Not just a consumer duty: start preparing now for the FCA's new Principle 12

We look at why the Financial Conduct Authority (FCA) is bringing in Principle 12 ("A firm must act to deliver good outcomes for retail customers"), when it is coming into force, what firms can expect and who will it apply to. 

Why a new principle?

FCA-regulated businesses will all be familiar with Principles 6 and 7: the treating customers fairly principle and the requirement to be clear, fair and not misleading in all communications with customers. These principles have been around for years now, and they apply across a firm's business (including its unregulated activities).  

The FCA has always aimed to be both a regulator that tackles identified harm taking place and a regulator which uses its tools to prevent potential harm arising. However, from the FCA's perspective, prevention is much better than cure. For several years it has raised concerns that its regulatory framework, including its Principles, may not be sufficient or applied effectively to prevent harm. When harm actually occurs there is often collateral damage to the FCA's reputation, and indeed that of the government, and there is clearly a strong desire by policymakers to increase the focus firms place on preventing harm occurring in the first place.   

It was, therefore, no surprise when the Financial Services Act 2021 included a statutory requirement for the FCA to consult on whether it should make rules providing for a duty of care to be owed by authorised persons to their customers.  As a result, we had a consultation on implementation of a consumer duty in the second quarter of 2021 (CP21/13) and a second consultation between December 2021 and February 2022 (CP21/36).  

When is it coming into force?

A final policy statement setting out the new rules is expected to be published by 31 July 2022. 

The FCA has indicated the rules will come fully into force on 30 April 2023, so firms will need to start taking action very soon. 

On 23 March 2022, Brian Corr, interim director of retail lending at the FCA, gave a speech in which he said that firms should not wait, and should be looking now at getting the right mindset, culture and data in place to deliver the aims of the new Principle 12.   

Failure to comply with Principle 12 will carry the risk of enforcement action leading to fines and reputational damage. Given the lengthy, high-profile (and political) process under which Principle 12 has got to this stage, firms should expect significant attention on the actions they take in response. In particular, Mr Corr's speech touched on firms "looking for gaps" between their current state and where they will need to be once Principle 12 is in effect.   

To ensure readiness for the implementation of Principle 12, firms will need to undertake full business reviews during the relevant implementation period, have conversations with distribution partners and also consider building capability to manage increased ongoing monitoring requirements. Senior managers and other conduct rules staff will need to take this seriously from the outset, as they will be subject to new conduct rules themselves. 

If the FCA asks firms what they have done to prepare, and the response is "nothing", then firms should expect to be challenged, and be ready to show how they have reached that conclusion and why the outcomes their products and services deliver are "good" ones.  

Mr Corr also noted in his speech that the FCA expects to provide more guidance as Principle 12 beds in – this may turn out to be an iterative process (which means that the job will not be complete in April 2023). CP 21/13 even refers to the FCA "reviewing implementation plans and proposed change programmes" in advance of the deadline.  

What can firms expect?

The FCA wants the new duty to help prevent the following key harms:

• Customers do not always make good decisions and this can be exploited by firms. 
• Firms exploit customer loyalty or inertia.
• Too many firms are not adequately considering the needs of their customers nor prioritising good outcomes when designing products.
• Firms are selling products and services that do not represent "fair value".
• Firms are providing poor customer support that hinders customers from properly managing their finances, thereby increasing costs.

Principle 12 will be amplified by three "cross-cutting rules":

• Firms must act in good faith towards retail customers.
• Firms must avoid foreseeable harm to retail customers.
• Firms must enable and support retail customers to pursue their financial objectives.

The original proposal in respect of the second and third rules was to oblige firms to take "all reasonable steps" in order to comply – that has been dropped – in all likelihood in response to feedback that this level of obligation was going too far.   

The FCA has then articulated four "retail customer outcomes" against which it will measure firms.  These are:

• All products and services for retail customers are fit for purpose, designed to meet the relevant customers' needs and targeted at those customers.
• All customers pay a price for products and services that represents fair value. The FCA expects poor value products and services to be removed from markets, leading to fewer complaints about poor value and unexpected fees or charges.
• Firms' communications support and enable customers to make informed decisions about financial products and services. Customers are given the information they need, at the right time, presented in a way they can understand.
• Firms provide a level of support that meets customers' needs throughout their relationship with the firm. 

The new proposed Principle 12 is intended to drive firms to take more responsibility for preventing harms. It is clear that, despite the opinions of many commentators and respondents to the 2021 consultation, when Principle 12 comes into force, the FCA will have a higher expectation than it currently has for the standard of care that firms give their customers. The FCA thinks that, for many firms, the new duty will drive a significant shift in both culture and behaviour, with firms being required to consistently focus on customer outcomes, and constantly ask themselves whether they are putting customers in a position where they can make effective decisions.  

The FCA thinks that this will have a positive effect on competition, with firms competing on customer satisfaction and innovating in pursuit of good outcomes. 

In practice, for the firms themselves, this will mean not just a shift in business conversations, but also an increasing need to justify why decisions have been made and to document their justification across the entire product and service lifecycle.  

Who will it apply to?

It is perhaps unfortunate that the new Principle 12 has become known as the "new Consumer Duty".  In fact, its ambit will be wider than that. The new duty will apply to all regulated products and services which are offered to "retail customers" in the UK.  

The definition of "retail customers" will be aligned with the scope of the FCA's existing sectoral sourcebooks in its Handbook, including the Insurance Conduct of Business sourcebook , the Mortgage Conduct of Business, the Banking Conduct of Business sourcebook, the Conduct of Business sourcebook and the Consumer Credit sourcebook.  This means that many regulated products and services offered to business customers will be caught.  

Equally, where those products and services are unregulated or exempt and not within ambit of the sourcebooks, they will not be within the scope of Principle 12; instead Principles 6 and 7 will continue to apply.  

For example, in the case of a regulated business lender offering, on the one hand, exempt loans of more than £25,000 to sole traders, and on the other hand, regulated loans of less than £25,000, Principles 6 and 7 will continue to apply to the exempt lending, but the new Principle 12 will apply to the regulated lending.

The new duty will also apply to all regulated firms in a distribution chain that can influence material aspects of the design, target market or performance of a product or service, including intermediary and advisory firms. In other words, the duty will not just apply to firms with a direct customer relationship.  While the duty will apply proportionately across distributors, taking into account each firm's role as well as the nature of the product or service and the target market, it is clear that the FCA specifically wants all firms in a distribution chain to think about whether what they do contributes to good outcomes. 

The FCA has specifically said that firms will not be able to transfer their responsibilities to other firms. Instead it anticipates some firms having to work with manufacturers, suppliers and partners to review products and services during the implementation period. It expects some of those discussions to result in adjustments to products, services, contracts and charging structures applied through distribution chains. This will be particularly relevant to sectors which often have complex distribution chains and ecosystems, such as retail investments, payments and e-money.   

Importantly, the chain will be "broken" where a regulated product provider is contracting with an unregulated firm. This could arise, for example, in the context of embedded finance where regulated payments firms or merchant acquirers offer unregulated buy-now pay-later products or where banks offer white-labelled current accounts on behalf of unregulated brands. It is absolutely essential, therefore, that regulated entities working with unregulated third parties in the distribution chain interrogate product design, disclosures and so on.  

Any business review will also have to cover products which are closed, or which are no longer sold or renewed. While the FCA does not necessarily expect firms to "change existing products" it will expect them to take action in relation to closed products where needed, for example, by giving customers greater flexibility in how they can engage with a product, assisting customers to switch to a new product that does not have the same issues or by providing enhanced support to avoid an identified risk from materialising.

Finally, the new duty also applies to authorised firms approving financial promotions for unregulated firms. They will have a greater onus to consider Principle 12, the cross-cutting rules and the consumer understanding outcome.