able to contact banks to verify whether there is or was an IRHP in place?
The population of IRHPs is fixed and banks are aware of who they have been sold to. It is not impossible that a letter from the bank may go astray where there has been a change of address. In such cases it should be possible to determine whether an IRHP is in place by examining the business’s records and/or consulting previous management.
Office holders can also contact the bank directly in order to verify whether an IRHP is in place.
Can an IP contest the classification of a business as a ‘sophisticated’ customer directly with the bank? How might this be appealed?
If a customer believes that the ‘objective’ test has been misapplied or disagrees with the outcome of the ‘subjective’ test, an appeal can be made to the bank in the first instance. In these cases, the bank’s decision will be re-examined and verified by the independent reviewer. There is no further appeal process within the FCA review.
Where banks have taken enforcement action against businesses with an IRHP in place without prior consent, is there any means of contesting this action through the FCA scheme?
The banks have committed that – except in exceptional circumstances such as, for example, where this is necessary to preserve value in the customer’s business – they will not take enforcement action or adversely vary existing lending facilities without giving prior notice to the customer and obtaining their prior consent. This is until a final redress determination has been issued, and if relevant, redress provided to the customer. Where this does take place, the decision needs to be agreed by the independent reviewer. There is no means of appealing this decision within the FCA review.
If enforcement or other measures have already taken place prior to the agreement with the banks, there is no way of reversing the process.
Where directors or others face personal liabilities in connection with guarantees given to support borrowing by companies which have subsequently failed, will such cases be treated as a priority?
The banks have agreed to prioritise cases where customers are in financial difficulty. As in all cases, where there would appear to be a need for a case to be handled urgently (including where directors or others face personal liabilities in connection with guarantees given to support borrowing by companies), the situation should be explained to the bank as soon as possible.
The Destination of the Redress Funds
Where redress is provided, questions may arise as to the destination of the redress funds. These may involve consideration of issues such as –
•How the redress is to be accounted for between the customer and the bank.
•Possible set-off, and whether this will depend on the type of insolvency and whether there are differences between England & Wales and Scotland.
•Whether the redress is caught by the lender’s, or another lender’s, floating charge.
•Whether redress claims are statute-barred after 6 years.
Office holders will need to consider each case in the light of its own circumstances, and may feel it appropriate to take legal advice in relation to individual cases.
7 November 2013
THE REVIEW PROCESS
Interest rate hedges include a variety of different products sold to customers to help protect them against interest rate risk and are intended to provide greater certainty over future loan repayments. These products were frequently marketed to customers who had a loan with the bank. There are broadly four types of products that have been sold to customers:
•Swaps – enabling the customer to ‘fix’ their interest rate;
•Caps – placing a limit on any interest rate rises;
•Collars – enabling the customer to limit interest rate fluctuations to within a simple range; and
•Structured collars – enabling a customer to limit interest rate fluctuations to within a specified range, but involves arrangements where, if the reference interest rate falls below the bottom of the range, the interest rate payable by the customer may increase above the bottom of the range.
In June 2012, the FSA announced the findings of their review into the mis-selling of interest rate hedging products at Barclays, HSBC, Lloyds and RBS, following complaints from a variety of sources. The review uncovered a variety of poor sales practices across various products and banks, exacerbated by the fact that these were complex products for ‘non-sophisticated’ customers to grasp.
The FSA agreed with the four banks that they should, under the scrutiny of an independent reviewer:
•Provide redress on the sale of structured collars to ‘non-sophisticated customers1
•Review sales of other interest rate hedging products (except caps or structured collars) for ‘non-sophisticated customers’ on or after 1 December 2001; and ’ made on or after 1 December 2001;
•Review the sale of a cap if a complaint is made by a ‘non-sophisticated customer’ during the review. Complaints from sophisticated customers will not be subject to the past business review but will be dealt with in accordance with the banks usual complaints handling procedures.
Allied Irish Bank (UK), Bank of Ireland, Clydesdale and Yorkshire banks (part of the National Australia Group (Europe)), Co-operative Bank, Northern Bank and Santander UK are also reviewing their sales of interest rate hedging products to SMEs.
In January 2013, the FSA published the results of the pilot review into the selling of interest rate hedging products to non-sophisticated customers at Barclays, HSBC, Lloyds and RBS (report attached). In the pilot, over 90% of sales were found to be non-compliant. The pilot also identified areas where the sophistication test, which had previously matched that
1 For ‘sophisticated’ and ‘non-sophisticated’ customers see below and the separate FSA flowchart.
contained in the Companies Act 2006 for eligibility for lighter reporting requirements, ought to be amended.
All eleven banks concerned have now commenced the redress scheme.
Category A: Structured collars
Enable customers to limit interest rate fluctuations to within a specified range, but involves arrangements where, if the reference interest rate falls below the bottom of the range, the interest rate payable by the customer may increase above the bottom of the range
As a result of the agreement for customers who bought structured collars:
• The banks will contact customers to explain whether they fall within the scope of the review (i.e. whether they are considered sophisticated or not);
• If they fall within the scope of the review they may need to respond to requests for information from their bank;
• The banks will propose fair and reasonable redress, which is reviewed and agreed by the independent reviewer; and
• Once the customer agrees the redress proposal, they will be issued with a final redress proposal.
Category B: Other interest rate hedging products (except caps or structured collars)
Swaps – enable customers to ‘fix’ their interest rate
Collars – enable customers to limit interest rate fluctuations to within a simple range
Customers who bought other interest rate hedging products (except caps or structured collars) from the relevant banks will be:
• Contacted by their banks to explain whether or not they are considered non-sophisticated;
• If they fall within the scope of the review (i.e. determined to be non-sophisticated) their bank will ask them whether they want their sale to be reviewed;
• If the customer wants their sale to be reviewed, they may need to respond to requests for information from their bank;
• Where it is appropriate in the individual circumstances, the banks will propose fair and reasonable redress on a case by case basis, which is reviewed and agreed by the independent reviewer; and
• Once the customer agrees the redress proposal, they will be issued with a final redress proposal.
Category C: Caps
Place a limit on any interest rate rises
Customers who purchased caps are not included in the scope of the review unless they complain to their bank during the course of the independent review and are non-sophisticated customers. If the customer does complain, it will be considered in the same way as the other interest rate hedging products (except structured collars) category. However, if a customer complains after the independent review, their complaint will be dealt with in accordance with the banks’ usual complaints handling procedures.
The banks have agreed to apply a set of principles to each case. In the view of the FCA, there are three potential outcomes for customers:
•Full redress – if it is reasonable to conclude that, had the sale complied with the regulatory requirements, the customer would not have purchased any IRHP, fair and reasonable redress will be the exit from the IRHP at no charge and a refund of all payments, including, where appropriate, any break costs previously paid.
•Alternative product including a different product and/or a different profile (e.g. amount, duration or structure of IRHP) – if it is reasonable to conclude that, had the sale complied with the regulatory requirements, the customer would have purchased a different IRHP, fair and reasonable redress will be the alternative product and the refund of any difference in payments between the alternative product and the product actually purchased, including, where appropriate, the difference in any break costs previously paid.
•No redress – if it is reasonable to conclude that, had the sale complied with the regulatory requirements, the customer would still have bought the same product, or the customer suffered no loss.
The banks have agreed to consider ‘consequential loss’ on the same basis that a court would consider such losses in relation to claims in tort and for breach of statutory duty. Therefore, the ‘consequential losses’ of a business customer would be recoverable under the Review, subject to questions of causation and remoteness.
Very broadly, when looking at causation, a court would consider whether the loss was caused by a breach of Regulatory Requirements (in other words, what would have happened ‘but for’ the breach in Regulatory Requirements); and when considering ‘remoteness’ a court would look at whether the particular loss being claimed was within a range of consequences which a reasonable person might foresee.
This means that customers wishing to recover ‘consequential losses’ on a different basis (e.g. in deceit or under the Misrepresentation Act 1967) should do so outside of the Review and through the usual court processes.
If customers are not satisfied with the outcome of their case or the level of redress received, they should in the first instance raise this with their bank.
If customers are not happy with how their case has been reviewed The Financial Ombudsman Service can currently consider complaints from any business that meets the micro-enterprise definition at the time at which it complains. A micro-enterprise is an entity that has fewer than 10 employees and an annual turnover or balance sheet that does not exceed €2 million.
If customers are not able to refer their case to the Financial Ombudsman they may have the option of seeking redress through the courts.
The banks have agreed to prioritise cases where customers are in financial difficulty. The banks have also voluntarily agreed to consider suspending payments for customers in financial distress, on a case by case basis, pending the outcome of their case.
Customers in financial difficulty
The banks have also committed that – except in exceptional circumstances such as, for example, where this is necessary to preserve value in the customer’s business – they will not foreclose on or adversely vary existing lending facilities without giving prior notice to the customer and obtaining their prior consent. This is until a final redress determination has been issued, and if relevant, redress provided to the customer. The independent reviewers will provide oversight of this process.
The banks have agreed to review sales of interest rate hedging products made on or after 1 December 2001. Depending upon the product purchased and whether the customer is classified as a ‘sophisticated’ customer or a ‘non-sophisticated’ customer they may be eligible for the review.
Businesses in administration
Therefore, the FCA would expect the bank to contact the administrator to discuss what would be fair and reasonable redress in the particular case.
The FCA has now completed its consultation as to what the banks should do where a customer in the review has already been dissolved and struck off the Register of Companies i.e. there is no longer any legal entity to whom redress can be paid.
The proposed approach is therefore that all banks in the review should provide as soon as possible a breakdown of how many dissolved customers they have within their respective populations, and how these are broken down between Categories A, B and C. Unless that data shows the total number of dissolved customers is relatively small (in which case it might be more appropriate for a blanket approach to be followed across all dissolved customers), the FCA has requested that the banks follow the approach set out below:
•The banks should automatically review files of dissolved Category A customers and should contact the interested parties from the dissolved customer with the details of any redress offer. The interested parties can then decide whether they wish to restore the company to the Register so it could receive any redress payment. Unless and until the company is restored, the bank would pay any redress to the Treasury Solicitor;
•The banks should proactively contact the interested parties from dissolved Category B customers to see if they want their file reviewed. If they do, the bank should conduct the review and then inform the interested parties of any redress offer. The interested parties can then decide whether they wish to restore the company to the Register so it could receive any redress payment. Unless and until the company is restored, the bank would pay any redress to the Treasury Solicitor;
•If any interested parties from dissolved Category C customers contact the banks and request the customer files are reviewed, the banks should review them, and follow the same process as with dissolved Category A and B customers set out above.
In other words, companies which have been dissolved should be treated consistently with all other customers in the review.
‘Interested parties’ means former directors, shareholders and liquidators of any dissolved company, as well as, where appropriate, former creditors. In terms of the process for contacting interested parties of a dissolved company, banks should be able to obtain contact details for former directors, shareholders and liquidators from Companies House. The FCA would not necessarily expect banks to contact former creditors, although it may be appropriate to do so on a case by case basis. The banks should take reasonable steps when trying to contact interested parties, including sending at least two letters to each party, and following up by telephone call if necessary/possible.
Communications between banks and interested parties of dissolved customers about any potential redress offer should be carefully worded and should refer to guidance on how to make an application to restore, including timelines, and the consequences of restoration. The Treasury Solicitor’s ‘bona vacantia’ website is very helpful in this respect and could be referenced in any letter:
The parties should also be informed that if they have any doubts, they should take their own independent legal advice on the issue. Any communications could also make clear that the costs incurred in making any application to restore the company would need to be borne by the parties and are not payable by either the Treasury Solicitor (in the case of England & Wales and Northern Ireland), the Lord Treasurer’s Remembrancer (in the case of Scotland), or the banks.
‘Sophisticated’ and ‘Non-sophisticated’ customers
Only customers categorised as ‘non-sophisticated’ are within the scope of the review. ‘Non-sophisticated’ customers are generally small businesses that are unlikely to have possessed the specific expertise to understand the risks associated with these products.
The process for determining whether a customer is ‘sophisticated’ or ‘non-sophisticated’ is complex, and the details are shown on the attached flowchart produced by the FSA.
In summary, there are two elements to the process, a ‘subjective’ test and an ‘objective’ test. The ‘subjective test relates to the experience and knowledge of the customer. If the bank is able to demonstrate that, at the time of the sale, the customer had the necessary experience and knowledge to understand the service to be provided and the type of product or transaction envisaged, including their complexity and the risks involved, they will be classed as a sophisticated customer.
The ‘objective’ test is more complex, and uses the criteria set out in the Companies Act 2006 to determine whether a company or a group can take advantage of the reduced reporting requirements, in conjunction with the total value of their ‘live’ IRHPs. For the detailed application of this test reference should be made to the attached flowchart.