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PCP mis-selling findings remain a risk in light of FCA report

ANALYSIS: There remains a risk that car dealerships and finance companies will be caught up in a mis-selling scandal around the sale of 'personal contract purchases' (PCPs) to vehicle buyers following the publication of a report by the UK's Financial Conduct Authority (FCA).05 Apr 2018

The FCA is conducting a review of the motor finance market after it previously raised concerns about transparency, potential conflicts of interest and irresponsible lending.

PCPs have seen huge growth in popularity among consumers exploring financing options for paying for vehicles and are within the scope of the regulator's review. However, there has been some concern in the market about the sale and structure of PCP contracts, particularly in terms of customer transparency and understanding of the contracts and lenders' prudential exposure to them.

The FCA previously said that it wants to "identify who uses these products and assess the sales processes, whether the products cause harm and the due diligence that firms undertake before providing motor finance".

On 15 March the FCA published an interim update on its review (16-page / 352KB PDF), which is due to be completed in September this year. The regulator identified particular areas of concern which it said it would focus its attention on during the remainder of the review.

One of the FCA's concerns relates to certain commission structures used in the market. Its interim report said that some commission arrangements can provide incentives for brokers to arrange finance at higher interest rates for their customers, particularly the Interest Rate Upward Adjustment and Interest Rate Downward Adjustment mechanisms, under which the dealer commission increases with the interest rate that the consumer is charged. The FCA said it is planning to look at how these risks are controlled and how relevant regulatory requirements are complied with.

The report also detailed the results of a review of information provided by dealers and lenders the FCA has undertaken. The regulator said that it found businesses to be acting broadly in line with regulatory requirements, but flagged some deficiencies. The FCA said it would carry out a further mystery shopper exercise to see how firms are complying with current regulatory requirements and whether consumers are being given the right kind of information at the right times.

In its report, the FCA noted that most of the growth in motor finance has been to consumers with better credit ratings, who are less likely to face repayment difficulties. Lending to customers with the lowest credit rates only accounts for around 3% of overall lending, it said. Arrears and default rates remain generally low, though they have increased moderately in recent years and the FCA said it is focusing on how lenders assess affordability and whether current procedures are working in the interests of consumers.

The FCA also said that the largest lenders are adequately managing the risk of a severe fall in prices for used cars, but that firms should regularly consider relevant changes in their market assumptions of residual car values and their financial soundness. This conclusion mirrors the views reached by the Prudential Regulation Authority (PRA) on its examination of lenders' risk exposure in 2017.

The report's conclusions are largely positive. However, the risk of the FCA identifying the potential for mis-selling and other regulatory breaches by dealers and finance companies in relation to PCP contracts remains. Firms who market and distribute PCP products should consider examining their historic sales practice and product structuring in order to ensure that they are fully apprised of their own potential exposure.

Colin Read is an expert in insurance law and regulation at Pinsent Masons, the law firm behind Out-Law.com.