The Future Lawyer Weekly Briefing – W/C 13th February 2023

THE  FINANCIAL CONDUCT AUTHORITY’S PROPOSED CONSUMER DUTY

Briefing by Aqua Koroma

As part of its 2022-2025 strategy and following consultations in May 2021 and December 2021, on 27^th July 2022, the Financial Conduct Authority (FCA) instituted an overarching set of rules known as the Consumer Duty and its corresponding guidance.

Described as a fundamental shift in financial regulation, the Consumer Duty sets ‘higher and clearer standards of consumer protection across financial services and require firms to act to deliver good outcomes for customers’.

This translates as enhanced protection measures for customers that firms must assent to, enabling the FCA to identify harmful practices and quickly intervene to prevent such malpractices from becoming standard practices.

Reasons for enactment

Currently on its third and final consultation, the phased enactment of the Consumer Duty and its guidance will occur on 31^st July 2022 and, secondly, with full effect on 31^st July 2024.

Phase 1 applies to new and existing products and services, whilst phase 2 will apply to all closed products and services. In effect, the Consumer Duty will apply to ‘firms selling or involved in the manufacture or supply of regulated products to retail clients’.

The current duty of care standard, the Treating Customers Fairly (TCF) standards, is primarily an extension of the FCA’s Principle 6, which is that ‘a firm must pay due regard to the interests of its customers and treat them fairly’. However, the FCA’s other Principles lend some applicability to the TCF standards.

However, the FCA reasoned that although the TCF standards held firms to an adequate duty of care, there was room for improvement, hence its introduction of the overarching Consumer Duty.

Opposition

A trio of Liberal Democrats, Claire Tyler, Susan Kramer and John Sharkey, recently attempted to replace the Consumer Duty instead with a duty of care owed to customers, with John Sharkey stating that he ‘believes the consumer duty rules are deeply flawed and would not drive change of culture in firms’.

Claire Tyler stated that Consumer Duty proposals offer little more protection than already embodied by the TCF principles and that the Consumer Duty proposals do not redress the imbalance of power between financial service providers and vulnerable customers.

Also, some consultation respondents have stated that more vigorous enforcement of the current TCF principles and accompanying regulations are all that is required to achieve the aims of the proposed Consumer Duty.

It is unknown how significant the Consumer Duty undertaking will be for firms, and there appears to be some concern that its implementation may be rushed.

Its impact

Although firms were previously held to high standards of care by the FCA and its Principles, Consumer Duty further elevates those standards and the levels of statutory compliance and accountability whilst promoting healthy competition between firms.

Additionally, the Consumer Duty is designed to work in conjunction with the FCA’s Principles and its various other rule books in affirming the FCA’s expected standards of regulated firms. Therefore, firms must continue to adhere to, as opposed to disregarding, previous rules.

The FCA deduces that higher expectations would ensure customers, in their pursuits of good outcomes, are successful, a principle especially applicable to vulnerable customers. In providing good customer outcomes, firms must consider particular factors such as the risks, benefits, costs, and transparency of their products and services and the mode of communication suitable for each customer.

The FCA has set interim timetables for implementing the Consumer Duty. Whilst larger firms may face little or no obstacles in implementing the Consumer Duty, smaller firms may lack the resources required to integrate fully and thus restrict access to some of their products and services. Such restrictions will mean a reduction in profit margins. However, firms must ensure not to fall foul of these timetables or risk reputational damage,  client turnover or fines from the FCA.

In terms of customers, the Consumer Duty places them central to a firm’s business. Customers will be better informed, thus, better placed to decide which products and services are best suited to their needs, with this new ethos further enhanced for vulnerable customers.

Early indications are that the Consumer Duty will revolutionise financial regulation. However, at this juncture, it is difficult to tell just how successful the Consumer Duty will be in providing better standards of care for customers and holding firms to higher accounts whilst ensuring firms remain profitable.

Only time and, perhaps, some fine-tuning will tell.

ABOLISHING LEASEHOLDS

Briefing by Aqua Koroma

Owning the leasehold to property means ownership of the building for a fixed period but not the land it is built on. A leasehold can run from 99 years to 999 years. The property reverts to the freeholder upon expiration or non-extension of the lease terms.

Owing a leasehold, among other things, means subjugation to obligations and restrictions, payments of premium charges should leaseholders wish to extend leases, plus the additional expenses of service charges subject to sometimes unfounded increases. In addition, annual ground rent payment must also be given consideration, with such costs subject to variable price increases.

Such financial considerations have substantially contributed to a decline in home and, in particular, lease ownership.

The proposed reforms

The leasehold model has become the most available form of homeownership with newly built homes. With leasehold ownership comes high costs, such as the prices payable for lease extensions and property management, forcing owners out of the property market.

The Conservative government on 21^st December 2017, according to commonslibrary.parlliament.co.uk, ‘announced plans to tackle the growing problem of newly built houses sold as leasehold rather than freehold’, further supported by the Law Commission’s 13^th Programme of Law Reform’s ‘aim of finding ways to make buying a freehold or extending a lease easier, faster, fairer and cheaper’.

The proposed bipartite reforms are;

• The Leasehold Reform (Ground Rent) Act 2022 (LRGRA 2022) enacted on 30^th June 2022. This Act, currently applicable to residential properties only, extirpates ground rent fees payable to freeholders by leaseholders. It applies to lease agreements from 1^st April 2023 onwards, although there are plans to reform preceding lease agreements.
• The enactment of future legislation to, among other things, reform enfranchisement valuation (the valuation principles utilised in establishing the final acquisition price of a freehold property), eliminate marriage value (the increase in the value of a leasehold property following a lease extension which is often reflected in lease extension negotiations) and enable long term leaseholders to buy out ground rent without the need for a lease extension.

Not that there are no advantages to owning a leasehold property; purchasing a leasehold is less costly, and the freeholder is responsible for the structural or building maintenance of the leasehold property and the arrangement of building insurance. However, the disadvantages seemingly outweigh the positives.

The dream of owning a home, whether leasehold or freehold, was and still is increasingly out of the public’s grasp.

The reasons for the proposed reforms

Homeownership steadily declined from 70.9% in 2003 to 63.9% in 2018, with a comparatively slight peak of 65% by the end of 2022. High rental fees and house prices have been the primary reason for younger skilled workers not settling in some parts of the country, with statista.com placing home ownership amongst 25 to 34-year-olds at 11.2%, compared to 15.4% for 35 to 44-year-olds and 18.4% for 45 to 54-year-olds in 2021.

Homeownership is essential to the national GDP as it is a crucial driver for additional products and services dependent on the housing market, such as renovations, insurance, removals, estate agent and legal fees, property surveying, the purchase of building materials and employment of labour.

Furthermore, homeowners are generally ‘wealthier’ and thus tend to spend more on local goods and services, helping push and sustain regional economic growth and consequently contributing to a more robust national GDP.

The effect of low settlement rates is cyclical; some geographic locations may remain deprived or plunge into deprivation due to slower or no economic growth. Low or no economic growth equals lower wages and less consumer spending, meaning fewer people will seek mortgages due to unaffordability.

The proposed plans, made evident through the multiple consultations, are essential as they aim to increase homeownership, whether leaseholds or freeholds, thus stimulating economic growth.

Impact on the legal sector

Property lawyers will, if not already so, inevitably experience an increase in the number of enquiries from leaseholders and freeholders alike.

Residential freeholders will likely consider discharging or refraining from extending leases and reconsider plans to build new leasehold properties, as it is no longer permissible to charge ground rent. Property lawyers must advise their freehold clients on ways to maintain and increase business profitability whilst refraining from utilising surcharges relatable to ground rent owing to the risks of heavy fines.

Leaseholders face the threat of increased premiums by freeholders to mitigate the loss of income from ground rent. Additionally, a leaseholder may require the advice of property lawyers on negotiating or renegotiating financially viable lease terms retrospectively or upon renewal. Leaseholders may also need advice on selling or withdrawing from their current leasehold interests or sourcing pre-1^st April 2023 properties owing to financial viability.

Additionally, property lawyers may find they increase their commercial property client base. The ground rent ban does not apply to commercial freeholders. As such, residential property developers may increasingly veer towards purchasing and developing more commercial properties, or it may transpire that property lawyers experience an increase in the number of freeholders wanting to change their property portfolio from residential to commercial, processes which will require specialist legal expertise.

Notwithstanding impending obstacles, freeholders, leaseholders and the property law sector look set to benefit from these reforms financially.

However, this may not be so proceeding enactment of further planned legislation which may tip the scales in favour of leaseholders and property lawyers only.