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Financial Services and Markets Act 2000 (Regulated Activities) (Amendment) Order 2016

Volume 769: debated on Monday 14 March 2016

Motion to Consider

Moved by

That the Grand Committee do consider the Financial Services and Markets Act 2000 (Regulated Activities) (Amendment) Order 2016.

My Lords, with the permission of the Committee I will henceforth refer to the Financial Services and Markets Act 2000 (Regulated Activities) (Amendment) Order 2016 as “the order”. The order under consideration today makes changes to the respective regulatory frameworks for mortgages and peer-to-peer lending. I will begin by talking about the provisions that relate to the regulatory framework for mortgages before discussing the provisions relating to peer-to-peer lending.

In March 2015, Parliament approved the Mortgage Credit Directive Order, which ensures that the UK implements the EU mortgage credit directive on time and with a limited impact on the UK mortgage market. The Mortgage Credit Directive Order 2015 is due to come into effect on 21 March this year. Since that order was made, the Government have been monitoring the progress of the mortgage industry towards implementation. During the course of this ongoing monitoring, it came to light that there were some areas where the Mortgage Credit Directive Order did not achieve what was intended or where it could be improved on. The Government acted quickly and laid a statutory instrument, which was made in November 2015. This made a small number of amendments to the scope of regulation to ensure that the regulatory framework continued to operate as intended.

The order under consideration makes further changes, which aim to ensure that the legislation delivers on previously agreed policy. This order clarifies the regulatory status of a number of categories of loans entered into before April 2014. Specifically, it clarifies that the regulatory status of these loans depends on their regulatory status under the consumer credit regime, before the transfer of regulatory oversight to the Financial Conduct Authority.

Since the transfer of the consumer credit regime from the Office of Fair Trading to the FCA in 2014, much of industry has assumed that the legislation applied the principle of “once regulated, always regulated” to loans entered into before April 2014. This is a different test from that which is generally applied under the FCA regulatory regime, where regulation is applied to ongoing activities, with the regulatory status of those activities changing over time.

Following engagement with both the industry and the FCA, we have been made aware that there is ambiguity as to which test now applies to some loans entered into before April 2014. This means that there is also ambiguity as to the loans that are to be moved across to the mortgages regime when the mortgage credit directive comes into force on 21 March. This order will remove that ambiguity. Providing clarity as to the regulatory status of these loans will ensure that their holders are able to assess accurately what regulatory permissions they require. Furthermore, it will ensure the continuation of consumer protections, preventing consumers inadvertently losing regulatory protections that they had at the point when they took out a loan.

In 2014, the Government removed English and Scottish housing associations’ new second-charge mortgage lending from the scope of conduct regulation. This order also exempts second-charge mortgage loans made from April 2014 by Northern Irish and Welsh housing associations.

Turning to the peer-to-peer amendments included within this order, it will extend the scope of the regulated activities relating to the operation of peer-to-peer lending platforms and the provision of advice on lending through such platforms. I shall begin by addressing the changes to providing advice on peer-to-peer loans. The Government want to support savers and to increase the choice available to ISA savers. To support this aim, the Government announced at Budget 2014 that loans made through peer-to-peer platforms will become ISA-qualifying investments. From 6 April, repayments of interest and capital made to lenders on new peer-to-peer loans will qualify for tax advantages where those loans are held in a new type of ISA—the innovative finance ISA. The Government anticipate that this could significantly increase the provision of advice to investors on peer-to-peer lending.

This order will align the treatment of advising on peer-to-peer loans with other ISA-qualifying investments by making the provision of advice to lenders on entering into such a loan a regulated activity. The consultation on these changes identified broad, industry-wide support for this change, which will ensure that the FCA is able to make rules so that firms providing advice to investors on peer-to-peer loans act properly and in the best interests of their customers. This will mitigate the risk of unregulated firms setting up and acting improperly in providing advice to consumers.

The order will also extend the scope of peer-to-peer regulation to ensure that all the relevant activities are included within this framework. In particular, it brings the activity of facilitating the transfer of rights under a peer-to-peer loan between lenders on a secondary market within scope of the Article 36H regulated activity. This means that a peer-to-peer loan brought on the secondary market will be subject to the same regulatory framework as new loans originated by peer-to-peer platforms. The order also clarifies the definition of an Article 36H agreement, or peer-to-peer loan, by changing it so that if the peer-to-peer platform is the lender or the borrower on its own platform, the agreement is not a peer-to-peer loan. This will ensure that peer-to- peer lending remains truly peer-to-peer lending. These amendments are an example of the Government’s proportionate and flexible regime in action, providing the space for peer-to-peer platforms to grow and provide competition to the major banks, while maintaining the right level of protection for consumers.

Finally, the order will make a minor amendment to the Small and Medium Sized Business (Finance Platforms) Regulations 2015. These regulations set out the circumstances in which designated banks must refer unsuccessful SMEs that have applied for finance to online platforms, to assist in finding other sources of finance. The amendment clarifies that where a small business is already using a broker to seek finance on its behalf, unsuccessful applications by that broker do not need to be referred to finance platforms. Taken together, the changes made by the statutory instrument under consideration are another important step in ensuring that the UK’s financial system is resilient, competitive and works for the good of the nation. I commend the order to the Committee.

My Lords, it is a pleasure once again to be in Grand Committee responding to a Treasury order so skilfully presented by the noble Lord, Lord Ashton of Hyde. The instrument is composed of three main issues: the first relates to the regulation of peer-to-peer lending; the second to provisions regarding the EU mortgage credit directive; and the third to clarifications surrounding small business finance. We will not be opposing the order today, but there are a number of questions that I would like to put to the Minister. The majority of my comments will be on peer-to-peer lending, particularly in the light of the recent publication of the FCA discussion paper on this issue, as well as the way in which the Government intend to carry out the commitments they made during the consultation process with peer-to-peer lenders and other interested parties.

From next month, the innovative finance ISA will be introduced for certain types of peer-to-peer lending, and advice to lenders entering into peer-to-peer loans will become a regulated activity. This is a welcome move. As the Financial Services Consumer Panel stated:

“It is important that anyone considering saving in a peer-to-peer ISA understands the risks associated with it, and they should be covered by appropriate levels of protection”.

However, there are questions as to whether or not this advice will be in place by April. The Yorkshire Building Society has estimated that more than 400,000 savers are expected to invest in this field. However, there were questions about the readiness of the financial advice sector to advise on the new products.

At the end of February, the Financial Times reported that the UK’s three biggest lending platforms have not yet been granted their status as fully regulated authorities by the Financial Conduct Authority, despite submitting proposals in October 2015. With only a few weeks before the ISA is introduced, will the Minister update us on how many peer-to-peer lenders have been granted authorisation status?

I turn now to the secondary market and the Financial Services Compensation Scheme. In their response to the consultation, the Government stated that:

“Due to the illiquid nature of peer-to-peer loans and the fact that a secondary market for every loan cannot be guaranteed, the government has decided not to require that investors should be able to withdraw any non-cash investments from the Innovative Finance ISA within 30 days. However, this should not preclude platforms that can facilitate withdrawals via their own secondary market from doing so”.

In the light of this decision, Andy Caton, executive director at Yorkshire Building Society, said:

“It is important that those who opt to invest in the new type of P2P Isa realise how different it is from the existing choices and that they will not receive Financial Services Compensation Scheme protection, access to their money could be difficult if required sooner than expected and, in extreme cases, could lose interest and capital”.

The FCA has declared its intention to consider whether the remit of the Financial Services Compensation Scheme should be extended to include peer-to-peer lending in 2016. Given this, will the Minister clarify the Government’s own opinion on covering peer-to-peer investments through the Financial Services Compensation Scheme? Will he clarify when he understands that the FCA will carry out this review and whether the required advice that this order provides will be extended to the secondary market?

Before turning to mortgage lending, I shall address the issue of set-up and ongoing costs in relation to the innovative finance ISA authorisation. The summary of the consultation document sets out clearly that of those respondents who answered question 1 on set-up costs, the majority predicted that they would have costs of £50,000 or more. These costs would include building the necessary technology platforms and legal advice, as well as costs to fund the ongoing operation through additional staffing and platform maintenance. In response, the Government committed that:

“Where available, further details of the potential costs to businesses of including peer-to-peer loans within ISA will be set out in a Tax Information and Impact Note, to be published alongside draft legislation later this year”.

I note that the only costs to which the Explanatory Memorandum refers are in paragraph 10.2. The Government estimate that there will be a one-off set-up cost of £1,500 and a £2,545 annual cost. Can the Minister explain why the Government’s predicted costing and the industry’s differ so significantly?

The second aspect of the order relates to the EU mortgage credit directive and is due to come into force next Monday, 21 March. As the Minister implied, this is the second order relating to this directive, it having originally been discussed on 19 March 2015. The directive provides for minimum regulatory requirements to protect consumers taking out credit agreements relating to residential property. It also imposes maximum standards on member states, particularly the provision of information in a standardised format for consumers.

As I said last year, these are entirely sensible provisions. However, the reason why we are returning to this issue is because, following engagement with those in the industry, there are a number of areas where legislative change is necessary in order to ensure that the objectives of the directive are achieved. The Government have decided to create a transitional period until 21 March 2017 before first charge mortgages that were entered into before 31 October 2004 and are currently regulated as consumer credit agreements must be regulated as mortgages. It is worth quoting the Financial Services Consumer Panel, which said last year that ahead of full implementation,

“there are challenges for firms in managing the shift to the new regime because of the relatively long sales process for mortgages”.

At the time it was made clear that the Government would consider whether further steps were necessary to smooth the process, so it is encouraging to see that they have done just that. With whom have the Government been engaging in order to come to this decision? Were the relevant stakeholders consulted in the drafting of this order?

Turning to buy-to-let mortgages, these are not generally subject to conduct regulations. However, the EU directive will introduce a new category of consumer buy-to-let lending that will be subject to regulation. Customer buy-to-let mortgages, as opposed to those taken out for business reasons, will be defined as loans for a property that is rented out but not,

“wholly or predominantly for the purposes of a business”.

This would be a family member living in the property, or intending to live in it in the future. Will the Minister go into more detail about how regulators intend to make this distinction between the two? What information will they ask of consumers in order to make this judgment, and how many mortgages do the Government anticipate will be impacted by this provision?

The third matter covered by this order relates to small business lending. The effect of this instrument is to exempt applications from referral to business platforms that are made by a broker instead of directly by a business. It would therefore be the responsibility of the broker to provide advice. How confident is the Minister that this advice will be provided, and do the Government expect this measure to have any impact on the ability of SMEs to access finance in general? As I said at the beginning, we will not oppose this order and are conscious of the implementation deadlines. However, I would be grateful if the Minister would address the issues that I have raised.

My Lords, I thank the noble Lord, Lord Tunnicliffe, for his kind words, his questions and for agreeing to support—or, at least, not oppose—this order. He asked a number of very reasonable questions which I will do my best to answer. He asked how many peer-to-peer lending firms had been granted authorisations. The FCA has authorised seven P2P firms to date, so they will be able to offer the innovative finance ISA, should they wish to do so. The FCA is also currently considering a number of applications for authorisations, both from firms that wish to operate peer-to-peer platforms as well as those currently doing so on the basis of interim positions. It is important to stress that the FCA has a responsibility to authorise only those firms that meet its threshold conditions. It is trying to do so as quickly as possible before the implementation date and has increased the number of people working on these applications. However, it is important that the FCA does not lower standards before the implementation date, given that we hope this provision will last for many years. As I say, the relevant figure to date is seven.

The noble Lord asked whether the P2P loans within the ISA would be protected by the Financial Services Compensation Scheme, and asked for our views on that. Peer-to-peer lending is currently not covered by the Financial Services Compensation Scheme. We want the regulatory framework for this new P2P lending to be proportionate, especially when it is young and growing. It would increase regulatory costs if it was included in the scheme, so at the moment it is not currently considered proportionate to do so. However, the FCA is committed to reviewing that framework in 2016, and during that will consider again whether those P2P loans should be within the remit of the FSCS.

There was a question about the cost on the innovative finance ISA of introducing this scheme. The problem is that the relevant figures do not refer to the same costs. The Explanatory Memorandum refers to set-up costs and FCA fees for firms applying for authorisation to undertake the new regulated activity of providing advice, but the consultation estimate refers to firms intending to offer the IF ISA and includes costs such as setting up the IT infrastructure and hiring additional staff who may be required to offer and run the scheme. We expect that firms which incur those extra costs would benefit from doing so but the decision whether to do that is, of course, a commercial decision for them.

The noble Lord asked with whom the Government have been engaging in the lead-up to the implementation date and whether relevant stakeholders were consulted. The changes today—as the noble Lord mentioned, in some cases the second round of changes—are a result of continuing engagement, and one of the benefits of laying the orders well before the implementation date was to allow us to engage with the industry and regulators. In particular, during that time, we have worked closely with the Council of Mortgage Lenders and, obviously, the FCA itself.

There was an issue about how the regulators intend to make the distinction between consumer and business buy to let, and what information they will ask of consumers to make this judgment. It will be for the mortgage lenders and brokers themselves to identify the type of lending they are engaged in. That means that they will need a system in place to collect the relevant information from the borrower. The main implementing order, as I said, has been in place for a year, so they should have had time to put such systems in place. The regulators will, of course, need to be satisfied that those lenders are doing this properly, but they are not intending to prescribe a particular process as part of their proportionate regulation.

I will have to come back to the noble Lord on that in due course, when I have got some advice myself.

On the number of mortgages that the Government anticipate will be impacted by these new provisions for buy-to-let lending, the introduction of the regulatory regime for consumer buy to let will not affect the vast majority of buy-to-let loans because they are predominantly taken out for business purposes. The impact assessment suggests that 11% of buy-to-let loans will be subject to this new regulatory framework. Based on the level of buy-to-let lending in 2015, this would equate to around 28,000 transactions. My advice is that I will have to write—I could have said that myself.

The last question that the noble Lord asked related to the last item that this order introduced in connection with the Small and Medium Sized Business (Finance Platforms) Regulations, which ensures that an unsuccessful application for finance made by brokers on behalf of small business is out of the scope of the regulations. That means that they do not need to be referred to finance platforms. The point here is that the business that is seeking alternative finance—not just from the big lenders—is already using a broker, who is able to advise on alternative sources of finance. The broker fulfils a role analogous to the finance platform and, of course, is incentivised to provide that advice and seek alternative sources of finance. We feel that nothing would be gained by requiring a bank to refer a failed application to the broker, so the Government do not feel that this will impact the amount of advice on alternative finance available, which they have increased by the finance platforms regulations.

I think that I have answered most of the questions, except whether the regulator provides advice, on which I will write to the noble Lord. Based on his helpful comments, I ask the Committee to join me in supporting this statutory instrument today.

Motion agreed.