The Consumer Duty (Duty) sets higher expectations for the standard of care, and involves a shift in regulatory expectations, for firms regulated by the Financial Conduct Authority (FCA). The FCA is using the package of measures which make up the Consumer Duty to enhance consumer protection in the retail market.
The Consumer Duty consists of:
- a new high-level Principle, Principle 12,
- three cross-cutting rules, and
- four customer outcomes.
Principle 12 requires a firm to “act to deliver good outcomes for retail customers”, the cross-cutting rules set out the FCA’s expectations as to how firms should behave, and the customer outcomes set out the FCA’s expectations as to how firms will deliver good outcomes to customers in practice.
The Duty is a shift from a rules-based approach to an approach that focuses on customer outcomes. Our briefing published in March 2022 on the Duty (see here), sets out further detail on the Duty.
The Duty comes into force for new and existing products and services that are open for sale or renewal on 31 July 2023 and for closed products or services on 31 July 2024. The FCA expects firms to make full use of the implementation period and to plan and prioritise implementation work effectively so that they meet the expected standards in a timely manner.
This briefing is directed at payments and e-money firms and discusses some key areas firms need to consider as part of their implementation projects. It should not be viewed as an exhaustive guide as the implementation steps a particular firm will need to take will necessarily be bespoke to their own product offering and client base. The FCA has recently issued a Dear CEO letter regarding implementing the Duty in payments firms (available here) and we have included relevant guidance from that letter in this briefing.
What is the scope of the Duty for payments and e-money firms?
During the consultation process, some firms argued that applying the Duty to payments and e-money firms was disproportionate. This was rejected by the FCA which indicated that it had identified several harms in the sector, for example, in the context of communications and customer support and the Duty would help to raise standards. UK payments and e-money firms are firmly in scope of the Duty.
The Duty applies to products and services provided to prospective and actual “retail customers”. For payments and e-money firms, this means business conducted with consumers, micro-enterprises and small charities. The Duty will not apply to services provided to businesses outside of the FCA’s definition of a micro-enterprise.
The Duty applies to firms conducting regulated activities in the UK. Firms carrying out payment services or issuing e-money in the UK are within the FCA’s regulatory remit and subject to the Duty.
The Duty applies to existing and prospective retail customers including where a prospective retail customer applies for a product or service. This means that in addition to dealings with existing retail customers, the Duty will apply when a firm approves or communicates a financial promotion, when answering questions from prospective customers, and where prospective customers apply for a product.
The Duty imposes different responsibilities for firms classed as the manufacturer or distributor of a product or service. We consider who is a manufacturer and who is a distributor below.
Are we a manufacturer?
A firm is a manufacturer if it creates, develops, designs, issues, manages, operates or carries out a product or service. The Duty applies to the manufacture of products and services, including those involved in carrying on a regulated activity or activities connected to providing a payment service or issuing electronic money. For example, a payments firm that operates an online money remittance service for consumers would be a manufacturer.
Given the multiple parties involved in a payments distribution chain, multiple firms in the payments or e-money sector could be manufacturers for a single product or service. A firm is likely to be considered a co-manufacturer where they can determine or materially influence the manufacture of a product or service. This would include a firm that can determine the essential features and main elements of a product or service, including its target market. This might be the case, for example, in relation to a white-labelled payments product where the firm using the product modifies it to change its features to make it suitable for its target market. Where firms collaborate to manufacture a product or service, they must set out in a written agreement their respective roles and responsibilities, in particular in the product approval process and value assessment process.
Payments and e-money firms who use PSR agents, EMD agents or e-money distributors, will be responsible for ensuring their agents and distributors comply with the Duty when acting on their behalf. The FCA expects payments and e-money firms to consider their agents’ and distributors’ communications to the same standard as their own and to consider the charges their agents and distributors are charging as part of the assessment of value. Payments and e-money firms should review their agreements with agents and distributors as part of their Duty implementation project to determine if they need to include additional requirements on their agents / distributors, including as regards sharing of information.
The Duty requires a manufacturer to identify a target market of customers for whom the product or service is designed. Typically, the target market is the group or groups of customers sharing common features whose characteristics, needs and objectives the product is or will be designed to meet. These customers are the end-users of the product or service, not other firms in the distribution chain. Prior to marketing or distributing the relevant product or service to the market, a firm that is a manufacturer will have to approve the products and services, and any significant adaptations, to ensure that the products and services meet the needs of its identified target market. Where a firm determines that it may be selling outside its target market, the FCA expects the firm to take steps to reassess whether the product is suitable for the broader target market – which the FCA recognises may well be the case – but this may involve the firm amending its target market, distribution strategy and / or risk controls.
Firms must ensure that the product or service does not adversely affect customers with characteristics of vulnerability and avoids causing customers in the target market foreseeable harm.
An area to consider carefully in this context are fees levied by payments and e-money firms particularly where the target market captures consumers who are in financial difficulty.
Are we a distributor?
A distributor is a firm that offers, sells, recommends, advises on, arranges, deals, proposes, or provides a product or service, including at renewal. The concepts are deliberately broad, and the terms may overlap, to capture all aspects of the distribution of a product or service.
A distributor is required to review and test its distribution strategy on an ongoing basis to verify that the products and services are not being sold to customers outside of the target market and avoid causing or, where that is not practical, mitigate foreseeable harm to consumers, support the management of conflicts of interest and ensure the needs, characteristics and objectives of the target market are considered.
A firm can be both a manufacturer and a distributor. For example, an e-money firm that has designed its own prepaid card offering that customers can apply for on its website would be both a manufacturer and a distributor. It would be required, for example, to ensure that its product is not being widely distributed to customers for whom they were not designed and whose interests they do not serve.
A manufacturer is required to complete all their reviews necessary to meet the four outcome rules for their existing open products and services by the end of April 2023 so they can share with distributors the information necessary for distributors to be able to meet their obligations under the Duty.
EMD agents, PSD agents and e-money distributors are not “firms” and therefore do not fall under the definition of a “distributor”. The rules in the Duty that apply to distributors do not therefore apply to EMD agents, PSD agents or e-money distributors. This is consistent with the FCA’s expectation that payments and e-money firms who are manufacturers with PSR agents, EMD agents or e-money distributors will be responsible for ensuring their agents’ and distributors’ compliance with the Duty. As EMD and PSR agents and e-money distributors are not firms, manufacturers are not strictly required to provide these agents and distributors with information regarding their existing open products and services by the end of April 2023.
How does the Duty apply across the distribution chain?
The Duty applies across the distribution chain and will apply to all payments and e-money firms where their activities can determine or have a material influence over retail customer outcomes. The distribution chain may include for example, payment initiation service providers and account providers executing the payments and acquirers to the extent that their activities determine or have a material influence over retail customer outcomes.
A firm working with unregulated entities within the distribution chain, such as payment processors or technical gateway providers, should consider the impact such entities could have on customer outcomes and whether including such entities in the distribution chain leads to too great a risk of poor outcomes. This may be the case, for example, if multiple parties in a distribution chain are adding additional and unnecessary costs that get passed onto consumers.
We are a solely digital firm providing payments or e-money services. Will we be required to provide non-digital support?
The FCA does not expect a firm that provides a digital-only support offering to offer an additional non-digital full-service channel to meet the needs outside of a tech-savvy target market. However, this issue is highlighted by the FCA in its Dear CEO letter noting that payments and e-money firms that provide only digital support should consider various factors to ensure they delivers good customer outcomes. For example:
- be clear to customers that they are signing up for digital-only support if that is the case,
- ensure the limited channel(s) of support offered are effective and enable customers to realise the benefits of their product or service and act in their interests without unreasonable barriers, and
- be able to deal with non-standard issues and in this respect, it is likely that a firm will need a real-time human interface to deal with some of these issues to be able to provide effective support to customers.
Firms that allow customers to apply for payment and e-money products online or solely provide digital offerings should consider whether their application processes and the information provided online is compliant with the Duty. For example, badly designed websites that make it difficult for customers to find key information risk causing consumer harm and therefore may not meet the standards required under the Duty.
The FCA’s finalised guidance FG 22 / 5 for firms provides an example of a payments firm that operates limited channels of support whose customer support function does not work effectively, causing customers to become confused and disengaged. For example, when accounts are frozen, the only way customers can communicate with the firm is through a chat function online. However, questions often go unanswered, or it is unclear whether an issue is being dealt with. Sometimes multiple customer service advisers sequentially enter the same chat and ask the customer the same questions as the previous adviser. The firm also does not have a process to provide adequate support to customers in the event of a digital outage. These are clear examples of what not to do.
We are already required to disclose certain information to customers under the PSRs – does the Duty require us to provide further information?
Payments and e-money firms are expected to continue to disclose the information required under the PSRs. However, to enable and support customers in pursuing their financial objectives and to avoid foreseeable harm, firms need to think more widely about the purpose of their communications in promoting customers’ understanding, and the outcomes they bring about. This may mean providing more information than currently required under the PSRs, considering the form of such communication or layering communications so key information is provided upfront with cross references to further information.
Payments and e-money firms are expected to inform customers that they are not banks and that their funds are protected by safeguarding rather than under the Financial Services Compensation Scheme and to explain the implication of this to customers in the target market in a manner they are likely to understand. This is so the customers can make effective and proper decisions about whether to purchase the product. Payments and e-money firms should review how they currently provide this information and if it can be improved to aid consumer understanding.
The FCA has emphasised the need for all communications to be clear, fair and not misleading. Payments and e-money firms should be wary of using the term “current account” unless they make clear that such an account is not the same as a bank current account.
A firm that provides regulated and unregulated products should also make clear which products are regulated and which are not. For example, if a payments or e-money firm allows clients to transact in both fiat and cryptocurrency, it should be made clear to the consumers that the cryptocurrency activity is not regulated.
What are the FCA’s expectations regarding the price and value outcome?
The focus of the price and value outcome is to ensure that the price a customer pays for a product or service is reasonable compared to the overall benefits. Although the FCA does not set prices, the FCA expects firms to assess whether the product or service provides fair value over the lifecycle of the product, which is more than just price. Unsuitable features can lead to foreseeable harm or frustrate the customer’s use of the product or service.
The FCA expects firms to:
- carry out the assessment using data which the firm already has (such as marketing or profit and loss data) or has gathered to assess the price a customer pays over the life cycle of the product and compare that to the benefits the customer receives,
- consider whether the assessment needs to be by reference to particular types or groups of customers, and whether these different types or groups of customers are getting fair value, and
- look at what is driving the price at a firm and market level, including for example, considering whether behavioural biases could lead to unfairness. As part of this, firms could carry out a benchmarking exercise as to where they sit in the market and if they are an outlier to consider if their fees can be justified, for example due to additional useful features of their products or services.
We are an e-money firm that charges customers transaction, redemption and inactivity fees. Can we continue to charge such fees under the Duty?
When conducting an assessment to consider if a product meets the price and value outcome, an e-money firm will have to compare the benefits a customer receives from the e-money product against the total cost of the product, which includes contingent charges such as transaction fees, redemption fees, inactivity fees, and top up fees.
For example, an e-money firm that charges inactivity fees should consider whether it is deriving fees from customer inertia where a customer may have forgotten to close their account. If that is the case, the FCA expects e-money firms to contact customers proactively to inform them of the upcoming charge and make it easy for the customer to close their account before they incur such charges.
The FCA expects an e-money firm that charges a redemption fee to ensure that the charges are proportionate and commensurate with the charges actually incurred by the firm.
What are the FCA’s expectations regarding strong customer authentication?
The FCA notes in its Dear CEO letter that it expects payments and e-money firms that are subject to the requirements of strong customer authentication to develop solutions that work for all groups of consumers, including customers with protected characteristics. Firms may need to provide several different methods of authentication including methods that do not rely on mobile phones to cater to customers who do not have or want mobile phones or need to make payments in areas without mobile phone reception.
Are we still allowed to freeze a customer’s account under the Duty?
Payments and e-money firms must carefully consider the freezing of individual customer accounts under the cross-cutting rules and consumer support outcome and the processes surrounding freezing. The FCA’s Dear CEO letter notes that in practice, some firms freeze a disproportionate number of accounts, for too long and without adequate explanation. The FCA expects firms to consider how to make the freezing of accounts less frequent, less protracted, better communicated and better supported.
What does the Duty require of senior management who are not currently subject to the Senior Managers and Certification Regime (SM&CR)?
Although payments and e-money firms are not currently subject to SM&CR, the FCA expects payments and e-money firms to ensure that they have senior management oversight and accountability for the Duty, and to ensure that their staff are acting in accordance with the requirements of the Duty.
The FCA’s perimeter report 2020 / 21 notes that extending SM&CR to payments and e-money firms would enhance individual accountability and governance within firms. However, the extension of SM&CR to payments and e-money firms may be affected by the Edinburgh Reforms Call for Evidence regarding SM&CR, and as such we don’t expect any immediate changes.
This publication is a general summary of the law as at the date of publication. It should not replace legal advice tailored to your specific circumstances.
© Farrer & Co LLP, March 2023