FCA makes clear that it expects a cultural shift in how firms focus on consumers.

By David Berman, Nicola Higgs, Rob Moulton, and Charlotte Collins

On 7 December 2021, the FCA published its second Consultation Paper (CP21/36) on introducing a new Consumer Duty. This follows an earlier consultation in May 2021, which set out high-level proposals for how the Consumer Duty would work, but did not include any draft rules or guidance (see FCA Proposes New Consumer Duty). This second consultation sets out more developed proposals, taking on board feedback received to the first consultation, and so gives firms a clearer idea of what the regulator will expect.

What is the Consumer Duty?

The Consumer Duty is really a package of measures, rather than a single duty. The FCA is proposing to introduce a new Consumer Principle that requires firms to act to deliver good outcomes for retail customers. The FCA has chosen this formulation in favour of the second option it socialised in the first consultation — “A firm must act in the best interests of retail clients”. The FCA considers that the Consumer Principle sets a higher standard than Principles 6 and 7, and so it proposes that where the Consumer Principle applies, Principles 6 and 7 will no longer apply.

The Consumer Principle will be underpinned by a set of cross-cutting rules that explain how firms should act to deliver good outcomes, and so are designed to elaborate on the FCA’s expectations. The cross-cutting rules will require firms to:

  • Act in good faith towards retail customers
  • Avoid causing foreseeable harm to retail customers
  • Enable and support retail customers to pursue their financial objectives

The FCA has removed its original suggestion that firms should take all reasonable steps to achieve the latter two of these requirements, as it wants firms to focus on acting reasonably, rather than on steps and processes. The FCA acknowledges that how firms comply with the third requirement will depend on their role (e.g., the regulator would expect more of firms that provide advised services than those that provide execution-only).

Finally, the FCA is proposing a set of four outcomes and associated rules under the Consumer Duty. Again, the precise expectations under each of these should be informed by the firm’s role. The four outcomes relate to:

  • The governance of products and services. This outcome involves extending product governance requirements across all retail products, with different rules for manufacturers and distributors. For example, manufacturers will be required to undertake a product approval process, identify a target market, and ensure appropriate distribution channels for their products.
  • Price and value. This outcome focuses on the relationship between the price the consumer pays and the overall benefits they can reasonably expect from a product. Price and value should be considered at the design and distribution stages, and also on an ongoing basis. The FCA does not propose to set out detailed requirements for how firms assess fair value, but emphasises that value needs to be considered in the round — and that low prices do not always mean fair value. The regulator does not intend to set price caps or limit profits.
  • Consumer understanding. This outcome has been renamed from “consumer communications”. The FCA expects firms to focus much more on consumer outcomes and understanding throughout the customer journey. As well as ensuring that individual communications are fair, clear, and not misleading, firms will need to consider their overall approach to communicating information to make sure they equip customers to make effective, timely, and properly informed decisions. To achieve this result, firms will need to tailor their communications appropriately as well as monitor, test, and adapt their communications on an ongoing basis to ensure that the communications are suitable.
  • Consumer support. This outcome has been renamed from “customer service” and focuses on firms providing an appropriate standard of support to customers, so that customers can use products as reasonably anticipated, and do not face unreasonable barriers in doing so.

The FCA emphasises that the new Consumer Duty does not create a fiduciary duty where one does not already exist. Many of the expectations under the Consumer Duty are subjective and will require firms to apply their judgment. However, the FCA is proposing an objective element such that its rules and guidance should be interpreted in line with the standard that could reasonably be expected of a prudent firm carrying on the same activity in relation to the same product or service, and with the necessary understanding of the needs and characteristics of its customers.

Which firms will be subject to the Consumer Duty?

The Consumer Duty is intended to apply to retail customers only (including prospective customers). However, as there is no uniform definition of a retail client, the FCA is proposing to align the scope of the Consumer Duty with the definition of a retail client in each of its sectoral sourcebooks. For example, for investment business, the scope of the Consumer Duty will align with the definition of a retail client in COBS. Principles 6 and 7 will continue to apply to firms dealing with customers outside the scope of the Consumer Duty.

The Consumer Duty will also apply to unregulated activities that are ancillary to a firm’s regulated activities, and to firms in the temporary permissions regime.

The FCA is proposing that the framework will apply proportionately, taking account of the firm’s role in relation to the product or service, the nature of the product or service, and the characteristics of the consumers in question. Firms will be responsible only for their own activities and will not need to oversee the actions of other firms in the distribution chain. However, where firms work together to manufacture a product or service, they will need to have a written agreement setting out their mutual responsibilities.

The Consumer Duty may capture some firms that do not have a direct relationship with retail clients. The FCA is proposing that it will apply to firms that have a material influence over the design or operation of retail products or services, including their price and value, the distribution of retail products or services, preparing and approving communications that are to be issued to retail clients, or direct contact with retail clients. Therefore, all firms that have an impact on retail consumer outcomes will need to consider the Consumer Duty.

The FCA provides the example that an investment bank that designs a structured product for sale to retail customers would be subject to the Consumer Duty, but investment banks that provide wholesale instruments as component parts of a product created by a third-party firm would not. The FCA does not intend to capture primary market activities in relation to real economy securities and intends to exclude activities that involve the issuance of non-complex financial instruments and non-retail financial instruments.

What are the FCA’s expectations?

The FCA has stressed that it expects to see a cultural shift in how firms focus on consumers. The regulator will expect firms to monitor the outcomes their customers are experiencing, consider whether they are consistent with the Consumer Duty, and act when they identify issues or concerns.

While the FCA does not propose to require firms to report on specific metrics, firms will need to ensure that they can demonstrate effectively how they are meeting the above expectations and be able to explain their actions to the regulator. This will include maintaining appropriate records. The FCA expects that firms will produce and regularly review management information on consumer outcomes that is appropriate to the nature, scale, and complexity of their business.

The focus on outcomes under the Consumer Duty will no doubt be a concern for firms, since many of the requirements will be highly subjective and will require firms to make various judgment calls. The FCA does acknowledge that it may be difficult for firms to understand exactly what is expected of them without prescriptive rules, and so is consulting on 70 pages of non-Handbook guidance to accompany the new rules. The regulator also emphasises that it does not expect firms to be able to prevent all poor outcomes, or to protect customers from risks that they understand and accept. The FCA plans to communicate further expectations and the action it expects within different sectors through the usual supervisory and communication channels, including by publishing results of supervisory and multi-firm work, portfolio and Dear CEO letters, speeches, and industry engagement.

The FCA anticipates that implementation costs for firms will be “large”, including one-off costs to initially implement the regime, annual costs of complying with the regime, and increased costs in the form of higher costs and/or loss of profits due to shifting behaviours. This analysis underlines the level of change the regulator is expecting firms to undertake.

How does the FCA plan to supervise and enforce the Consumer Duty?

The FCA plans to shift its supervisory mindset, whereby it will make the Consumer Duty an integral part of its regulatory approach throughout the authorisation, firm supervision, and enforcement processes. Therefore, the FCA will consider the Consumer Duty throughout all of its work rather than as a stand-alone regime.

Initially, the FCA plans to focus on tackling the most serious misconduct and intervening before harmful practices become entrenched as market norms. The FCA intends to use “assertive supervision” to intervene quickly when it identifies actual or potential harm. However, as the Consumer Duty aims to reduce the extent to which consumers suffer harm in the first place, the FCA suggests that over time the need for the regulator to intervene after things go wrong will decrease. Given the FCA’s overall approach, firms can expect the FCA to take a strict approach to supervising and enforcing the Consumer Duty. Indeed, many firms are already seeing the FCA applying similar principles in its supervisory work.

The FCA has decided not to attach a private right of action to any aspects of the Consumer Duty for the time being, although it will keep this option under review. Therefore, firms will not face potential action from consumers directly for non-compliance with the requirements.

Will the board and/or Senior Managers be responsible for compliance?

The FCA will expect a firm’s board to consider a report from the firm assessing whether it is acting to deliver good outcomes for its customers that are consistent with the Consumer Duty at least annually. The FCA emphasises that the SMCR already makes clear that Senior Managers are responsible for compliance with the requirements and standards of the regulatory system, and that these standards will be raised by the Consumer Duty. There is a clear message from the FCA that it will look to hold Senior Managers to account if a firm fails to achieve what is required by the Consumer Duty.

How will the Consumer Duty impact individual conduct standards?

The FCA is planning to add a new individual conduct rule requiring all conduct rules staff (including Senior Managers) within firms to “act to deliver good outcomes for retail customers” when their firm’s activities fall within scope of the Consumer Duty. When this new rule applies, the existing individual conduct rule 4, which requires conduct rules staff to “pay due regard to the interests of customers and treat them fairly”, will not apply. New obligations reflecting the three cross-cutting rules (set out above) will also apply to these individuals. The FCA emphasises that the scope of a person’s role and their seniority could affect the scope of their duty under the new rule, so more will be expected of a Senior Manager than a junior member of staff. Firms will also need to provide staff with training on their obligations under this new conduct rule.

When will the Consumer Duty take effect?

Comments on CP21/36 are requested by 15 February 2022, and the FCA plans to publish a Policy Statement with final rules by the end of July 2022. Firms will be expected to have fully implemented the requirements by 30 April 2023.

The FCA emphasises that it expects firms to use the implementation period fully and to be able to demonstrate progress when asked. The FCA suggests that it will monitor firms’ implementation during this period, so firms will need to ensure that they dedicate sufficient resource and commitment to implementation.

The Consumer Duty will not apply retrospectively but will apply, on a forward-looking basis, to existing products or services that are either still being sold to customers (or renewed), or are closed products or services that are no longer being sold or renewed but are still in place. Consequently, firms will need to use the implementation period to review their products and services. Such review might include updating the contractual terms and conditions of a product or service before it can continue to be sold or renewed following implementation of the Consumer Duty.