Advisers have responded with cautious optimism to the raft of planned reforms to the funding of the Financial Services Compensation Scheme (FSCS).
The most substantial change in the Financial Conduct Authority’s (FCA) funding review was providers will be forced to pay 25% of the funding towards advisers’ FSCS levies.
Following its consultation in October, the regulator suggested ‘a large number’ of advisers had supported the proposal. Meanwhile, somewhat predictably, the vast majority of providers opposed it.
‘This is one small mercy we should be thankful for,’ said Tim Page (pictured), director at Bury St Edmunds-based Page Russell.
‘The pension providers have been raking it in off the back of the wave of defined benefit (DB) transfers. The extra levy will be relatively small for them to bear,’ he said. ‘If, as the FCA hopes, it makes providers “design products that are well understood by intermediaries and benefit end customers”, then that’s a good thing.’
Justin Modray, director of Bath-based Candid Financial Advice and advocate for advice fee transparency, was more sceptical about the extent the move might change things for IFAs.
He said: ‘The problem here is the types of provider who peddle flawed products that end up at the FSCS’s door are unlikely to be deterred by higher FSCS levies. They’re all about shifting high margin products as quickly as possible via advisers who should know better.
‘Running an advice firm, I’m obviously happy if this leads to a reduction in our FSCS levy. But I’m not convinced this will solve the underlying problem: namely, the FCA not being sufficiently proactive to nip flawed products in the bud.’
But just as advisers looked forward to paying less, the FSCS simultaneously announced an increase to this year’s levy, by a whopping £52 million. The lifeboat fund blamed DB transfer complaints, singling out advice given to members of the British Steel Pension Scheme (BSPS) in particular.
New Model Adviser® previously revealed how the clients of Active Wealth had already been purchased by another firm, Fidelis, run by one of Active Wealth’s former advisers. Also, we highlighted how Active Wealth director Darren Reynolds had bought the clients of a previous failed firm he worked at, Active Investment Services. Moreover, this firm had Ombudsman claims on transfer advice upheld against it.
The levy on the investment provision class also increased by £18 million, which is almost entirely comprised of claims against Sipp operators.
Helen Howcroft (pictured above), managing director of Equanimity IFA, said the FCA needed to take drastic action. It has to revisit, and put right, past DB cases from firms that have since had permission restrictions or gone into liquidation.
She added: ‘With the recent British Steel saga, if the FCA could unpick the transaction in the first place and put the client back in the DB scheme, it would actually solve a lot of the problems. It would stop the rest of the IFA population picking up the mis-selling costs when the advice firm goes into liquidation.
‘The British Steel saga has come to light quite quickly, as advisers these days are resorting to social media and journalists when they see bad practices. Therefore, if the FCA actually acted upon our concerns quickly, it would be a very neat solution,’ she said.
‘Ultimately, the trustees will be no worse off, provided there is a very clear timescale for allowing the transaction to be reversed.’
Modray suspects the rising levy will ‘get worse before it gets better’. He said: ‘Although the recent British Steel debacle has grabbed the headlines, DB transfers have been big business for some advisers in recent years.
‘I doubt all advice given will have been appropriate,’ he said. ‘Add in a growing compensation chasing culture and it’s likely we’ll see more advice firms bite the dust, with the FSCS picking up the compensation tab.’
Page said he is staying calm, as there are too many variables in converting the industry levy into his own firm’s bill to be able to estimate what the increased overall levy means in practice.
‘Although pension-related FSCS levies are rising thanks to the DB transfers, previous reforms mean they are not spiking in the way we might expect. This is because the FSCS is evening out the levies and other industry sectors are shouldering the load,’ he explained.
‘Anybody who witnessed the pension transfer review of the late 1990s and early 2000s will be greeting this news as an unwelcome, but inevitable, consequence of pension freedoms.
‘The speed at which the professional indemnity (PI) insurance market has tightened for DB transfers is good news. It will rein in the firms who are overactive in this area, and hopefully bring down the long-term PI and FSCS costs to firms, by avoiding a 1990s-style industry-wide DB transfer review.’
Page views the PI insurance and FSCS problems as one. ‘It’s a bit like a balloon,’ he said. ‘As you press down on one bit, another bit pops up. As this is happening, someone is pumping more air into the balloon. None of the options for letting air out are particularly palatable.’
He highlighted that, apart from firms active in the DB transfer market, the combined PI and FSCS costs for the IFA profession are less than the PI costs faced by solicitors or medical professionals. He therefore views the FSCS levy as ‘additional PI’.
The FCA also announced stricter rules to prevent PI insurers limiting payouts on claims from the FSCS. This is for when IFA firms holding their policies, or third parties managing client funds, become insolvent.
Modray (pictured above) said the proposal made sense. But he is wary of insurers’ ability to find ways to ‘wriggle out’ of claims.
He said: ‘In theory it should reduce adviser FSCS levies, although this might be offset by higher PI premiums. However you dice it up, the good guys in the profession typically end up paying for the mess created by the bad guys. This has always felt wrong to me.’
Howcroft also anticipates premiums. She added: ‘The new PI rules are a good idea. However, it will be interesting to see what really happens at renewal time, especially in light of the firms that have become insolvent on the back of poor DB advice.’
She said: ‘I very much doubt there is going to be any move in my premium other than upwards and, I expect, quite substantially.’
Page agreed the tightened rules are a good idea, in theory, over the long term. But he suggested the devil would be in the detail.
‘Most PI is written on a claims-made basis with policies that run for 12 or 18 months. So, at best this buys potential claimants an extra 18 months (or more typically 12 months) because an insolvent firm will not buy run-off cover,’ he said.
‘The FCA’s own analysis shows this reform will chase out some capacity from the PI market for IFAs and so premiums will rise. But you get what you pay for. Other professionals think we IFAs pay too little for our PI insurance.’
Further pressure on levies is expected after the FCA announced the limit for FSCS payouts on claims related to investment advice would rise from £50,000 to £85,000. This is on new claims made after 1 April 2019.
Modray said the levy increases should be complemented by a fortified FCA supervisory process.
‘While this will likely result in higher FSCS levies, on balance I think it will be positive if it helps boost the public’s confidence when investing,’ he said.
‘But I’d like to see such measures implemented hand in hand with the FCA being more proactive at preventing the sale of inappropriate products and financial advice. The FCA’s current approach seems to be waiting for the cup to spill, then charging the industry to clear up the mess.’
Another plan to help cut adviser levies was to ask any IFA recommending high-risk products to take out surety bonds or pay into a capital trust. The trust or bond would pay out if the firm fails. But this idea was scrapped in the latest draft.
The FCA said the plan was ‘not an efficient way of achieving the desired outcome of ensuring high-risk personal investment firms contribute more to the FSCS because they are more likely to create redress liabilities’.
‘For this intervention to work,’ it said, ‘we need to be able to target the minority of advisers providing unsuitable advice.’
However, the regulator has committed to further work on one proposal advisers have asked for several times over the years: a risk-based levy. It said it would consult on this specific measure in 2019.
Page was pleased to see the FCA had not ‘given up on the idea of polluter pays’.
Modray said: ‘Risk-based FSCS levies seem like a very sound idea in theory. Those recommending the products most at risk of falling onto the FSCS in the future should shoulder a much greater share of the overall levy.’