The deadline for submissions to Lord Hunt’s review of the Financial Ombudsman Service passed in the middle of January. We have submitted a paper to the Review, which tackles an important issue affecting all users of the service. This briefing summarises the issues raised in our paper and the key areas for debate within the industry.
The Hunt Review
The deadline for submissions to Lord Hunt’s review of the Financial Ombudsman Service (FOS) passed in the middle of January. We have submitted a paper to the Review, which tackles an important issue affecting all users of the service. This briefing summarises the issues raised in our paper and the key areas for debate within the industry.
There is little doubt that the FOS performs an important function in the retail banking and insurance arena by adjudicating customer complaints that banks and insurers have been unable to resolve themselves. However, we are also of the view that there are real questions over whether the FOS now performs a role that goes way beyond that intended for it by parliament when it was created – and therefore whether its decisions should, in certain circumstances, be subject to more robust scrutiny. In an era of increased principles-based regulation and mass consumer mobilisation, the FOS increasingly sits as a key decision-making body, having a significant financial effect on firms and the way in which they conduct their businesses.
Our submission proposes the introduction of an appeals mechanism for those FOS cases that have significant financial or other widespread implications. It would not be a mechanism used regularly by every bank or insurer. Some may use it occasionally; some may decide not to use it at all. But, at present, the system has no safety valve: there is often nowhere to turn if the FOS takes a view that is commercially important but with which the bank or insurer fundamentally disagrees. We think it is vital for the system to have the possibility of an appeals mechanism as a safety valve for important cases and to ensure that, with its increasing importance, the FOS continues to produce fair and consistent results.
These arguments go to the heart of the issues that Lord Hunt has been asked to consider: the quality and effectiveness of the FOS’s engagement with the public and the industry, its accessibility to consumers and its transparency and engagement with business.
Establishment of the FOS
Although the FOS is in fact an amalgamation of a number of schemes that pre-date the Financial Services and Markets Act 2000, when one looks back to the debates in parliament over the Financial Services and Markets Bill it seems clear that the FOS was intended to provide consumers with an informal, quick and user-friendly alternative to the courts. In the vast majority of cases, this is an objective that the FOS is meeting effectively. There was perceived to be an imbalance between consumers and financial institutions and the FOS offered a means of redressing this imbalance, providing a forum that is free to use and easily accessible. The fact that it is extensively used by consumers is testament to its success.
What is clear from the debates, however, is that parliament did not regard the FOS as a body whose decisions would set any precedent. Each case was to be determined on its individual merits and the FOS would be able to make orders with a financial value of up to £100,000 on individual cases.
Evolution in the environment
Undoubtedly, the role of the FOS has evolved as a consequence of its own success and the changed regulatory environment in which it finds itself. It is increasingly being called upon to decide questions of liability for banks and insurers in highly complex matters that can have significant financial and prudential effects on the businesses concerned. Some FOS decisions now have implications that go many times over the £100,000 limit.
We see the main changes and challenges as follows.
- The FOS caseload has expanded enormously from that envisaged by parliament. Its predecessor schemes investigated about 25,000 complaints in the year to 31 March 2000 and parliament envisaged that the FOS should expect to handle around 30,000 written complaints each year. In reality, it has handled nearly 100,000 new cases each year – approximately three times the number envisaged by parliament – and Lord Hunt has said that the FOS is forecasting around half a million enquiries and 80,000 new cases in the coming year.
- This number is the tip of the iceberg compared with the volume of cases that the FOS potentially influences. In our experience, if there are major issues affecting a large number of customers, a FOS decision will greatly influence the way a firm handles similar complaints. This is partly because firms believe this to be the appropriate way of conducting their complaints handling and partly because firms feel they have little choice: they know the FOS is likely to determine any similar case referred to it in the same way and, even if they think the decision is wrong, feel that their hands are tied.
- The internet has played a significant part in changing the consumer complaints environment. Consumers are increasingly able to mobilise in large numbers, resulting in a surge in the volume of complaints on certain issues, which in turn puts considerable pressure on the FOS. This pressure seems to take the form of volume and responsibility: the consequences of FOS decisions on issues that involve mass consumer mobilisation will often be financially significant and complex, with wide-reaching implications.
- Principles-based regulation means that the standards of conduct expected of firms are no longer clearly set out by a set of rules. In areas where there is no clear regulatory guidance, firms naturally look to decisions made by the FOS about appropriate conduct in a particular situation as guidance for their future actions and business decisions.
- In our view, the FOS can no longer truly be regarded as handling individual consumer complaints of relatively low value. This creates a particular problem if a firm believes the FOS’s view to be wrong but has no means of challenging that view. The firm may have to conclude that it has no option but to treat the FOS’s approach as if it were binding precedent. The FOS is thus put in the difficult position of being a rulemaker, which it was never intended to be, nor is it necessarily equipped to do so.
- The FOS has, of course, already been subject to an independent review. The 2004 two-year review of the Financial Services and Markets Act identified some of the strains that were already being placed on the system. In response, the Financial Services Authority (FSA) and the FOS introduced a process for handling complaints to the FOS that may have ‘wider implications’ for firms and consumers, whereby the FOS and the FSA were expected to consult each other. Some in the industry may feel that this is enough and that a formal appeals mechanism is a step too far. However, our experience is that the wider implications process is not widely used and does not seem to be providing an effective answer to the issues we believe are facing the FOS.
Contrast to the court process
Although the FOS was not designed to determine complex or significant matters, the burden of doing so now falls upon it. The important question to be answered is whether it offers an appropriate and fair process in these circumstances.
It is perhaps interesting in this context to look at the way in which a court would approach complex or significant cases. It would:
- use appropriate case management powers;
- consider, in the light of the level of legal or factual complexity, which court should hear it;
- consider the nature and extent of factual and expert evidence;
- allow arguments to be developed over a period of time using pleadings, written evidence and legal submissions, both written and oral
- set aside days or weeks to examine the evidence and the submissions;
- hold hearings in which the court can test the legal arguments advanced by the parties;
- hear live witness and expert testimony, including cross-examination, so that it can reach a view on the credibility of the evidence when there are conflicting accounts; and
- be subject to rights of appeal.
In the vast majority of cases, of course, it is quite right that the FOS does not operate in this way. It is supposed to be a quick and informal alternative to the courts and not a mirror image with the same potential pitfalls. However, for complex and significant ‘volume’ complaints – for instance, the large-volume mis-selling claims – it is not clear that the FOS provides a suitable forum allowing for detailed consideration of the applicable standards, facts and legal arguments.
There are two mechanisms by which a court can get involved in determining the sort of cases referred to in this paper. First, a case can be referred to court if the FOS considers that the court would be a more appropriate forum. However, this arises primarily when the dispute revolves around a legal issue and not when the questions are factual or about standards of practice and it happens very rarely in practice. The fundamental problem is, in any case, that whether to refer a case to the courts is a matter that is entirely within the FOS’s discretion.
Second, the courts, in theory at least, have a role in overseeing FOS decision-making because a disgruntled bank or insurer can apply for a judicial review. However, this role is extremely limited in practice. It is very difficult for the courts to quash a FOS decision because of the need to show that the FOS acted irrationally – an extremely high hurdle given the degree of discretion within the FOS system.
An appeals mechanism: scrutiny of significant cases
The FOS works well for genuinely individual cases and, judging by the submissions we have seen, the industry is not urging Lord Hunt to make substantive changes to the way it approaches these sorts of cases.
There is, however, a real need for an appeals mechanism to be introduced for significant cases to address the challenges that we have identified: for instance, when the financial effect is far greater than £100,000, when the decision would otherwise have a significant effect on a firm or firms generally or when the decision involves a point of law or practice of general public importance.
Any appeals mechanism would need to be free to consumers. There would need to be a process for obtaining permission to appeal either from the FOS or from the body hearing the appeal. Also, to minimise the effect on an individual consumer, there could be an option of allowing an appeal to proceed but, if it is successful, letting the FOS’s decision for the individual consumer stand and changing only its precedent effect.
There are also a number of possible options for the constitution of the body that would hear the appeal. However, we are of the view that, rather than attempting to set up a new forum or transferring matters to the courts (with the associated time and cost implications), the Financial Services and Markets Tribunal may be a suitable body. It already hears references from Decision Notices issued by the FSA on a range of regulatory matters and therefore has an insight into how the industry operates. If, as we would anticipate, it were asked to look at only the most serious of cases, we would hope that its caseload would not dramatically increase.
A decision-making body of this nature would, in appropriate circumstances, provide a further level of scrutiny that would significantly enhance the FOS process. In our view, this would ensure that cases were handled and decisions made in a way that was proportionate to the issues in dispute.
Undoubtedly, any appeals procedure would require extensive debate and careful consultation with all stakeholders. However, it seems to us that the Hunt Review offers an opportunity to take stock, evaluate the role that the FOS is being asked to perform and ensure that the FOS is properly equipped to deal with the challenges it faces.
The paper we submitted can be reviewed in full at