FCA supervisory strategy for lifetime mortgage providers

Jun 30, 2022 12:00:00 AM

What has happened?

FCA Compliance Update

In June 2022, the FCA issued its supervisory strategy for lifetime mortgage providers. The FCA has reviewed the key risks of harm for lifetime mortgage providers, their consumers and the markets in which they operate as part of its Approach to Supervision. This follows on from its previous review and its letter to firms in October 2020 (available here).

In the June 2022 letter, the FCA said:

Provides an updated view of the current key risks of harm and outlines its expectations of firms, and
Provides an overview of its supervisory strategy and programme of work to ensure that firms are meeting expectations, and harms are being appropriately remedied

What are the key points of the letter?

The FCA expects firms to consider the degree to which they present these risks, review their strategies for mitigating them and be able to demonstrate that they are taking reasonable steps to mitigate them.

The rising cost of living

Many consumers will feel the impact on their personal finances, but the FCA is particularly concerned that consumers least able to bear the rise will be the hardest hit. This is in the context of 27% of the population having low financial resilience, a figure likely to increase over the coming months. At the same time, the FCA expects to see higher demand for credit, although rising interest rates, and lower disposable income, may make borrowing less affordable, or unavailable, for some. Firms will also see a wider group of consumers in financial difficulty who will find it harder to pay their debts. Some of these consumers will be in vulnerable circumstances or may be experiencing financial difficulty for the first time. Firms need to remain alert to the changing situation of their customers and target their efforts in response.

The FCA is particularly concerned that consumers in this portfolio who are facing financial stress may be more susceptible to the purchase of unsuitable equity release products. It expects firms in this portfolio to consider how the cost of living crisis is likely to impact consumers and to take the necessary steps to support consumers and mitigate harm.

The FCA considers that its Tailored Support Guidance (TSG) for mortgages, consumer credit, and overdrafts, which was issued to address exceptional circumstances arising out of coronavirus, is also relevant for borrowers in financial difficulties due to other circumstances such as the rising cost of living. Based on FCA rules, and Principles 6 and 7, it provides further guidance on the FCA’s expectations of firms when supporting borrowers and providing tailored forbearance and debt help to those in financial difficulty. In addition, the Vulnerable Customer Guidance (VCG) sets out the FCA’s view of what firms should do to comply with their obligations under the Principles and to ensure they treat customers in vulnerable circumstances fairly.

FCA Business Plan and Strategy

In its strategy for 2022 to 2025, the FCA set out its vision and ambitions for the next three years. It also set out the consistent top-line outcomes it expects from financial services and the key strategic areas that it will be focusing on. It has grouped its commitments into three areas:

Reducing and preventing serious harm – the focus is on protecting consumers from the harm that authorised firms can cause, including tackling fraud and poor treatment,
Setting and testing higher standards – the FCA is focusing on the impact that authorised firms’ actions have on consumers and markets. It expects all regulated firms to adopt the same high standards and have an open and cooperative approach, and
Promoting competition and positive change – the FCA wants to use competition as a force for better consumer and market outcomes. It will support UK growth and innovation that serves society, underpinned by widely recognised and respected high standards.

The Business Plan explains the FCA’s programme of work for 2022 to achieve this three-year strategy. It outlines the key work to be done over the next twelve months to deliver these outcomes and how the FCA will measure progress and it details the work it will carry out this year under each of the thirteen commitments from the Strategy. It has grouped its commitments into three areas:

The FCA’s view of the portfolio

The FCA aims to improve firms’ conduct and understanding of its expectations so that financial markets work well and are able to deliver good outcomes for consumers, market participants and the economy. The FCA continues to see challenges for the sector, particularly around customer vulnerability, product design and governance and its relationship with intermediaries, particularly where this may be subject to conflicts of interest, for example to providers that offer the highest procuration fees or where there is an adviser – provider relationship.

The FCA’s view of the key drivers of harm

The FCA’s view of the risks of harm to consumers remains largely unchanged from those identified in the October 2020 letter. It has outlined what it considers to be the key harms for consumers, as follows.

Customer treatment harms

Firms fail to recognise and address the needs and challenges facing customers in vulnerable circumstances and fail to ensure that they obtain the same fair outcomes as other consumers.
Poor product design and governance could lead to consumers in the later life lending market purchasing products they do not fully understand and which do not meet their demands and needs.
Firms’ policies and procedures, as well as a lack of ongoing due diligence in regard to the relationship with intermediaries, particularly where these are part of the same group or have exclusive arrangements, may lead to products being offered outside their target market.
Firms’ post sales procedures (repayment and redemption) processes and controls may lead to distress and inconvenience or financial difficulties, for example at settlement, with unnecessary delays exacerbating situations.
Consumers do not receive clear information about, or resolution to, their dispute/complaint, and feel confused or inconvenienced by repeatedly having to contact firms for answers.
Operational issues, including resilience.
Firms fail to have adequate systems and controls, processes and policies in place, and the appropriate governance and oversight, to mitigate the risk of operational events. These include systems failures that result in incorrect notifications or demands for payments being issued to customers, causing distress/financial loss.
Where firms rely on Intermediaries, they should have clear policies, and be able to evidence their use, in relation to the due diligence carried out at the outset of any relationship. This due diligence should be reviewed on an ongoing basis to ensure firms minimise the risk to themselves and consumers in terms of operational resilience, exposure to financial crime, and business continuity.
Firms’ prudential resources – this is relevant for non-dual regulated firms;
Firms prudentially regulated by the FCA play an important role in supporting the functioning of the economy. During this time of stress, the FCA expects firms to meet this responsibility by planning ahead and ensuring the sound management of their financial resources. This means taking appropriate steps to conserve capital and plan for how to meet potential demands on liquidity.
Liquid resources are critical for firms’ survival and to help ensure that they meet their obligations as they fall due. Firms should monitor their financial health as part of appropriate systems and controls, e.g., through cash flow forecasts and must always maintain adequate financial resources. The role of liquidity monitoring is more relevant given the strain coronavirus has put on firms’ financial resources, with a heightened risk of firm failure.
Failure to adequately manage resources may mean a firm fails to meet its obligations as they fall due, leading to it exiting the market in a disorderly fashion. This could leave consumers without clear information about the status of their mortgage, including who to contact and when, thereby impacting their ability to make ongoing payments, where applicable, resolve issues or make settlements.

FCA expectations and areas of focus – Latest FCA compliance update:

The FCA’s supervisory work is prioritised to focus on the following:

Fair treatment of consumers

The FCA expects firms to place sufficient emphasis on the fair treatment of all consumers, as reflected in the six consumer outcomes they should seek to achieve. Poor treatment of consumers is often linked to weak operational oversight, ineffective systems and controls, and a lack of meaningful management information. Unfair treatment is often reflected in consumer complaints, and the FCA expects firms to provide clear resolutions and information to consumers along with clearly defined next steps. The FCA expects lifetime mortgage providers to manage these risks and to consider that increasing consumer debt and poor treatment have the potential to increase the prevalence of consumer harm.

Consumer Duty

The FCA is proposing to introduce a new Consumer Duty that will set a higher standard of care that firms should provide to consumers in retail financial markets. The Consumer Duty would require firms to act to deliver good outcomes for customers, including those in vulnerable circumstances. A second consultation with specific rules and guidance on the Consumer Duty is now closed and pending the outcome of this consultation, any new rules and guidance will be published by the end of July 2022.

Additionally, the FCA has identified the following seven areas where it expects lifetime mortgage providers to pay particular attention to the needs of consumers.

Treating customers in vulnerable circumstances fairly

FCA guidance on the fair treatment of vulnerable customers is clear that to comply with the Principles for Businesses, firms should embed the fair treatment of customers in vulnerable circumstances in their business models, culture, policies and processes. Firms’ senior leaders should create and maintain a culture that enables and supports staff to take responsibility for reducing the potential for harm to vulnerable customers. Firms should be able to evidence to us how they are monitoring outcomes for customers in vulnerable circumstances and what changes they are making as a result of their monitoring to improve outcomes for these customers.

Product design and governance

The FCA expects lifetime mortgage providers to ensure that their products are designed to meet the needs of an identified target market and that they continue to perform as expected. Firms’ product governance frameworks should help them identify and manage the risk of poor consumer outcomes. Providers should have effective monitoring frameworks in place to help ensure the products continue to be sold appropriately and to the identified target market and are delivering in line with expectations.

Fees and pricing structure

Lifetime mortgage products can have a significantly different pricing structure to standard mortgage products. For example, in relation to interest roll-up and the calculation of early repayment charges. MCOB 12 provides that firms must ensure that any regulated mortgage contract they enter into does not impose, and cannot be used to impose, excessive charges upon a customer. Payment shortfall fees must also be objectively justifiable as being equal to or lower than a reasonable calculation of the cost of the additional administration required as a result of the shortfall.

Where the FCA sees evidence of potentially excessive fees being charged, it will ask firms to explain how these have been calculated.

Relationships between lenders and intermediaries

Sales of lifetime mortgage products are predominantly made through mortgage intermediaries. FCA work with advisers and intermediaries has highlighted the risk that the placement of business may be subject to conflicts of interest, for example placement to providers that offer the highest procuration fees or where there is an adviser – provider relationship.

Responsible lending

Monitoring of the lifetime mortgage sector has highlighted a trend of lifetime products being increasingly sold to younger customers and with larger median loan values. The FCA expects lifetime mortgage providers to have effective monitoring frameworks in place to ensure these products are sold to the identified target market and are delivering positive customer outcomes.

The FCA is also concerned that poor product design and governance could lead to consumers purchasing later life products they do not fully understand, and which do not meet their demands and needs. It expects all firms operating in the later life lending market to treat customers fairly, particularly older borrowers, and to pay particular attention to signs of vulnerability. Although the majority of customers taking lifetime products do not make repayments, it is paramount that, where applicable, lenders ensure they apply appropriate affordability criteria, as inadequate affordability checks could leave older borrowers finding it more difficult to meet their financial obligations as they move into retirement. It is equally important that where a customer is making interest payments, the lender deals with any change in circumstance, such as financial stress due to the cost of living impacting their disposable income, appropriately.

Post-sale systems and controls

Post-sale events, such as drawdowns and redemptions, can be relatively complex processes and can happen at a sensitive time for consumers or those acting on their behalf. The FCA expects providers to assure themselves that any customer-facing systems and controls are consistently delivering appropriate customer outcomes throughout the term of a product.

Financial resilience

The FCA uses several data sources to monitor indicators of potential financial distress and any consequential risk of harm. Firms should be familiar with Our framework: assessing adequate financial resources, published in June 2020. The FCA will engage with firms where it considers that regulatory obligations have been breached.

In addition to the above key risks of harm, the FCA also highlights the following areas that firms should give due consideration to;

Environmental, social, and governance (ESG)

The FCA has developed a refreshed ESG strategy, which sets out its target outcomes and the actions it expects firms to take to deliver these. Firms in the portfolio should play their part in helping the economy adapt to a more sustainable long-term future. Ultimately, a firm’s own governance and culture will be critical drivers and enablers of its performance on environmental and climate matters.

Diversity and inclusion is a key component of ESG in its own right and as an enabler of creative solutions to other environmental and social challenges. As set out in DP21/2, having staff and Board members from diverse backgrounds and experiences contribute to this. Diversity and inclusion in regulated firms is a priority for the FCA, and DP21/2 (which closed on 30 September 2021) and the accompanying Literature Review started the conversation on what more can be done to improve diversity and inclusion in financial services and set out the links between D&I and conduct risks. The FCA will be consulting on rules and guidance to promote diversity and inclusion in the financial services sector in 2022.

Senior Managers and Certificate Regime (SM&CR)

The regime replaced the category of Approved Persons with that of Senior Managers and charges them with a range of new responsibilities. As well as looking at Senior Managers, SM&CR also requires firms to identify individuals in the next tier down of management and those performing certain specific roles (certification functions). At least once a year, firms must evaluate and certify these named individuals’ fitness for the roles they perform. The deadline for completing this was 31 March 2021. Firms should have collected evidence to demonstrate that all certified staff are suitable to carry out their roles so that their certificates could be issued. All other staff impacted by the conduct rules must have been trained in the rules as they apply to their roles.

How can we help you?

If you’d like to know more about how we can help you with your lifetime mortgage or ESG arrangements, or any other FCA compliance issues, our specialist team is here to help.

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