A decade of the FSCS (and there are still growing pains)

As the Financial Services Compensation Scheme celebrates its tenth anniversary, what have been its successes and failings, and what do advisers make of the organisation?

The FSCS may have just marked its tenth anniversary (on 1 December), but it seems few in the world of financial advice are in a celebratory mood.

The organisation took over responsibility for compensation from no fewer than six predecessor bodies, including the Investors Compensation, Deposit Protection and Policyholders Protection schemes, following changes made under the Financial Services and Markets Act 2000.

Since its establishment, the FSCS’s role has been as a fund of last resort; an organisation designed to compensate eligible consumers if an authorised firm is unable to meet claims against it in respect of deposits, contracts of insurance or investment business.

However, with the monumental costs of compensating Keydata customers still fresh in the memory, questions over the role and structure of the FSCS have inevitably surfaced.

Picking up the pieces

Derek Bradley, chief executive of PanaceaIFA, believes the FSCS now exists solely to pay for the regulator’s failings.

“The compensation scheme increasingly has to deal with the failure of firms, not as a result of bad business practice or management, but as a direct consequence of a failure of the FSA to properly regulate or licence products as fit for purpose or distribution.”

The FSCS splits the industry into five broad classes: deposits; general insurance; life and pensions; investment; and home finance. Each regulated business, regardless of class, contributes annually to what the scheme calls its ‘base’ costs.

But companies are also assigned to a sub-class, and businesses failing in a particular sub-class could lead to higher costs for the rest of the companies within it, when compensation costs arise.

The result inevitably means some firms are forced to pay – or at least contribute to – the penalty for others’ failures.

Andrew Merricks, head of investments at Skerritt Consultants, said advisory businesses make the FSCS levy payments “grudgingly”, but accept its existence is essential.

“You need some sort of funding for those who have lost money through no fault of their own, although it would be nice to have fewer claims on it through more robust policing of firms who have let everyone down,” he said.

“However, it is part of the hidden costs that are rarely seen or taken into account when the client, regulator or media look at how much we charge for our services.”

Hope for the future

Despite sharing some of the concerns about the scheme, Robert Forbes, partner at Plutus Wealth Management, is optimistic that improved professionalism and standards in the industry could help to bring compensation costs down.

He said: “I would hope, with higher qualifications and capital adequacy rules, some of the problems which have existed in the past – namely innocent firms paying for others’ mistakes – will vanish.

“The retail distribution review will help to get rid of some of the issues. However, there will always be a call on the FSCS for some disaster or another.”

And, with the FSA set to consult on the funding of the scheme in the New Year, Jason Witcombe, director at Evolve Financial Planning, believes there is an opportunity to bring a fairer system for all parties concerned.

“I don’t know quite how it would be managed, but there’s a lot of merit in a product levy which could be done on a risk-adjusted basis,” he said.