Insurance updater - Europe
19 September 2012

FSA consults on aspects of future PRA and FCA authorisation and supervision regimes

The Financial Services Authority (FSA) has published a consultation paper proposing changes to the existing FSA Handbook on aspects of the future Prudential Regulation Authority (PRA) and Financial Conduct Authority (FCA) authorisation and supervision regimes (CP12/24). In preparation for legal cutover (the point at which the PRA and FCA will acquire their legal powers), the FSA is consulting on how the existing Handbook will be “designated” to the PRA, the FCA, or both regulators. In order to align the new rulebooks with the objectives and functions of the PRA and FCA under the Financial Services Bill (the Bill), however, some more substantive changes to the current Handbook will need to be made.

How will the new rules operate? Part VIIs as an example

Insurers will be particularly interested in the proposals relating to the procedures for permissions, change of control, waivers and skilled persons reports. Perhaps it is helpful to focus on a specific issue when considering the FSA’s approach to designation between the new authorities in order to understand better how the two new authorities will operate. One such issue considered in the proposals are portfolio transfers. The Bill revises the current process for transfers of business under Part VII of the Financial Services and Markets Act 2000. The responsibilities of each regulator will be covered in a Memorandum of Understanding (MoU) between the PRA and the FCA. The draft MoU provides that the PRA will lead the transfer process and consult with the FCA throughout. Both regulators will have the right to be heard at the Court hearings. In light of these changes in the Bill, the FSA proposes amending Chapter 18 of the Supervision sourcebook (SUP). CP12/24 indicates that SUP 18 will be adopted in both the new PRA and FCA rulebooks.

Aside from the changes to reflect the new regulatory structure, and among other amendments, the FSA proposes the following rules for Part VIIs:

• Removing guidance that may place inappropriate constraints on the decision making of either regulator, to be replaced with high level references to the PRA and FCA assessing Part VII transfers in light of their respective statutory objectives.
• Improving the outline of the regulators’ expectations of the information that should be provided by firms, for example, in relation to a proposed Independent Expert.
• Additional guidance to reflect the practice which has developed whereby the regulator(s) will provide a report to the Court regarding the proposed transfer.
  

The revised Chapter 18 requires the PRA to lead the Part VII process and to have responsibility for aspects such as the provision of certificates. However, the PRA must consult with the FCA "at the outset and throughout" the process. Furthermore, both regulators are entitled to be heard in court. It is anticipated that the involvement of two regulatory bodies in the Part VII process will lead to more complex negotiations between the transferring parties and the regulators particularly in relation to issues such as notification, given the different objectives of the PRA and FCA.

Firms should review the proposed Handbook changes and consider the likely impact of the new regulatory structure on their business. Those wishing to comment on the FSA’s proposals should respond by 12 December 2012. The PRA and FCA will issue finalised rules and guidance, once they acquire their legal powers, currently expected to be around April 2013.

For further information: CP12/24 Regulatory Reform

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FSA guidance consultation on risks to customers from financial incentives

On 5 September 2012, the FSA launched an initiative aimed at tackling poorly designed incentive schemes. A review of 22 firms has revealed significant failings in the management of financial incentives encouraging a “culture of mis-selling”. A speech by Martin Wheatley, FSA Managing Director, accompanied the publication of a guidance consultation on the risk to customers from financial incentives.

Wheatley explains that this marks the first step of a work programme to be taken forward by the FCA next year. According to Wheatley, this issue is part of a broader problem that the FCA is determined to address; financial institutions no longer view consumers as people to serve, but rather people to sell to. A cultural shift is required, Wheatley argues, to ensure consumers are getting a fair deal and rebuild trust in the financial system.

The FSA does not currently prescribe how staff should be incentivised, however, firms are expected to comply with its Principles for Businesses and the relevant provisions of the Senior Management Arrangements, Systems and Controls sourcebook (SYSC). Evidence suggests that firms are failing properly to manage the risks of incentive schemes, as illustrated by the Payment Protection Insurance mis-selling scandal. Overall the FSA found that:

• Firms had not properly identified the risks posed by their incentive schemes to ensure effective controls were in place. Some schemes were so complex that management did not understand them.
• Sales quality generally had much less of an impact on staff incentives than the quantity sold.
• Firms relied too much on routine business quality monitoring to mitigate the risks created by their incentive schemes, and this monitoring often did not focus on the riskiest areas.
• Some sales managers earned a bonus based on the volume of sales made by the staff they supervised. This created a conflict of interest for managers who also played a significant role in checking the sales of their staff.

The current sales-driven approach adopted by many firms poses significant risk to consumers. The FSA highlights a variety of bonus schemes used by firms to encourage high volume of sales, often resulting in poor consumer outcomes. Wheatley explains that firms are encouraged to develop incentive schemes that are structured and managed in a way that treats those affected fairly. The review found that, in an effort to achieve sales targets and therefore greater remuneration, consumers had been sold inappropriate or unnecessary products or received poor quality advice with the benefits of a product exaggerated and its limitations underplayed. Firms are expected to take action now to address this issue including:

• Examining their incentive schemes to see if they increase the risk of mis-selling.
• Reviewing whether governance and controls are adequate.
• Taking action to deal with any weaknesses and flaws identified.

The guidance provides examples of good and poor practice based on the FSA’s findings, as well as suggestions for how firms can improve their bonus and reward schemes. Senior management, and ultimately the CEO, will be held accountable for poor practices, with the FSA prepared to take enforcement action for serious failings. Risk management and governance is a key feature of the FSA’s guidance which suggests among other things: robust risk-based business quality monitoring; management information to identify trends in individual sales staff activity; effective oversight of incentive schemes; and proper management of conflicts of interest.

Responses to the guidance consultation are requested by 31 October 2012. The FSA is currently considering whether to make any changes to the rules to strengthen regulation in this area. In the meantime, the regulator will continue to monitor how firms incentivise sales staff and take action where necessary.  

For further information: 

The incentivisation of sales staff - are consumers getting a fair deal?

FSA guidance consultation

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ABI report on the way ahead for conduct regulation

On 18 September 2012, the Association of British Insurers (ABI) published a report entitled The Way Ahead for Conduct Regulation: A Positive Partnership to Deliver for Consumers. Otto Thoresen, Director General at the ABI, explained in the accompanying speech that “the way ahead for conduct regulation has to be one where the industry and regulator work in partnership to focus on what needs to be done for consumers”. The report discusses six key themes for the industry and the FCA to take forward to form the foundation for a successful conduct regulation regime. The themes are:

• Making markets and regulation work to deliver public policy goals. The ABI will be urging the government to ensure that the FCA delivers regulation that works with the grain of wider social policy.
• A regulator that is in touch with the consumer experience.
• Regulation focused on markets delivering products that meet consumer needs. The ABI recommends that the FCA develop a framework for product interventions, combining product and distribution regulation in a targeted and decisive way.
• Facilitating effective competition and innovation in financial services. The ABI recommends that the FCA develop a rigorous framework for market analysis and appoint staff with expertise in competition policy.
• Actively shaping the FCA's wider regulatory programme with the EU and the UK.
• Building mutual confidence and respect between the FCA and the industry. The ABI urges all parts of the industry to commit to a more proactive style of engagement with the regulator, keeping a clear focus on the interests of consumers.

In the report, the ABI makes a number of industry commitments aimed at supporting the incoming FCA including sharing market intelligence and knowledge and experience of the EU and international markets and regulation with the FCA. This will enable the regulator and industry to better understand, and flag to each other, any possible issues that may have consequences for consumers.

Finally, Thoresen states that the ABI fully supports the creation of the FCA and welcomes the opportunity to build on existing initiatives, such as Treating Customers Fairly, focusing on what needs to be done for consumers. Thoresen calls on the FCA to continue supporting the ABI's work in developing solutions for the challenges the industry faces.

The FCA is due to publish its approach document in October 2012, which will give a clearer sense of what firms can expect from the new regulator.

For further information: The Way Ahead for Conduct Regulation: A Positive Partnership to Deliver for Consumers

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