A Full Judicial Review – Mis-Sold Interest Rate Hedging Products

Daniel Hall

A full judicial review – Mis-sold Interest Rate Hedging Products Last Friday, the long awaited hearing occurred in the Royal Courts relating to a judicial review of the Financial Conduct Authority (FCA) Interest Rate Hedging Product (IRHP) Review Scheme. The result of which could lead to an overhaul of the entire scheme. Hope still remains for those businesses that have had a disappointing outcome in the Review Scheme.

An Independent Review Of The Independent Reviewer – The Unravelling Process Begins

Back in December 2014, I wrote a blog calling for an independent review of the Independent Reviewer. After last Friday, it looks like that is one (big) step closer to happening. So why is this?

The applicant, Holmcroft Properties, applied for a judicial review to consider whether KPMG, acting in its capacity as a Skilled Person (Independent Reviewer), could be considered a ‘public body’ – and therefore be subject to a full judicial review. Mr Justice Parker ruled that “this was a matter of very considerable public interest” and allowed the application to stand.

Let’s Just Rewind A Little First.

In 2012, the FCA set up the Review Scheme to review the widespread mis-selling of IRHPs that had occurred to UK SMEs from 2001-2012. The review scheme was designed so that the same bank that potentially mis-sold the IRHP was responsible for determining if, in fact, the IRHP had been mis-sold. There may be a blatant conflict of interest with this design, so to address this; each decision by the bank was (supposedly) checked by a Skilled Person (SP). If there was disagreement between the bank and the SP, they would discuss and debate until they came to an agreement. The SPs tended to be the big accounting firms; KPMG, Deloitte, E&Y, but also some law firms such as Berwin Leighton or Macfarlane’s.

On paper this arrangement sounds almost acceptable, especially when the banks are required to review tens of thousands of mis-selling cases over a short period of time. However, in practice, you can see the potential flaws, namely:

  • The bank pays for the SP to review their own IRHP cases
  • The SP might be acting as auditor/lawyer to the bank
  • The SP might have a variety of consulting projects with the bank
  • The SP might have other commercial relationships with the bank
  • The SP might actually not be that ‘skilled’ at all in reviewing cases relating to the mis-selling of derivatives
  • The SP may be ‘browbeaten’ by the bank when there is disagreement over an outcome – especially when the notional amount of the IRHP exceeds £750,000, or where there is a significant break cost
  • The SP may be side-lined and not actually included in some the review cases, without knowledge

In short, the process is potentially open to conflict and abuse. Much of this was previously reported by The Times by a KPMG whistleblower.

The Court Disagreed – KPMG Had A Public Duty To Act Fairly

Had Barclays, KPMG, and the FCA got their way, this would have all been contained as all three challenged the application insisting that the arrangement between the bank and the SP was a matter of contract, with no wide public duty to act fairly. The Court disagreed, in fact stated that KPMG had a public duty “woven into the fabric” of its role in the review process.

When you also add to the mix recent comments from the Treasury Select Committee in their report on “Conduct and competition in SME lending” where they spend 8 ½ pages discussing “Criticisms of the FCA IRHP review”, including matters such as ‘possible conflicts of interest…complainant access to the independent reviewer…transparency of the voluntary agreement’…you can see things are beginning to unravel.

Despite best efforts, the cat is most definitely out of the bag. So what does this mean for businesses that have been sold an IRHP? It is early days and we are probably some time away from the full review hearing. The review will need to collate and consider potentially millions of documents, so this will undoubtedly take time, but the key thing for now is that application for judicial review has been granted. That’s a very big deal in itself.

As a business, I am guessing you will fall into one of two ca mps; either The Happy Camp or The Disgruntled Camp. There seem to be few inhabitants of The Happy Camp right now, see summary below.

A Summary Of Outcome Sentiment Of The FCA IRHP Review Process

The Happy Camp

You will most likely be happy if….

  • You had your IRHP sale reviewed resulting in full basic redress (Full Tear Up) and payment of full Consequential Loss claim
  • You had your IRHP sale reviewed resulting in full basic redress (Full Tear Up) and no Consequential Loss claim identified and pursued

The Disgruntled Camp

You will most likely be disgruntled if…

  • You have been deemed to be Sophisticated, so there is no review of the IRHP sale
  • You have been offered an alternative IRHP as part of your basic redress package
  • Your Consequential Loss claim has been rejected or minimal amounts agreed
  • The review has determined that you were mis-sold, but would have taken the same IRHP in any event
  • The review has determined that you were not mis-sold.

….And A Halfway House

  • You have been offered an alternative IRHP in the form of a Cap, and you had a legitimate Condition of Lending (even then, you still might not be that happy)

The consequence of the judicial review could see a migration of businesses from the Disgruntled Camp into the Happy Camp as it could well open the floodgates for all those businesses that were unhappy with their current compensation package. As more business move into the Happy Camp, the £1.8billion that the banking industry has paid out so far could balloon. That’s exactly what the banks will be trying their best to avoid.

Other Issues For Businesses To Consider

Now that an application for a judicial review has been allowed, to my mind, this development in itself throws up at least three, fairly fundamental, questions:

  • 1. Does a ‘full and final’ acceptance of a banks’ offer in the FCA Review Scheme, when the scheme itself is subject to a judicial review, still hold good?
  • 2. Can banks still reasonably insist that businesses accept an offer of redress within 28 days or submit their Consequential Loss claim within 28 days?
  • 3. Can the FCA formally close the Review Scheme whilst the scheme is subject to a judicial review? I would not underestimate the significance of this latest development.

It will be welcome news for thousands of disgruntled businesses and the Skilled Person will finally be held accountable for their actions, inaction and decisions.

The unravelling process has properly begun. With a general election also just days away; expect many more twists and turns on this rollercoaster.

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