Financial Services Regulatory Enforcement mini-series, season 2, episode 2: How do you solve a problem like the Financial Ombudsman Service?

Nathan:
Hello and welcome to the Ashurst Regulatory Enforcement Podcast. I'm Nathan Willmott and I'm joined here in the Fruit & Wool Exchange in London by two fellow specialists in financial services regulation. My colleague Adam Jamieson,

Adam J:
Nice to be here, Nathan.

Nathan:
Thank you. And also a big welcome to Adam Temple, a barrister at 3 Verulam Buildings.

Adam T:
Good morning. Thanks for having me.

Nathan:
Thanks very much to you both for being part of the podcast today. Now, amongst us, we have quite a few years of grappling with regulators and other authorities on contentious regulatory matters representing financial services firms as well as their senior management. And our mission for this podcast series is to share with you the new approaches and strategies that we're seeing in contentious financial services to highlight any areas of concern about how the regulators and authorities are handling matters and to suggest what they could and should be doing differently to ensure that they act both fairly and effectively. And our topic today is modernising the redress scheme and the joint FCA and Financial Ombudsman Call for Input that was published on the 15th of November, 2024, and which was trailed in the Chancellor's Mansion House speech the previous evening.

And the Chancellor Rachel Reeves said, "I've heard from many of you that our approach to redress can cause uncertainty and be a drag on investment. The Financial Ombudsman Service plays a vital role for consumers to get redress when things have gone wrong, and that will not change. But reform is needed to create a surer climate for investment. So we've worked closely with the FCA and the Ombudsman to develop a new agreement between the two institutions with clearer expectations on how they cooperate, including on historic market practice and mass redress events. And I strongly welcome their joint Call for Input to be published tomorrow, which seeks to significantly improve the rules governing how the service operates." So I think our mission for today is to really examine that Call for Input and what are the problems that the Call for Input is seeking to address, and what do we think the solutions are? So I'm going to hand over to you, Adam, who you're going to kindly chair this session.

Adam J:
I think it would be good to begin with to just look back at the historical context of the FOS, the Financial Ombudsman Service, who are dealing with consumer complaints and the journey I guess that we've been on. It was established in 2001. At that time, it had 400 members of staff, 20 Ombudsman and a budget of £20 million per year, and it was expected to assess around 30,000 written complaints each year. If we take a step forward to where we are now, the FOS has a total expenditure of £251 million per year, staff of 2,000 and assesses over 200,000 cases per year. So it's gone, I think far beyond in terms of scale and volume of complaints, what was envisaged when it was first set up, which I think is probably quite relevant in the context of some of the matters we're going to be discussing because of course as Nathan you just set out, there's a political overlay here, particularly in the context of UK competitiveness.

And there's also the issues of the challenges of how to deal with these mass redress events where there's a number of complaints made about the same issue, the operational challenges that that creates for both firms, regulators, and the Ombudsman. And in that context, what issues are there and what is the solution? I mean, Adam, I'm keen to understand your views on how we've got to where we've got to because everybody's very familiar, I think with the FOS in particular following sort of PPI and PPI complaints. But is this just a follow-on from PPI or is this something different?

Adam T:
Yes. Well, I think PPI taught us that the FOS had moved quite a long way on from its original conception. I think those stats that you read out revealed what was originally intended, which was a relatively small number of complaints, which would deal with quite small issues frankly. There was a financial limit, which was I think certainly below £100,000. And the idea was that this would provide an alternative to complainants who wouldn't need to incur the cost and time of going through the courts, and they could have an informal approach to their complaint.

What PPI showed was that the FOS has gone beyond that, and it is now a mass redress scheme, not limited to individual issues between a complainant and a firm, but really wide systemic issues. Separate from PPI, we've seen another movement in what the FOS deals with in the size of each individual complaint. So moving on from a relatively small financial limit when it was set up to now a limit of £430,000. So you can see it's dealing with both more complaints, but also more significant complaints. So it is a quite different beast from how it was originally envisaged, I think.

Adam J:
What do you see as being the key problems that have arisen for the FOS and for both complainants and firms as the number of FOS complaints has grown?

Adam T:
Well, obviously with more complaints, there's a lot more need for manpower to deal with all of those. So you went through the statistics about the number of people involved. It meant that in the world of PPI, some of those complaints were taking years to be dealt with as the FOS grappled with the big issues and then face challenges on some of them in the courts, which obviously delayed the resolution of everything that was in the queue. So from the FOS's perspective, that would've been a big challenge and of course for firms as well because each firm had to deal with those complaints before they got into the FOS.

One interesting aspect of that I think is the fact that the firm has eight weeks to deal with a complaint, and perhaps the FOS is supposed to deal with them fairly quickly after it enters into its system, but as I just said, they can take quite a long time. So from complainants' perspective, the number of cases coming through have also added delay into the system, which means that the quick and easy resolution that they might've been hoping for isn't always what they get.

Adam J:
Where there's a common issue that's being complained about within any sector, frankly, within financial services, which may have a common fact pattern behind it and a regulatory framework, firms are receiving complaints about those issues, which may then subsequently be referred to the FOS. What in your view is the best, I guess ... Let's go back. What about the challenges that firms have in assessing those complaints and then subsequently the FOS in assessing those complaints consistently?

Adam T:
Well, there can be a chronological issue here in that when the firm is dealing with a complaint, it hasn't yet necessarily seen how the FOS will deal with it in due course. So it won't always be clear to the firm what the FOS will do, at least early on in one of these mass redress events. By the end of PPI, the FCA had produced DISP Annex 3 which was quite a comprehensive description of how the firm should be dealing with those complaints. But of course, a lot of them will already have entered the FOS by that stage. I was involved in a judicial review that then asked whether the FOS was required to comply with DISP Anex 3, and they said, "Well, no, of course we're not. That's aimed at firms." So that's another point of potential tension there.

Adam J:
It brings up quite an interesting point as well, and I think quite a common gripe that the industry would have and firms would have in relation to the FOS which is the standards and tests that apply where complaints are being dealt with and the standard that they'll look at a complaint in the context of, and resolve it in a way that's sort of fair and reasonable in all of the circumstances. Nathan, I know that's something that you've considered.

Nathan:
I think you have a number of layers of issues there. So you've got the structure and the test that they're required to apply. As you say, what's fair and reasonable in all circumstances, you've got the quality of some of the individuals who are making those determinations, particularly at the initial stage. So there's the initial investigator stage and you get a preliminary decision, and then you can choose to go to the Ombudsman for a more considered decision.

Adam J:
I think they refer to it as the adjudication?

Nathan:
Exactly, exactly. And so you've got that structure and a lot of those people are not legally trained, and the quality of the analysis there sometimes comes in for criticism from the industry.

Adam J:
Do you think they need to be legally trained?

Nathan:
Well, I think that's probably a debate for another day in terms of do you need to be legally trained to assess what's fair and reasonable circumstances? The reality is that they are making some quite complex assessments in some cases and thinking about what appropriate compensation is payable where there has been an issue. And some of the decisions that come through do not appear to be very well thought through.

But then there's, I think, the third element is actually the mindset of the Ombudsman, which is because they have this test of what's fair and reasonable in all the circumstances, they're not required to follow FCA rules. They're required to take them into account but not follow them. And so the mindset that I think has developed over the last 20 to 25 years for the Ombudsman has been we are ultimately the arbiters of what is fair and reasonable, and therefore it is up to us to set industry standards for particular areas of business. Because yes, FCA rules may impose certain standards, but if we don't think those are good enough to be in all the circumstances fair and reasonable to customers, then we will impose a higher standard.

And that mindset of being quite willing to move the goalposts in terms of what are quite well understood industry standards in some cases, I think is part of the problem. Each case is not a precedent in legal theory, but in reality they are quasi precedents. And as a result, you have decisions setting new standards sometimes within an industry where there are rules that prescribe what is required. And I don't think it's right that the Ombudsman is the body setting the standards. I think that ought to be the FCA. So I think whilst it's permitted under the current rules because the test is what's fair and reasonable circumstances, I don't think it's right that the Ombudsman should be the one that makes that decision. I think there should be a mechanism for that to go back to the FCA in some sense, where there are rules on a particular issue.

Adam J:
On the precedent point as well, whilst obviously all complaints may be fact specific, firms are going to be looking at FOS decisions that go against them in relation to how they're handling similar complaints going forward and root cause analysis.

Nathan:
That's right. I mean, if you look at those two initial cases that came out on motor finance discretionary commissions, if nobody thought they had precedent value, then there wouldn't be a judicial review and the scale of compensation that flows from that. And so I think firms do treat them as precedents.

Adam J:
One thing that you talked about a little bit there, Nathan, was this kind of two-stage process through the FOS of the adjudication and then the ability to refer that sort of initial decision to an Ombudsman. I think that the last stats were that out of the 210,000 odd complaints that the FOS resolved, it looks like around 30,000. So maybe approximately 15% went to an OOmbudsman. Adam, what do you think about that two-stage process? Do you think it works well in practice?

Adam T:
Well, I think it's an important part of the process, partly because of the investigation stage, sometimes not having the rigour the one would desire of it. So it does at least give a second pair of eyes to the decision. And I have seen cases where ombudsmen have reversed the investigator's position, particularly on some tricky areas like jurisdiction where perhaps is more legal than just what ... Well, it's certainly more legal than what's fair and reasonable. And so getting maybe a more experienced individual to look at that does exist. The Call for Input has this interesting question in it about whether that ability to refer to an Ombudsman should be restricted in some way with a suggestion that the investigator is normally following a general approach informed by other cases previously determined by the financial Ombudsman panel, which goes back to your point about precedent, that the investigators do apply what they have seen from other decisions. So if you've got a decision, it's going to be replicated in other cases.

But there is a danger in some of this that the FOS kind of gets the best of both worlds. If it's challenged in a judicial review, it's able to say, "Well, we're being fair and reasonable, and this is on an individual case, so it's very hard to overturn." Whereas in the background, what they're actually doing is building up a corpus of law or decisions which they're applying. We mentioned earlier about PPI, and that's what they did there. It's all in the public domain that they created this navigator software that effectively told the investigator what the answer was.

And then in the case I was involved in, the Ombudsman approved that decision. And in the judicial review they said, "Well, we weren't relying on Navigator. It didn't tell us the answer. It only structured our thinking." And indeed the Ombudsman said they haven't individually seen the Navigator response. So they have this best of both worlds of a corpus of decisions that they apply, but the ability to turn around to the court to say, "Well, no, we're being fair and reasonable on an individual basis." So that's not quite answering your question about the two-stage process, but it is an important question mark I think, over the structure of the FOS and the limited ability to appeal it or to refer it to judicial review.

Adam J:
Yeah, I mean, you mentioned judicial review. I mean, there's obviously been a number of high-profile judicial reviews of the FOS in the past, particularly in the context of mass redress events. What impact does a judicial review have on these events, both, I guess on consumers, on firms, on the FOS and regulators? How does it impact these big processes?

Adam T:
Well, from the complainant's point of view, it can be a big concern because obviously it can overturn a decision that it's got against the firm. Typically, it's the firm referring the decision to judicial review. But in the most recent one, I noticed that Barclays are judicially reviewing a motor finance decision, but saying that the complainant can keep the money come what may. So maybe that's one way through it for firms dealing with these systemic issues. So the complainant doesn't need to be concerned. In terms of the position of firms, it is better than nothing, but it is not a great safety valve for FOS mistakes because it is so difficult to persuade the courts to look at the substance of the decision. You might get somewhere on a jurisdictional challenge. But apart from a few issues around calculation of quantum, I don't think there's been a successful judicial review on the merits. So it's better than nothing. But from a firm's perspective, it really doesn't give much protection.

Adam J:
Does it bring certainty to the sector as to how they should be viewing particular issues, whether as part of their own complaints handling or what the likely outcome will be, and also how the FOS should be dealing with them based on how the courts have looked at a similar case?

Adam T:
Well, obviously if something goes through JR, then they get a decision from the court about whether what the FOS has done would be supported in another case. So there's a degree of certainty in that. There's also a degree of certainty in knowing that because it's such a rubbish safety valve, that whatever the FOS says is likely to be the last word on issues around commission, for example.

Nathan:
I think it's clear from the fact that the government has issued this Call for Input that the government is not happy with the way that the Ombudsman service is working at the moment in relation to mass redress events. It sees a problem, I think it saw it in relation to PPI. Nobody - the FCA wasn't happy with how PPI was handled. It's clear in that case that the Ombudsman moved the goalposts from where they were, and as a result, firms had to respond to those different standards in how they viewed sales of PPI and compensation. And we now have motor finance, which is a combination as was the case with PPI of legal decisions and Ombudsman decisions.

But I think there's real concern amongst the government as to the cost for the industry of implementing these wider implications cases from the Ombudsman where the standard set go beyond those that the FCA has made clear through its rules and guidance. And so I think it's looking as part of this Call for Input for solutions from the industry that both help consumers to have appropriate redress in individual cases, but which don't impose higher standards than firms thought they were subject to at the time that they were selling financial products or services.

Adam T:
The irony here, of course, being that it's not the FCA or the FOS, which has muddied the waters. It is the courts. The very thing that us lawyers would probably say is the better legal route to working out what's fair and reasonable has laid down a marker which surprised many in the industry.

Nathan:
Certainly on motor finance in the Court of Appeal decision, absolutely. And I suspect that the government intended to reform FOS, these proposals came probably before that Court of Appeal decision. And the question is, what changes should be made to the FOS and the interaction with the FCA where there are these cases that have significant implications across parts of the industry?

Adam J:
I mean, let's start with a drastic possible solution, which is do we think the FOS should still exist? Is it fit for purpose I guess just as a concept and an idea?

Adam T:
Well, I think it absolutely has to exist in one form or another. The sheer numbers of complaints it deals with means that some form of redress scheme like this is necessary. The county courts couldn't possibly deal with it. And also the costs risks to consumers would make it an impossible regime. The FCA doesn't have the resources to deal with it. And even if the FOS was folded into the FCA, the number of resourcing issues and the different pulls on the staff I think would be less desirable than having a separate institution than we have at the moment.

Nathan:
Yeah, I agree completely. I think it is appropriate to have the Ombudsman particularly to decide individual cases, but I would change the test that they're required to apply, and I would give the FCA a bit more power to call things in where they can see them having wider implications.

Adam J:
So in terms of the test, you mean the sort of the fair and reasonable test and the change you would make would be?

Nathan:
So I would require the Ombudsman where there are FCA rules that govern a particular activity, I would require the Ombudsman to apply those rules rather than to substitute a higher standard based on what they consider to be fair and reasonable.

Adam J:
What about where-

Nathan:
Adam, I can see you are disagreeing with me. You've got some thoughts?

Adam T:
Yeah, I have two thoughts on that. One is a word of defence, a word in defence of the Financial Ombudsman Service and its fair and reasonable approach, which is the change it brought in insurance law. And that was obviously quite a long time ago now, but it was the body which recognised that the kind of Victorian approach to various things in insurance law just wasn't appropriate for consumers. And so the fact that it had a fairly broad remit meant that it fashioned a better system, which in due course the Law Commission broadly picked up and is now the law.

The second response to fair and reasonable and whether it could be reformed to the FCA rules is the question about how different that would really be in circumstances where the FCA principles are themselves pretty open textured. And so any Ombudsman who wanted to find against a firm because he or she thought it was fair to do so could point to the duty to treat customers fairly or the consumer duty. So just a question mark over that about how different the results would actually be.

Nathan:
Yeah, I mean, there are areas where the Ombudsman on some quite tightly prescribed areas of, for example, customer categorization where we see the Ombudsman saying, "Well, okay, you might be following the FCA rules in this area, but we think you should also do X and Y," which seems to me to be unfair for a firm to be subject to standards that are not clear to them at the time that they make sales. And therefore they're always having to anticipate what might the Ombudsman think and the fact we can't just simply comply with our regulatory obligations. I think, I see that as a fundamentally unfair approach that at least you should understand what the standards are that you're subject to.

Adam J:
Even with a reform to the test, there'd still be a lot of grey areas because we operate within broadly principles based regulation. Yes, there are express rules that can be read into in certain areas and policy statements, et cetera, from the FCA. But very often I expect there would still be areas where perhaps the standards may not have been clear at the time that the incident or the conduct occurred, and there will be differing views as to what best practice or what the regulatory expectations would have been at that time. And it strikes me that it puts the Ombudsman in quite a difficult position in implying that test where they're taking into account regulatory rules, guidance and standards, and also what they consider to have been good industry practice at that time. And that may be very difficult to understand, well, what was the right practice perhaps without subsequent guidance from the FCA and views on whilst they may not have been published statements at that time, how they would've expected a firm to have behaved in that particular circumstance. What do you think about that challenge?

Adam T:
Yes, I mean, part of this Call for Input I think is anticipating that the FCA might do more along those lines in terms of public statements on its own rules, and I would have a lot of time for that kind of approach. At the moment, there is a framework for them to discuss those issues, but it's all quite black box, I think from the perspective of the industry. The FOS and the FCA may discuss things, but we don't know what they say. Again, it is one of those question marks about how, whether the industry would be happy or happier with the FCA doing that. Because if you remember, in the world of interest rate hedging products, the complaint was that the FCA was the one rewriting the rules for what it now thinks should have happened then rather than what it said at the time should happen. So I think we'd end up with similar complaints potentially, but it would at least be a more transparent process.

Nathan:
Yeah, I think what you need is something that enables the FCA to take control of the situation where you have a mass redress event. And I think some sort of mechanism that ... I mean, we currently have the possibility of an industry-wide compensation scheme under Section 404 of FISMA. There's obviously the ability under the current law for the FCA to impose a redress scheme on an individual firm as a requirement, an OIREQ requirement. I think when the FCA looks at, say, motor finance, and I say this before the Court of Appeal complicated the position, there was a sense the Ombudsman had gone beyond the law, and the challenge for the FCA was to try and put, contain that issue in some way. And the FCA I think, felt fairly powerless to do that. It obviously appointed a skilled person to collect information. It thought it may want to have a test case. It may want have an industry-wide compensation scheme. The benefits of an industry-wide compensation scheme are it then constrains the Ombudsman in how the Ombudsman assesses complaints. It has to assess them consistently with how the industry-wide compensation scheme addresses those issues.

But I think something more that enables the FCA to take back those issues that it feels are going beyond where it sees the proper constraints of industry standards. I think that the industry levels, standards that it has imposed. But it does require you to put quite a lot of faith in the FCA, and that, again, creates its own issues.

The third alternative, of course, is to then put those into the hands of the Tribunal, the Upper Tribunal, and to say, well, should there be a power for an issue to be referred to the Tribunal to assess whether or not it's appropriate for those complaints to be determined in a particular way? And the question then would be, well, what tests should the Upper Tribunal apply? Is it a judicial review style? that probably won't work given the breadth of discretion that the Ombudsman has? Is it substituting its own view of what's fair and reasonable? or is it actually applying FCA rules in the assessment of those matters? I mean, I feel like it's a really difficult issue of how to contain that.

Adam T:
Yes, of course at the moment, there's no power for that. So that would need a change in the law. There are powers for the FOS to refer things to the courts, but I've never seen it done and I don't know what the court would do in those circumstances. I suspect it would just apply the normal common law principles and the FCA rules, which one might say if the court thinks that's the right results, how can it be said not to be fair and reasonable? But that may be is - very much a lawyer's point of view.

Nathan:
And I think the real underlying message from this Call for Input is that the government - through the FCA and the Ombudsman - is asking the industry to think creatively about what are the solutions that would both meet consumers' needs, but also meet the industry's needs and achieve a fair balance between the two. And so the Call for Input runs until the 30th of January, 2025. And I think it is a case of having to go back to first principles and thinking creatively about what would deliver that right solution. But I don't think there's an obvious solution that suggests itself.

Adam J:
I mean, it does feel like though the right time to be thinking about it because there is a sense of Groundhog Day isn't there in terms of PPI was all done, et cetera in 2019, and here we are again talking about how to deal with massive redress events, both in terms of legal certainty and all the operational challenges that they create for consumers and firms and regulators.

Nathan:
Absolutely. Well, I think that that's all we've got time for in this edition of the Ashurst Regulatory Enforcement Podcast. Many thanks to you, Adam, and to you, Adam, for sharing your experiences and insights with us today. And a big thank you to you for listening to the podcast. We hope you found it interesting and useful. As always, if there's anything that we discussed that you have your own views on, then please do reach out, drop us an email or give us a call. We'd love to hear from you, and particularly to get your ideas on this Call for Input. Thank you very much.