Several months on, much attention continues to be lavished on payment protection insurance and the judgment of Mr Justice Ousely in the case of The Queen on the application of the British Bankers' Association v (1) The Financial Services Authority; and (2) the Financial Ombudsman Service [2011] EWHC 999 (Admin), and rightly so.

The effect of the judgment on the banks continues to be well-publicised and is unsurprising given the role PPI played in the profitability of retail financial services over a number of years. By way of example only, gross written premium from PPI sales in 2005 alone is believed to have been £5.5bn.

The Financial Services Authority recently announced that three firms have been granted waivers of the usual complaint handling time period of eight weeks to enable them to address the huge backlog and surge of new complaints that the judgment has meant firms must now deal with. One firm has even offered to settle those complaints that were put on hold during the judicial review as a gesture of goodwill.

The need for such measures undoubtedly reflects the widespread selling of PPI, the extent of concerns about the way in which it was sold and how it affected the reputations of those firms involved. It was, of course, the enormous volume of complaints referred to the Financial Ombudsman Service (approximately 100,000 in the 12 months prior to the judgment) and the equally striking proportion of those complaints which the FOS upheld which culminated in the FOS wider implications referral back in July 2008. Clearly something had to be done.

What was then done by the FSA, the nature of the challenge raised by the BBA and the judge's treatment of that challenge, are worthy of consideration on a broader spectrum of issues than that to which they have generally been applied so far. This article raises some, but by no means all, of the questions which this case may prompt from both regulators and the regulated.

The FSA's proposals on PPI

The FSA's measures in relation to PPI were set out in its Policy Statement 10/12 "The assessment and redress of payment protection insurance complaints". Any summary of those measures, which largely took the form of an amendment to the DISP section of the FSA's Handbook, will inevitably miss much of their detail, but there are three key points to note.

First, as its title implies, the FSA's Policy Statement aimed to ensure that firms handled complaints of mis-selling fairly. In this respect, the FSA set out a number of measures in DISP in relation to the way in which firms should treat evidence and calculate redress.

Second, in order to achieve the fair handling of complaints, it was essential for the regulator and the industry to have a common understanding of what was and was not a compliant sale under the FSA's rules. To this end, the FSA annexed to its Policy Statement an Open Letter, setting out 15 common failings it had observed in PPI sales which it thought were generally indicative of a breach of its rules or the general law absent other considerations.

Third, the FSA reminded firms of their existing obligation to undertake root cause analysis. This obligation in DISP requires firms to consider whether the complaints they receive indicate the existence of a systemic problem, and if so, to consider taking steps in relation to affected customers, whether or not they have complained.

Of these factors, it was the second in particular which was the subject of the BBA's challenge. The FSA made it clear that it considered that sales which breached its Principles for Businesses were mis-sales for the purposes of complaints, and always had been. There was no question, from the FSA's perspective, of rules being applied retrospectively.

The arguments and Ousely J's findings

The applicants' arguments rested on alleged illegality. Three separate arguments were raised, but as the first and second were closely linked, they are considered together below.

The role of the Principles

The FSA's Principles are high-level statements of firms' fundamental obligations. They have gained particular prominence as part of the FSA's policy of principles-based regulation. The theory is that the FSA cannot anticipate firms' every move. It has therefore set out a number of detailed rules which must be complied with when selling products (in the case of non-investment insurance products, in ICOB and subsequently ICOBS). Compliance with those rules alone may not be enough, however, as a sale can still be non-compliant if it breaches the Principles. The BBA's argument was that firms designed their sales processes to comply with ICOB/ICOBS, and that ICOB/ICOBS implemented the Principles to the extent that they were intended to apply in this area. The judge rejected that argument, adding that the clearest possible language would have been needed in ICOB/ICOBS to convince him that they replaced those of the Principles to which they referred.

Section 150 of the Financial Services and Markets Act 2000

The BBA's second argument on this issue related to s150 of the Financial Services and Markets Act 2000, which makes breach of the FSA's rules actionable at the suit of a private person who has suffered loss, save that under s150(2), the FSA may disapply this right of action in relation to particular rules. The FSA chose not to apply s150 rights to breaches of the Principles. The BBA argued this meant that the Principles were incapable of giving rise to obligations owed by firms to customers. They were to apply between regulator and firm only. The judge rejected this interpretation, holding that "actionable" did not mean "capable of giving rise to obligations or compensation". The effect of s150(2) was limited to removing a cause of action for breach of statutory duty, and no more. A breach of the Principles can still give rise to obligations to provide redress to consumers under the complaints handling regime.

Section 404 of the Financial Services and Markets Act 2000

The final challenge to the FSA's proposals was advanced by an interested party, Nemo Personal Finance Limited, and adopted by the BBA. Section 404 of the FSMA, in the form it was in at the time when the FSA published its Policy Statement, allowed the FSA to ask HM Treasury to make an order for a scheme to compensate customers for widespread failures in relation to a 404 particular activity. The wording of s404 arguably meant that such a scheme would not have been capable of compensating customers for breaches of the Principles. The creation of a scheme also involved a number of safeguards. Relying on the case of R v Liverpool City Council ex parte Baby Products Association [2000] LGR 171, Nemo argued that, since parliament had provided a power to remedy widespread market failures, once the ability to use the scheme power was triggered, the FSA could not circumvent the safeguards and limitations of that power by using another, more general power to achieve the same end.

The judge rejected this proposition, and lighted on a number of objections to it both during the course of argument and in his judgment. Of those objections, one of the most notable was the inherently unattractive concept of the regulator's powers becoming more limited as a problem grew more serious. There was also the question of the tipping point: at what point would the FSA lose its other powers and be forced into a position of all or nothing?

Ultimately, looking at the purpose, nature and effect of what the FSA measures sought to achieve (particularly in relation to root cause analysis) as against a s404 scheme, the judge agreed with the FSA that they were not one and the same.

Comment on the implications of the judgment

The financial significance of the judgment for firms which sold PPI has been immediately obvious; assessing complaints in the light of the new DISP provisions, meeting FOS awards and possibly undertaking root cause analysis is likely to be costly and time-consuming. It remains to be seen how long it will take for firms to clear the backlog of complaints and whether some firms will fail as a result, leaving the cost of PPI mis-selling claims to be met by the Financial Services Compensation Scheme.

Looking beyond that immediate impact, the judgment is of wider significance both in terms of its analysis of the FSA's powers under the FSMA, its commentary on the interaction between the Principles and more detailed rules, and consequently the effect it is likely to have on firms' approach to compliance.

FSA powers under the FSMA

The judgment has come at an important time in the regulation of financial services when the FSA and its successor, the Financial Conduct Authority, are looking to take a more interventionist stance in relation to conduct issues and HM Treasury is proposing to expand the regulator's existing powers. Had the arguments on the fettering effect of the specific s404 power on the FSA's more general powers been successful, that might have provided good reason for HM Treasury to question the wisdom of giving the regulator more specific powers.

The judge's conclusions on the scheme of the FSMA, that just because the circumstances for exercising a more specific power were satisfied did not impose a restriction on the use of other more general powers, should be welcomed by the regulator and regulated community alike. For the FSA it is confirmation that the more serious the circumstances, the wider the range of powers potentially at their disposal; similarly for regulated persons the regulator is not limited to using the most onerous of its powers.

Detailed rules versus principles

Given the criticism of principles-based regulation in the aftermath of the financial crisis, had the decision gone against the FSA as regards the interaction of Principles with detailed rules it could have called the efficacy of principles-based regulation further into question. Instead, the case provided an opportunity for the FSA to reiterate some of the benefits of PBR, in particular, to avoid burdening firms with an even lengthier rulebook which sought to cover every possible eventuality and which could be unfairly circumvented. Judicial confirmation of the legitimacy of the FSA's mix of detailed rules and overarching principles may well be an influential stamp of approval for principles to continue to play a significant role in the approach of the FCA.

Some of the more general commentary on the inter-relationship between specific and general rules may also be of interest to other regulators who operate or are considering a similar approach. In particular, it is notable that the Solicitors Regulation Authority has moved away from prescriptive rules-based regulation towards a more outcomes-focused approach to regulation which is due to come into effect later this year. The judge's assertion that there was no reason in principle why the specific obligations in rules should not be subject to the wider role of general principles provided the language used did not preclude this offers both comfort that there is no in principle bar to outcomes-focussed regulation and a reminder of the need for clear language articulating the inter-relationship between general and specific rules.

Firms' approach to compliance

Although the FSA has operated a principles-based regime since its inception the sentiments behind the judicial review suggest that some parts of the regulated community have failed truly to grasp what this requires. The financial and reputational implications now faced by firms who mis-sold PPI illustrate the potential benefits for those firms who look beyond just detailed rules. This leads inevitably to debate about retrospection, an argument initially raised by the BBA but never fully developed, and how foreseeable the application of the Principles to particular factual scenarios was at the time when the FSA began regulation of PPI sales.

On the one hand, it is hard to see how it could not be clear from the principle "treat your customer fairly" that a firm should not pressure sell or conduct assumptive selling. On the other hand, there are some of the more prescriptive PPI "common failings", e.g., explaining the consequences of term mismatch to customers (common failing 14(b)); in the abstract it may be more controversial that firms could not have anticipated that such a nuanced requirement could be derived from the application of Principles 6 and 7.

When looking at this issue, however, it is important to do so in the context of the additional information which the FSA published at the time; virtually all of the "common failings" were articulated in publications dating back to 2005-6. For example, the application of Principle 6 in relation to disclosure of term mismatch could be traced back to a 2006 thematic report.

One learning point therefore is how important it is for firms and their advisers to stay up-to-date with the FSA's various publications and to assimilate the contents of these publications for their own business. That remains a challenge for all firms and so begs the question whether a more rules-based regime would make compliance simpler. Assuming principles-based regulation continues, the FCA needs to consider ways in which it could assist firms to keep up-to-date, for example, by including within each sourcebook cross-references to potentially relevant publications and guidance.

In the meantime, while the ghost of PPI may be beginning to be laid to rest, the wider implications of the judgment should not be ignored.

Originally published on, Thomson Reuters Accelus, July 13, 2011.