As reported in The Times on 4th December 2014, the Royal Bank of Scotland (RBS) has been accused by a whistleblower, of trying to minimise compensation for the Interest Rate Hedging Product (IRHP) mis-selling scandal with the aid of the independent reviewer.
A Mis-Selling Scandal – How Is This Possible?
Firstly, let’s understand how the IRHP Review Scheme works.
The Customer (business) is assessed by the bank that sold them the IRHP to be either ‘Sophisticated’ or ‘Unsophisticated’. If assessed to be Unsophisticated, the IRHP the business traded gets put into the Review Scheme (unless the product is a cap and the Customer is required to opt-in). If the Customer is assessed to be Sophisticated, then they fall outside. The banks and independent reviewer are responsible for this assessment using either an ‘objective’ test (based on the size of the company) or a ‘subjective’ test (based on an assessment of financial sophistication of the business owner). I’ll put aside the notion of getting this Sophistication assessment wrong for the time being, but it happens.
The Review Scheme itself, which assesses whether an IRHP has been mis-sold or not, comprises both the bank that sold the IRHP and an independent reviewer (or Skilled Person) appointed by the Financial Conduct Authority (FCA).
That may sound a little odd. The same bank that sold the IRHP is responsible for determining whether that IRHP was mis-sold or not.
The reason for this is that it’s a ‘voluntary scheme’ underpinned by a secret agreement between the banks and the FCA. Under this arrangement, the greater the degree, extent and amount of mis-selling uncovered, the greater the potential compensation bill faced by the bank. Some of you may be able to identify an inherent conflict of interest with this voluntary review framework.
Three Key Requirements
The way the Review Scheme addresses this conflict is to appoint an independent reviewer to oversee the banks’ review of cases. To my mind, an independent reviewer should fulfil three key requirements:
- Be independent from the bank.
- Conduct a review independently from the bank.
- Hold firm to the outcome of their independent review if it differs from the banks outcome.
“Nothing To See, Do Move On” No Transparency.
That way, when a Customer gets a review outcome that they cannot understand, such as ‘not mis-sold’ (when the FSA had previously identified that 92% of IRHPs had been mis-sold) or a proposed replacement IRHP outcome such as a ‘Swap for Swap’ or ‘Collar for Collar’; the bank can conveniently communicate to the Customer that the decision has been overseen by an FCA appointed independent reviewer, or that the independent reviewer is satisfied that the outcome is fair and reasonable. The brick wall has been erected. The independent reviewer rubber stamp applied or as Sir Edward Garnier put it in the recent bank bench debate on the Financial Conduct Authority Redress Scheme “Nothing to see, do move on”. Some might argue that there is actually plenty to see, but you can’t, as there is no transparency in the decision making process between the bank and independent reviewer.
Applying the Pareto principle to this approach, 80% of Customers will just accept the decision put it down to bad luck and misfortune and move on, 20% will challenge. That would potentially save a huge amount of redress payments.
KPMG – Independent Reviewer, “Browbeaten” Into Accepting The Bank’s Outcome?
That’s all fine, but what happens if the independent reviewer isn’t actually as independent as you might think:
- They are not that independent from the bank, but rather have deeply embedded commercial relationships with the bank – on a global scale, oh, and the bank is actually paying them to act as their independent reviewer.
- Their independent review is not actually conducted thoroughly, or that the people conducting the mirror review are not that skilled or experienced with the sales process of derivatives, despite their FCA training.
- They don’t hold firm to their independent outcome, but are “browbeaten” into accepting the banks’ outcome.
The Times article suggests the latter. According to a whistleblower employed by KPMG who had worked on several hundred case reviews, the independent reviewer had been “browbeaten” into accepting RBS’s attempts to reduce settlements.
Ah, but what happens if you suspect that the bank and independent reviewer has got it wrong or that the independent reviewer has in fact been browbeaten by the bank. You are able to challenge their decision right?
In Theory, Yes. According To The FCA:
“The IRHP review scheme has an in-built appeal mechanism. For customers to make an informed decision as to whether to accept a redress offer, banks are required to clearly explain how they have reached their determination, including what facts they have relied on. Redress offer letters set out the basis of banks’ decisions at a relatively high level. In addition, customers will be offered a face to face meeting, during which they can obtain a more detailed explanation, ask questions and, if appropriate, challenge the outcome. The banks and independent reviewers will carefully consider any points raised by customers and, if necessary, will review their decision”.
That may sound all well and good on an FCA website, but what happens in practice when you have the face to face meeting, ask the bank a basic question about how they reached their outcome and the response is a recital of well-drilled script about how the independent reviewer is satisfied that the outcome is fair and reasonable and about how the independent reviewer has considered every document (even the ones they don’t give you) very carefully. Again, the brick wall is erected…
…and what is the independent reviewer doing all this time? Sat silently in the corner, observing. Some of the more active ones may take some notes.
Deloitte Checking KPMG Cases?
So given these issues, how do they get solved?
One potential solution could be to have another firm of independent reviewers checking the decisions, such as another big 4 accountancy firm e.g. Deloitte checking KPMG cases. Better still, a firm with less embedded commercial relationships with the banks.
Another solution could be to open up the black box of the decision making process to the Customer and their advisor so they can understand and potentially accept how the decision has been made. This may negate the need to challenge an outcome.
Thirdly, the scope of the Financial Ombudsman Service could be widened to consider appeals within the Scheme.
No doubt these are serious allegations, which both RBS and KPMG strongly refute, but if there is evidence that this malpractice has been occurring, it would potentially destroy the legitimacy of the Review Scheme and the FCA In-built Appeals Mechanism.
There needs to be a full and transparent investigation into these allegations; maybe it’s time for an independent review of the role of the independent reviewer.