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speech to the Cardiff Faculty of Law

Walter Merricks, Chief Ombudsman

October 2002

The Financial Ombudsman Service is an unusual creature. A creation of statute but founded on a voluntary initiative. An alternative dispute resolution forum optional for applicants, but with a compulsory jurisdiction over bodies complained about. A consumer service yet providing impartial adjudication. An officially created organisation but not dependent on taxpayer's money. An independent body not accountable to ministers. A jurisdiction required by law to be based not on legal rights. An adjunct to financial regulation, yet independent of it. A free service to consumers whose legal rights remain unaffected if they choose, while decisions against financial firms are legally enforceable. A jurisdiction self funding by compulsory levies and fees on the firms complained against. A mission to prevent disputes in addition to merely adjudicating on those that have arisen. A "one-sided" scheme offering an unlevel playing field broadly supported by those playing up hill.

An unusual creature. One that I suggest Parliament would not have dared to create had the groundwork not been laid by a series of voluntary initiatives showing that it can all work. In this talk I will try to flesh out how and why some of these unusual features go to make up what I believe is a successful model offering real value to the general public and to its users. In particular, I will highlight some comparisons with the courts.

The idea of an ombudsman dealing with private sector disputes is relatively new. Last year we celebrated only the twentieth anniversary of the founding of the office of the Insurance Ombudsman, the first of the UK schemes. It was started as a voluntary initiative by three insurance companies who realised that telling a dissatisfied customer, whose complaint they had rejected, to take them to court was hardly a consumer friendly act. So they approached that National Consumer Council with the idea of an independent adjudicator, and the main features of the model were settled in the discussions that followed.

the main feature of the ombudsman model

So what were the main features of the model? The ombudsman must be appointed by a body independent of the industry. Before the ombudsman can entertain a complaint, the firm must have had a reasonable opportunity to consider and resolve the dispute. In other words, the ombudsman is a last not a first resort. Complainants must be retail customers whose dispute is about the service or product that they have bought, not about some legitimate commercial policy the firm has made in positioning itself in the market. There is no fee to pay, no threat of costs awards. The scheme is funded by the industry to maintain and enhance its reputation for fair dealing. The ombudsman can make an award against a firm up to a maximum - in our case £100,000. In determining complaints, he should take into account legal rights and industry codes, but should decide on the basis of what is fair and reasonable in all the circumstances. While the firm complained against is bound by an adverse decision, the complainant's legal rights remain unaffected if his complaint is rejected. The ombudsman's decision is final and there is no appeal.

the model spreads

The model was rapidly copied by the banking and building society sectors and was then made part of the institutional arrangements for regulating investment business. Having started twenty years ago, the model then established has changed remarkably little. Now in the UK apart from the local and central government ombudsmen, there are schemes dealing with disputes about social rented housing, estate agency, legal services, prisoners rights, and police conduct in Northern Ireland. Plans are well advanced for the launch of a scheme for the telecommunications industry. Outside the UK the model has been taken up in other parts of the Commonwealth, in Europe and beyond. There are now Ombudsmen or their equivalents covering insurance or banking in Ireland, Canada, Australia, New Zealand, South Africa, Malaysia, India, Italy, Greece, Finland, Norway, Sweden, Denmark, Belgium, the Netherlands, France, Switzerland and Mexico.

evidence of support

The insurance and banking ombudsmen schemes were voluntary initiatives by their respective industries. Firms complied with ombudsman awards not because they were legally enforceable (that was never put to the test) but because that was a rule of joining the scheme. The government had nothing whatever to do with them, yet the industries continued to pay for them and to support them. Consumer organisations likewise have been enthusiastic and loyal supporters, recognising that the schemes provide real value in terms of consumer protection. And personal finance journalists, normally a cynical and hard-bitten lot, encouraged their audience to use the schemes. Further evidence of the success of ombudsmen is their endorsement by Lord Woolf in his report on access to justice. Indeed, in the field of personal finance claims, the ombudsmen have virtually denuded the civil courts of any substantial volume of litigation. Nowadays, if you see such a case in the courts, you wonder why it hasn't been to the ombudsman - or whether perhaps it already has. One might also speculate on how the courts and the legal aid scheme would have coped, if they had to deal with the volume of business we now handle.

the government legislates

So the Financial Ombudsman Service is simply a natural extension, on a statutory basis, of the schemes already established on a model the industry itself had set up. When the Government was considering unifying the arrangements for regulating financial services, it was not surprising that it decided that there should be a single ombudsman scheme. So the Financial Services and Markets Act 2000 provided for a single scheme - the Financial Ombudsman Service - which replaced six previous schemes: the ombudsmen for banking, building societies, insurance, and three investment schemes. The novelty, if it is considered that, was that the core element of the scheme was to be compulsory for all authorised firms. Our compulsory jurisdiction therefore covers the remit of all the former schemes, and we also have a voluntary jurisdiction that enables us to expand our service to other financial services such as insurance and mortgage broking - and to consumer credit - activities not at present covered by the schemes we replaced. The Act - which came into effect on 1 December 2001 (the date that was often referred to as "N2") - says that the scheme should provide for disputes to be "resolved quickly and with minimum formality by an independent person".

the Financial Ombudsman Service established

In practical terms, we had merged all the existing schemes into a single organisation - in the same way that the FSA itself has done - ahead of our legal empowerment, giving consumers a single point of access from April 2000. We have a single office in South Quay in the docklands area of East London, housing our 500 staff.

Our remit covers activities where the conduct of business is closely regulated by the FSA: investment services, and in the future, mortgage lending; and those where the firm has to be authorised, such as banking or general insurance where business is subject to an industry code and not actively regulated by the FSA; and other activity subject only to industry codes.

Having merged the six schemes two and a half years ago, we can now see the total aggregate of the business. We now receive an average of 1,000 new telephone contacts a day. Together with written enquiries, we receive over 400,000 new enquiries last year. However, only about 10% of these turn into disputes that need to be investigated and adjudicated - we estimate about 50,000 in the current year compared to the 25,000 dealt with by the schemes in 1999/2000. Over half of these will be complaints about personal investments, mainly endowments sold to repay mortgages. Of the 50,000 complaints, we will probably uphold in part or in whole upwards of a third of them - say 16,000. The remainder will receive a full explanation of why we believe their complaint cannot succeed.

delivering value

All this is paid for directly by the financial services industry - in the current year our budget is around £30 million. Quite a large sum for a consumer service, but a trifling proportion of the total overheads of the industry. It is not easy to quantify the benefits in terms of cash. For the 400,000 enquirers we deal with, the information we give them resolves the query and prevents a complaint to the benefit of all concerned. Unless, which I doubt, those 16,000 individuals whose complaints had some justification had pursued their grievance by taking court proceedings (of course some would have done so), the injustices they suffered would have remained unremedied and the industry would have learned nothing. 50,000 people who were rightly or wrongly dissatisfied in a major way with their financial firm would have lost confidence in the industry. This stands as a reasonable justification for requiring all firms to contribute something to the cost of the service, and, as our system does, requiring those firms that generate the most complaints to pay the most.

benefits for the industry

For the industry it has obvious side benefits: the financial contributions to the scheme are probably less than the legal fees it would pay if cases went to court, and there is probably a saving in management time. Our dispute resolution is done privately, we do not name and shame. And there is an excellent answer to any approach from the media about a customer complaint: "Has the person complained to the ombudsman? If not why not?" Human error will always happen in the best of companies, and it will often be easier that redress is determined by someone independent. And every business finds that among its customers are people who become obsessive, or as it is sometimes put, "the balance of their priorities becomes disturbed". Such people will never take "no" for an answer, and it is a relief to pass them to the ombudsman. It is then our task to see whether, beneath the anger and emotion, there is a genuinely valid complaint.

benefits for consumers

For consumers the benefits are more obvious. The person who has a complaint can approach the ombudsman, without fear of having to pay more, or of forfeiting any legal rights - a real "no lose" situation. We are often described as consumer champions, which is not quite how I put it. I see it this way: in investigating a complaint, we work on the customer's behalf in investigating the case, and putting our expertise to work to check facts and files. In this way, we produce a "level playing field" between the customer and the institution. But when it comes to a decision, we are impartial and neutral. If the facts show that the complaint is not valid, we must reject it. But even in doing that, we add value. Our explanation is often accepted by the consumer because it comes from an impartial source, and we are often thanked by customers whose complaints we have turned down. Finally, we can give to those customers who are uncertain whether the treatment that they have received is fair or not, a reassurance that no company itself can give. Because we see the whole of the market, we alone are well placed to say whether a particular transaction was fairly conducted or not.

assessing our impact

I would also claim that our system, although it deals only with a tiny proportion of all the complaints received by financial firms, has an impact way beyond the cases we deal with. Frankly, I suspect that the service given by most firms proceeds on the assumption that the fairness or legality of their actions will not be tested by consumers taking court action against them. Their assumption is that few have the will and even fewer have the means. By contrast, the fact that firms all know that a dissatisfied customer can access the ombudsman free of charge conditions the way they deal with all customers - and certainly with all those who complain. First, because any ombudsman referral will incur a case fee, firms have a financial incentive to devote time and attention to dealing with the concerns of a dissatisfied customer, no matter how little justification there may be in the complaint. And also, knowing how we have dealt with past complaints makes them settle most similar complaints in the same way. We may not have the powers of a regulator, but it is undeniable that in some respects the effect of our rulings may have a similar impact to the rules of a regulator.

accessibility - active dispute prevention

Standing outside the court system we can have a dialogue with the industry, regulators and consumer bodies about our approach to key issues. That is not the sort of debate that the judges can be expected to undertake - or perhaps I should say that the judges do undertake. We can give guidance to the industry and consumers not only about the lessons from past cases, but even about how we are likely to react to events that have not yet happened.

Through our bulletins, reports and monthly editions of our newsletter, "ombudsman news", published in hard copy and distributed widely (including on our website), the Financial Ombudsman Service can give further public guidance. And on a day-to-day basis through our technical advice line (020 7964 1400), we offer firms and professional advisers guidance about the likely approach to situations we have previously encountered.

liaison with regulators

We can also look at how our decisions will interact with those of regulators and of industry players. We can suggest how new regulations ought to be framed or where they might be needed. Our closest link is, of course, with the Financial Services Authority itself, but we also liaise with the Office of Fair Trading, the General Insurance Standards Council, the Banking Code Standards Board and the Mortgage Code Compliance Board as well as the many industry trade associations.

dealing with mass actions

Two years ago, as a result of the dispatch by insurers of re-projection letters to the holders of mortgage endowment policies, we started to receive large numbers of complaints about potential mis-sales. In 2001-2002, the last financial year, we received around 15,000 complaints, a 60% increase on the previous year.

The regulator can use its powers to require firms to review past business - either all sales or particular blocks - and to compensate customers who can be identified as having suffered loss. This, of necessity, means that the regulator has to set out not only those who are liable to be compensated but also a prescription for compensation. This has proved quite a contentious and difficult task, both in the pensions review and in endowment cases. The standards prescribed for compensation on a mass basis may not be those that a court would use in a single case. Courts are never presented with the full range of cases out of a mass series of wrongs. In multi-party actions, the best that solicitors have been able to do is to ask the courts to rule on three or four test issues in a single action. But regulators and ombudsmen are frequently asked to contemplate a large range of issues resulting from a series of wrongs.

Firms can be expected to deal with complaints consistently, and to have a good idea of how the ombudsman would deal with such cases. After an initial consultation, the FSA issued guidance to firms on how complaints about mis-sold mortgage endowments should be handled, drawing largely on the experience we had developed in investigating cases. The most contentious areas are not so much the circumstances of liability for a mis-sale, but the calculation of loss. How do you properly assess the loss that has arisen from the sale of a 25 year product after only seven years have elapsed? What factors must be brought into the calculation and what factors are irrelevant? One issue that had to be litigated before the High Court as a test case - technically in the context of a Pensions Review case, but the issues are similar in endowment cases - was whether demutualisation windfalls received by the complainant during the life of the mis-sold pension or endowment policy should be set against compensation payable or should be seen as independent from it. Another interesting issue is the extent to which it is proper to take account of a complainant's notional "saving" (in terms of lower outgoings) when judged against the position they would have been in if not mis-sold. A similar issue arises in mortgage cases where a lender has incorrectly under-calculated repayments, and the borrower discovers later that the balance of the loan is larger or longer than would have been expected. Last year we consulted publicly on our approach, and subsequently we published our conclusions as a technical briefing note on our website.

Earlier this year, we made a series of decisions concerning the practice of a number of mortgage lenders of introducing more than on more than one "standard" variable mortgage rate. We received complaints from borrowers who had taken special deals offered by the lenders that included rates that were discounted from or linked to the lender's SVR. Then, subsequently, the lenders introduced another variable rate for new borrowers. In our decisions, we had to analyse the basic promise made to the borrowers on special deals. In legal language (although we did not use these terms) we sought to see whether there was a breach of an implied term. There were large implications, as many hundred of thousands of customers had such mortgage deals. The Nationwide Building Society estimated that complying with our decision cost it £90million. Such has been the interest, that we have published the full text of the decisions on our website. Is there any likelihood that these customers would have received a remedy through the traditional legal system? Would any solicitor have dared to fund a no win/no fee challenge?

re-inventing equity

Our "fair and reasonable" jurisdiction has attracted a fair amount of attention. It allows us to look beyond the law, beyond wording of the small print, to take into account the large print in the promotional materials, good industry practice, and, if necessary, adopt a modern and fairer approach where it is clear that the law has lagged behind. This is not dissimilar to the approach of the regulations governing Unfair Terms in Consumer Contracts, except that we can look at core terms of a contract which are specifically excluded from the ambit of the regulations.

Two simple examples. Some time ago the insurance ombudsman adopted the continental doctrine of proportionality to deal with cases where the consequence of policy cancellation following a minor non-disclosure would be unduly harsh - a proposal made by the Law Commission but never adopted in English law. Where, therefore, a policyholder has, without fraudulent intent, failed to inform an insurer of a fact that would have increased his premium, the result that we apply (but the courts would not) is that his claim should not be rejected entirely, but be paid subject to a reduction proportionate to the premium he should have paid. In the credit card area, where a cardholder disputes a transaction with a merchant, it is good practice for the card issuer, when notified of the dispute, to process these as chargebacks, even though there may be no contractual right to a chargeback.

remedies

As far as remedies are concerned, we also look at the question of payments for distress and inconvenience on a broader basis than the courts can. The law, as one judge put it (Bingham LJ in Watts v Morrow [1991] 4 All ER 937), is that: "a contract-breaker is not in general liable for any distress, frustration, anxiety, displeasure, vexation, tension or aggravation which his breach of contract has caused." He, of course, did add that this general rule did not apply to certain contracts where the object is to provide pleasure, relaxation or peace of mind. I have always wondered whether insurance and investment contracts come into this latter category, since the much of the marketing suggests that the aim is to give the buyer reassurance and peace of mind. In any event, whatever the state of the law the courts would apply, the ombudsman certainly does regard it as important that financial service providers who cause people distress or inconvenience, on top of any financial loss they have incurred, should compensate them for it. Most reputable firms offer it, and we routinely make them provide it.

We do not hesitate to require firms to take steps that courts might not have the powers to order. We often make them continue to offer insurance to parties where they have unfairly stopped their policies. Where they have wrongly put a complainant into debt and affected their credit rating, we require them to take steps to repair it. But we do not stray into the territory of a regulator by requiring firms to take action to give redress to parties who have not complained.

what will the judges say?

What the courts themselves may make of all this will be interesting. We are certainly a public body, and are exposed to actions for judicial review. There has been much comment about the circumstances in which we will be required (following the Human Rights Act) to offer parties a "fair and public hearing". A rather gloomy prediction of how the courts might view us has recently been made by an academic commentator, Richard Nobles ("Keeping ombudsmen in their place" [2001] Public Law 308). He suggests that the judges are jealous of, or even hostile to, rival dispute mechanisms, particularly ones that seek to exercise powers denied to them. "The central issue" he says, "is whether it is appropriate for an official who is not a regulator to decide complaints against private parties by reference to standards and remedies that differ from those available in the courts. The resounding answer provided by the courts themselves is no". I hope this is too depressing a conclusion and that the judges would appreciate that the benefits of operating as alternative dispute resolvers should not be abandoned by straight-jacketing us into a court or tribunal model.

conclusions

Our "jurisprudence" has developed avoiding some of the constraints of a common law, precedent-based system. We have been able to approach the dispute resolution task in a way that, interestingly, tackles some of the criticisms often levelled at the courts and the judges.

In particular:

  • We can talk freely to the outside world, discussing possible approaches to decisions.
  • Not being bound by precedent, we can consult on changes and then enact them from a given date.
  • Unlike courts who refuse to consider hypothetical questions, we can consider situations that have not yet arisen but look likely to do so.
  • We intervene actively to reduce or prevent disputes arising.
  • We give feedback, on the lessons we see, to the industry as a whole and to the world at large.
  • We do not rely on court reporters to spread important messages.
  • The access that consumers have, to pursue at no risk complaints involving sums which no one would go to court about - but where large numbers of customers are involved - may ensure that injustices that would otherwise go unremedied are fairly resolved - and that financial firms are not able unjustly to enrich themselves at the expense of powerless customers.
  • The ability of customers to access the ombudsman scheme freely helps to condition firms to act more effectively in accordance with our prescriptions than, I would assert, the access to the courts and knowledge of the state of the law.

Finally, the ombudsman model operating outside the court system has received widespread support, from the financial industry, consumers and external commentators.

As a result of pioneering, funding and managing voluntary initiatives, the financial services industry has, and I hope will maintain, a sense of pride in, even "ownership" of, the model it fathered - a model that has gone from brave bi-partisan experiment to Parliamentary endorsement in under twenty years.

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