PS22/9 announced a new duty to notify the FCA of breaches, or suspected breaches, of the Consumer Duty within its distribution chain. The FCA also provided a reminder of a firm's own PRIN 11 requirements as part of this Policy Statement.
We consider these points below and the likely practical effects, including where firms may have some difficulty in deciphering the FCA's expectations. We also discuss the implications of the requirement on distributors to notify others in the distribution chain in specified circumstances where they identify an issue.
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Duty to Notify
The relevant additions to the Handbook Rules are:
"Obligation to notify the FCA
2A.9.16 G Firms are reminded of their obligations under Principle 11 to inform the FCA of anything relating to the firm of which the FCA would reasonably expect notice.
2A.9.17 R A firm in a distribution chain must notify the FCA if it becomes aware that any other firm in that distribution chain is not or may not be complying with Principle 12 or PRIN 2A."
On this, PS 22/9 (see paragraphs 2.16 to 2.18 plus the FCA response) states:
"We have introduced a rule requiring firms to notify us if they become aware that another firm in the distribution chain is not complying with the Duty. We have also introduced a rule requiring a firm to notify other firms in the distribution chain if it thinks they have caused, or contributed to, harm to retail customers".
For something which feels significant, we would have expected the duty to notify to have been included as part of the consultation. The obligation on distributors in relation to the distribution chain was included, albeit worded differently. Perhaps it is obvious in most scenarios, but it is noteworthy that the phrase 'distribution chain' is not defined.
We have had firms ask what the duty to notify means in practice. The first thing to note is the difference in the threshold of when the duty to notify is required in the rule compared to PS22/9. As set out above, PS22/9 says the duty comes into effect if a firm "become[s] aware that another firm in the distribution chain is not complying with the Duty". This would require actual knowledge/awareness of a breach. However, the rule at PRIN 2A.9.17 R states that a firm must notify "if it becomes aware that any other firm in that distribution chain is not or may not be complying with Principle 12 or PRIN 2A". Inclusion of the phrase "or may not be complying with" imposes a lower threshold for notification to the FCA than awareness that a firm is "not complying with the Duty" as set out in PS22/9. The duty to notify, as drafted, could be said to apply where there is a reasonable suspicion of a breach, which is a low bar. Firms will want to consider when this duty applies and also how they will ensure their systems and controls identify potential concerns so that they are raised with the FCA when required.
Further, the rules seem to impose different standards for when notification is due by different parties. Firms within the distribution chain will need to ask themselves whether they need to notify the FCA of a particular issue under PRIN 2A.9.17 R, even if the firm responsible for the potential issue has (rightly) not made any such notification under Principle 11. This leaves firms with some difficulty in knowing what stance to take. Unless, or until, the FCA provides clarity on this point, firms should take a cautious approach using the wording in the rule to guide them on when to notify the FCA in circumstances where they are aware that a firm in the distribution chain "may not be complying with Principle 12 or PRIN 2A". This discrepancy highlights why such rules should have been introduced at an earlier stage in the consultation so that firms could comment on them.
Additional questions also arise such as when further information will need to be requested from the relevant firm before notifying the FCA. Further information from the other firm may allay the potential Consumer Duty concerns, but is it acceptable to wait to receive the requested information before notifying the FCA? Going a step further, does this create a quasi-duty to investigate, or will firms simply cc (or even bcc) the FCA into emails raising potential concerns? The FCA's expectations around this currently remain unclear, and firms will need to take a reasonable and proportionate approach, ensuring that the reasons for decisions to notify (or not) are accurately documented.
It is also noticeable that the breadth of PRIN 2A.9.17 R is not limited to issues within the distribution chain, rather its scope extends to all potential non-compliance with Principle 12 / PRIN 2A. It may be unlikely that a firm will identify failings outside of issues relevant to its distribution chain but, if it does, the rule still appears to bite.
We've heard firms question whether or not this rule requires firms to notify the FCA if, as part of due diligence undertaken for a merger or acquisition, for example, they become aware of a Consumer Duty issue relating to a third party firm. Unless that firm is within the distribution chain already, this rule does not, in our view, extend to that scenario. If, by chance, the firm is in the distribution chain, notification to the FCA will need to be considered.
In addition, there are requirements on distributors to regularly review their distribution arrangements (PRIN 2A.3.19). Should the distributor identify an "issue following a review" (PRIN 2A.3.20) it must:
- "make appropriate amendments to the product distribution arrangement;
- where harm has been identified, take appropriate action to mitigate the situation and prevent further harm; and
- promptly inform all relevant persons in the distribution chain about any action taken".
On this point, PS22/9 states "We have also introduced a rule requiring a firm to notify other firms in the distribution chain if it thinks they have caused, or contributed to, harm to retail customers". There are likely to be a number of minor points which could be caught by this disclosure requirement (as the requirement relates to an issue rather than only cases where harm has been caused). Issues notifiable to other firms in the distribution chain could, therefore, include those that firms would (rightly) not ordinarily communicate to the FCA under PRIN 11 (despite the FCA's reminder at PRIN 2A.9.16 as set out above) as it is not sufficiently serious for the FCA to "reasonably expect notice".
It is also noticeable that PS 22/9 referenced where a firm "thinks" it has caused or contributed to harm to retail customers. The rule at PRIN 2A.3.20 is narrower as it says "where harm has been identified". This is only a minor difference, but adds to the potential uncertainty as to how firms should comply with the new duty to notify.
Presumably, there will be instances where firms disagree on the appropriate outcome. There is inevitably a risk that the FCA will receive significant numbers of reports about fairly insignificant issues. One of our concerns is that the duty to notify could turn into an unedifying spectacle in which firms and senior managers are stuck between a rock and a hard place taking a cautious approach, thereby notifying the FCA of any concerns no matter how minor. This could create tension throughout the distribution chain and also provide the FCA with fairly useless information. Similarly, firms could confuse commercial and operational matters with Consumer Duty concerns and draw the FCA into the kind of disagreements between firms that the FCA has always sought to avoid
The key for firms caught by one or both of these rules will be to ensure that that they understand their respective obligations, have a constructive dialogue (where possible), consider the relevant duties and carefully document decisions regarding whether or not to notify the FCA or others in their distribution chain (as applicable). When speaking to FCA representatives, they didn't think this represented a substantial change, suggesting the FCA is expecting notification of only the more serious Consumer Duty breaches. We will need to wait and see how extensive the notifications are in practice, and whether the FCA expresses any formal views on the materiality threshold for the rules to bite.
If you have any questions of how the duty to notify affects your business, or any other Consumer Duty query, please contact either of the authors.