If there is one thing guaranteed to reduce normally rational IFAs to blind and usually justified fury, it is the cheques they have to pay for Financial Services Compensation Scheme funding. The same applies to a lesser degree to the bills issued by the FSA to cover its costs and the costs of the Financial Ombudsman Service. Finding anyone who is happy with the system is a challenge.
The problem with our system of funding regulation and compensation is the principle that the polluter’s competitors pay. The notion of fee blocks represents different types of business to which expenses are attributed and probably had its origin in the idea that the regulator should not be allowed to fine firms in order to balance its books.
Financial instability marred the records of both Fimbra and Lautro and suspicions about an increase in disciplinary activity in the early 1990s when money was tight lie at the heart of the rule.
The FSCS is essentially an amalgamation of the Investors’ Compensation Scheme, the Deposit Protection Scheme and the Policyholders’ Protection Fund. It was decided in the run-up to 2001 to keep the funding basis for each scheme separate. Why should loan brokers pay when a hole is discovered in an insurer’s books?
It all sounds sensible but unfortunately, it is not. An IFA that does not go bust or is not disciplined is not financially or morally culpable when one of its competitors fails. Nor, since the nature of the IFA market is fragmented, do advisers benefit when their competitors fail.
An adviser in Alnwick gains nothing when a firm in Cornwall goes under. It has been suggested that the current system provides an incentive for IFAs to report each other for misdeeds or financial distress to the regulator. This rarely happen as many businesses think, there but for the grace…
The position sometimes rises to levels of absurdity. In the recent consultation about payment protection insurance complaints, it was pointed out that the loan brokers who did not sell the insurance could fail due to the FSCS levy as a result of those who did, creating an odd near-disincentive to act honourably.
Finding anyone who is happy with the system is a challenge
Sectors of financial activity can be wiped out due to the misbehaviour of a small number of their participants.
In practice, as a result of regular lobbying by Aifa and others, FSCS and FSA funding costs are negotiated annually with insurers and investment providers who usually, but not always, have most to gain from a vibrant IFA sector, stumping up some of the cash.
This ad hoc rescuing of the IFA sector is inherently unsatisfactory. The FOS, with its free cases, came up with a rather neat solution to stop small firms being bullied into conceding complaints because of the costs involved. However, this involved a subsidy from the greater number of small firms that never receive any FOS complaints.
There are reasons for subsidising the regulatory costs of IFAs. Their record at the FOS, of reduced numbers of cases and lower uphold rates allied to persistency figures, suggests a higher level of compliance. Their failures tend to have far less structural impact on the public and the economy as a whole. But it would represent progress if the annual funding negotiations started from a sounder principle.
Funding on the basis of affordability already happens through the sub-divisions within funding blocks.
The obvious next step would be to focus on affordability generally. The attitude that those who can pay most should do so already applies to a large degree. By cutting down the fee blocks except as a broad categorisation for administration purposes, one can avoid the unprincipled polluter’s competitors pay idea.
It would also do away with the absurd arguments as to whether a firm should be categorised as falling within one fee block or another for funding the costs of a clean-up.
The FSA can continue to be required to rebate annual subscriptions by reference to fines collected. However, the rebate would spread across the board. The one company that was not fined because the FSA felt it had done enough to send a message would not receive the full amount of the fee reduction it currently wins. That would not be unreasonable.
None of this provides a perfect answer but funding based purely on affordability and with no regard to fee blocks would appear to be the least worst solution. In any event, it is time for a grown-up discussion on the alternatives.