FCA consultation paper on discretionary commission models and commission disclosure

• United Kingdom

• Financial services disputes and investigations
• Litigation and dispute management

24-10-2019

1. FCA Final Report on Motor Finance

In March 2019, the FCA published its Final Report on motor finance. Our briefing note on the Final Report can be found here.

As a recap, the Final Report focused on:

• Commission arrangements between lenders and intermediaries;
• Disclosure of information to customers at point of sale; and
• Affordability and creditworthiness

A. Commission Arrangements Between Lenders and Intermediaries

The FCA expressed concern on commission arrangements, in particular Increasing Difference in Charges (IDIC) and Reducing Difference in Charges (RDIC). The FCA’s analysis found that there is a stronger link between broker commission and interest costs for the IDIC and RDIC models after analysing contracts between lenders and dealers comprising 45% of the motor finance market. The FCA said this was costing consumers upwards of £300m and other models (e.g. flat commission) had shown less of an association between broker commission and interest costs.

B. Disclosure of Information to Customers At Point of Sale

The FCA undertook a mystery shopping exercise and visited 122 motor retailers. Whilst the FCA acknowledged that most brokers appeared to make sufficient efforts to establish customers’ change cycles, ownership/usership preferences and budget, brokers did not give enough consideration to overall the financial package and alternative products.

The FCA also reported that only a small number of brokers disclosed commission to the mystery shoppers thereby falling short of CONC 4.5.3R which states that commission should be disclosed for products that may lead to a conflict of interest or affect the broker’s impartiality, such as IDIC/RDIC.

The FCA further added that the results of a questionnaire they commissioned to lenders provided that lenders had inadequate controls in monitoring broker compliance with CONC obligations.

C. Affordability and Creditworthiness

The FCA asked 20 motor finance lenders how they assessed creditworthiness and affordability. They found that some lenders focused more on credit risk rather than affordability. The FCA will provide lender-specific feedback on this topic.

2. FCA Consultation Paper on Discretionary Commission Models and Consumer Credit Disclosure

Following on from the Final Report, the FCA has carried out a Cost Benefit Analysis survey and has now published Consultation Paper 19/28. In summary, it proposes a ban on certain motor finance commission models and amendments to the wording in the Consumer Credit Sourcebook (CONC) on commission disclosure with increased disclosure requirements.

A.    Motor Finance Commission Models

The FCA proposes a ban on discretionary commission models. It says this will eliminate the incentive for brokers to set higher interest rates to earn more commission, and ultimately reduce financing costs for consumers. The proposed rules define ‘discretionary commission arrangement’ as any arrangement which a lender permits a broker to decide or negotiate the amount of any item included in the total charge for credit. Brokers can still earn commission from fixed or variable commission models provided they are not linked to interest rates. If the firm can demonstrate that a higher commission is justified, for example, because of the extra work involved, then this will be allowed.

The proposed ban on discretionary commission models is restricted to the motor finance market. The proposed wording of new CONC 4.5.5G specifically refers to “customers wishing to enter into regulated credit agreements to finance the acquisition of motor vehicles.”  However, the FCA recognises such models exist in other markets, including asset finance and premium finance, but does not intend to extend the scope of the ban at this stage.

The ban will not affect discretionary commission which accrued before the changes come into effect, or discretionary commission relating to regulated credit agreements entered into before the date on which the changes come into effect. The changes are likely to take effect during 2020 given the proposed 3 month implementation period.

B. Commission Disclosure Rules

The FCA also proposes amendments to the commission disclosure rules under CONC. Importantly, these amendments apply to all credit broking, not just in the motor finance market.  The proposed changes to the disclosures credit brokers have to make relate to both consumer hire and consumer credit.  In more detail, the proposed amendments are:

Financial Promotions and communications with customers

• CONC 3.7.4 G – the need to indicate to a customer in a prominent way both the existence and nature of any financial arrangements with a lender that might impact upon the firm’s impartiality in promoting or recommending a credit product to the customer or which might, if disclosed, affect the customer’s decision in relation to that product.
• CONC 3.7.4A(1) G – where the amount of commission varies due to a specific feature of the credit product or due to the level of work undertaken, the broker should make disclosure under CONC 3.7.4 G.
• CONC 3.7.4A(2) G - where the firm has arrangements in respect of two or more different credit products for which the customer could be eligible, and the firm is recommending one of those products, and the commission varies depending on which product the customer takes, the firm should make disclosure under CONC 3.7.4 G.

Commissions: credit brokers

• CONC 4.5.3 R – a broker must prominently disclose to a customer, in good time before either a credit or a consumer hire agreement is entered into, the existence and nature of any commission payable to the credit broker by the lender/owner or a third party where the existence or amount of the commission could actually or potentially affect the impartiality of the credit broker in recommending the agreement, or if made known to the customer, have a material impact of the customer’s decision to enter into the agreement.
• CONC 4.5.3A R – where the credit broker is required to disclose under CONC 4.5.3R, it must also disclose to the customer (at the same time and with equal prominence), how the commission may affect the amounts payable by the customer under the relevant credit or hire agreement.  The credit broker is not however required to provide the customer with an individually tailored illustration of how the commission may affect the amount payable under the relevant credit or consumer hire agreement.
• CONC 4.5.3B G – where the amount of commission varies, the credit broker should make disclosure under CONC 4.5.3 R.

• CONC 4.5.3B G – where the firm has arrangements in respect of two or more different credit agreements or consumer hire agreements for which the customer could be eligible, and the firm is recommending one of those agreements, and the commission varies depending on which agreement the customer takes, the firm should make disclosure under CONC 4.5.3 R.  This disclosure can be in general terms, but should enable the customer to appreciate the effect of the arrangements.

What next?

The deadline for responses to the six questions raised in CP19/28 is 15 January 2020. The policy statement is expected to be published shortly thereafter.

Comment

Despite considering a number of softer options, including limiting broker discretion and allowing discretionary models with sufficient justification, the FCA has decided on what it perceives to be the outcome which will potentially reduce consumer harm the most.  The proposed disclosure requirements are also interesting.  Far from being minor, as described by the FCA, the new requirements will apply to all credit brokers, and to all consumer credit and hire markets, despite the original focus of their work being solely on motor finance.