FCA announces review into UK motor finance commission arrangements

The UK Financial Conduct Authority (FCA) announced in January that it will investigate the historical use of discretionary commission arrangements (DCAs) in the motor finance industry.

If the FCA finds that motor finance firms owe redress to customers because they paid too much for their car, it may decide that providing redress through consumer complaints mechanisms does not lead to the best outcomes for consumers or the effective functioning of the market, and an industry-wide consumer redress scheme is needed.

In the meantime, with immediate effect, the FCA has instigated:

• a pause, lasting around nine months, to the eight-week time limit for motor finance firms to provide final responses to DCA complaints received between 17 November 2023 and 25 September 2024; and
• an extended timeframe of 15 months for consumers to escalate their complaints to the Financial Ombudsman Service (FOS), rather than the usual six months, for complaints made between 12 July 2023 and 10 January 2024, where a lender has already provided a final response, or 11 January 2024 to 20 November 2024, where the lender provides a final response during this period.

Complaints since DCA ban

A DCA is an arrangement where a lender gives a credit broker discretion to determine the interest rate offered to a prospective customer. The lender links the amount of commission payable to the broker to the interest rate charged, so that the higher the interest rate, the more commission is paid.

In 2021, the FCA banned DCAs in the motor finance market, removing the incentive for brokers to increase the interest rate that a customer pays for their motor finance. Before the ban, this practice was industry standard.

Since the ban took effect in January 2021, there have been many complaints and claims by customers against motor finance firms, claiming compensation in relation to commission arrangements between lenders and brokers dating from before the ban. There is significant dispute between some firms and consumers as to whether firms breached legal and regulatory requirements.

The complaints have broadly centred around the arrangement of car financing having been unfair, as:

• the existence and nature of the commission being paid by the motor finance firm to the car dealership was not properly disclosed to the customer;
• the commission model used by the motor finance firm was unfair as it gave the dealer the ability to determine the interest rate under the finance agreement between a range set by the lender;
• as a result of this, the recommendation provided by the car dealer was not impartial due to the commission model in place with the lender; and
• the car dealer did not give the customer the best interest rate available.

The FCA has noted that the majority of these complaints have been rejected, as the lender or car dealer considers it did not act unfairly or cause customers loss based on the legal and regulatory requirements in place at the time. This has resulted in some 9,000 claims being referred to the FOS as at the end of last year.

A further 5,000 to 10,000 claims have been brought before the County Courts against motor finance firms, claiming, among other things, the existence of an unfair relationship under section 140A Consumer Credit Act 1974.

FCA's intervention

The FCA is intervening to enable it to assess properly the historic use of DCAs in the motor finance market, and determine whether their use has resulted in harm to customers which requires redress. In doing so, it is seeking to ensure that customers who have suffered a loss receive appropriate redress in an "orderly, consistent and efficient way". 

In its announcement, the FCA highlighted two notable recent decisions on DCAs by the FOS, Black Horse Limited and Clydesdale Financial Services Limited, which found in favour of the complainants. These decisions are likely to prompt a further increase in complaints from consumers.

Not referenced by the FCA in its announcement, but also of major consequence, is a £1 billion class action filed at the Competition Appeal Tribunal in July 2023 against three major firms who in total make up a significant portion of the UK's motor finance industry (Black Horse, Santander and MotoNovo).

Scope of the investigation

The FCA has not provided significant detail on the scope of its investigation, beyond stating that it will be carrying out "diagnostic work to assess practices within individual firms". All firms participating in the investigation have been informed; however, the FCA has indicated that participation from further firms may still be needed.

The FCA has indicated its investigation will look back to before 2014 to see what commission models were in place and what information was provided to customers at the time. Current indications are that it could look back as far as 2007, a number of years before the establishment of the FCA itself in 2013.

The regulator has stated that, in the event its investigation finds "widespread misconduct" where consumers have lost out, it will look to identify how best to ensure consumers receive "appropriate" settlements, as well as stepping in to "resolve any contested legal issues of general importance".

What next?

The FCA plans to set out next steps in the third quarter of 2024. For now, the ultimate outcome of the investigation remains a matter for speculation. There are a number of questions yet to be answered, such as how far back the investigation will look, how far any redress ultimately ordered will extend, and whether the FCA will consider the complex case law relating to "secret commissions", "half secret commissions" and fiduciary relationships.  

The FCA has the power to issue fines, carry out public censures, and request information from firms. It may also seek guidance from the courts through the Financial Markets Test Case Scheme to resolve contested legal issues of general importance. This enables test cases before the courts to resolve key points of law and may be useful for consideration of the existence of unfair relationships. If significant issues are identified, the FCA could initiate an industry-wide consumer redress scheme as it did in the case of payment protection insurance (PPI) mis-selling.

The FCA has also released further information for firms affected by the pause on the eight-week time limit for responding to complaints and the extended timeframe for DCA complaints to the FOS. It has highlighted the continuing need to comply with the relevant rules in the "Dispute Resolution: Complaints" section of the FCA Handbook, and the need to keep customers informed by updating website information on the complaints procedure reflecting the new time limits.

The FCA has emphasised that the FOS will continue to investigate and determine complaints referred to them, including those not covered by the pause, on the basis of what it considers to be fair and reasonable in all the circumstances.

Osborne Clarke comment

The FCA's announcement demonstrates a willingness to step in and act where it considers it necessary to prevent disarray in the market. However, there are risks of unintended consequences, such as:

• possible negative effects on the motor finance market in terms of liquidity, as firms prepare for a potential redress scheme and investors are put off by uncertainty in the sector. This could translate into pressures on the availability of motor finance to consumers at dealerships, with a consequent impact on car sales; and
• as motor finance complaints are paused, claims management companies may refocus their energies on commission complaints in other sectors, resulting in contagion across the whole consumer finance market.

The FCA's announcement also highlights parallels with historic PPI mis-selling issues. A key concern is that the FCA will, as with PPI, allow today's standards to be applied to yesterday's practices. If it does so, this will be despite the rule in the Consumer Credit sourcebook (CONC) 4.5.8G(1). The FCA said, at the time, that this CONC rule was designed to make clear that the ban would not affect commissions already earned under DCAs.

Further, while the PPI redress scheme largely affected clearing banks and larger lenders, any redress scheme applying to motor finance lenders will have an impact on a much wider range of players, including fintech platforms and smaller fast-growth firms.

Although the immediate steps the FCA has taken give motor finance firms space to deal with current complaints volumes, the spectre of a potential redress scheme will be a source of uncertainty and concern over the coming year.   

Amy Lewis, Trainee Solicitor with Osborne Clarke, contributed to this Insight.

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