Does the National Payments Vision mean a rethink on safeguarding?

December 11, 2024

by Omar Salem, Partner, Fox Williams LLP

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What is this article about?

The FCA’s proposed safeguarding reforms in light of the UK’s National Payments Vision and associated challenges.

Why is it important?

It highlights the need for a strategic, proportionate approach to safeguarding that aligns with broader regulatory and consumer protection goals.

What’s next?

The FCA and HM Treasury must reflect on the National Payments Vision to refine safeguarding reforms, ensuring customer benefits at a reasonable cost.

The FCA’s consultation on its proposed changes to the safeguarding regime will be closing shortly. Midway through the consultation process, the National Payments Vision was published, and new remit letters, with a focus on growth and competitiveness, were issued by the Chancellor to the FCA and PSR. The FCA has said it is reconsidering its approach to policy in light of these.

In relation to safeguarding, the FCA is rightly concerned that for firms that became insolvent between Q1 2018 and Q2 2023, there was an average shortfall of 65% in funds owed to clients (i.e. the difference between funds owed and funds safeguarded). Many of the FCA’s proposals are sensible codifications or strengthening of the existing regime, especially those planned for the “interim state”. However, some “end state” requirements would impose significant costs with unclear benefits. The cost-benefit analysis conducted by the FCA also has several questionable assumptions.

Key areas of concern

There are at least three major areas where there should be food for thought for the FCA and, in fact, HM Treasury, reflecting on the messages from the National Payments Vision and the government’s commitment to supporting growth.

Strategic direction and safeguarding oversight

Firstly, the National Payments Vision re-endorsed the findings of the Garner review that the UK is at risk of falling behind international peers with payments in part due to a lack of overall strategic direction.

Unfortunately, HM Treasury has provided limited strategic leadership on the issue of safeguarding. In January 2023, HM Treasury issued the Payment Services Regulations: Review and Call for Evidence. In the review, HM Treasury indicated that the detailed requirements in the PSRs and EMRs could be transferred to the FCA rulebook, which is in line with the Future Regulatory Framework, and that this could be particularly beneficial concerning safeguarding. The government invited the FCA to consult on the safeguarding regime in 2023. If the outcome of the HM Treasury PSR Review has not been published, the FCA will now consult on its safeguarding proposals without knowing what framework they will operate in.

The HM Treasury PSRs Review also stated that there would be an independent review of the Payment and Electronic Money Institution Insolvency Regulations (PESAR) within two years of these coming into force. The PESAR came into force in July 2021, so the review is now over a year past being due. The FCA says that the PESAR is “intended to reduce loss in client funds through lower IP costs and speed up the distribution of funds to clients” but that “it does not affect safeguarding practices prior to insolvency”. Nonetheless, in practice, the interaction of segregation requirements and insolvency law is often a key focus of insolvencies. It has been subject to significant consideration by the courts, including by the Supreme Court in relation to the insolvency of Lehman Brothers International (Europe). It is, therefore, critical that segregation rules are designed to complement insolvency law, such as PESAR, and it is not currently clear how this will be ensured for the FCA’s proposals without the active engagement of HM Treasury.

Adequacy of consumer protections

A second area where there should be pause for thought is whether the FCA even considers that its proposals offer the best customer protection. The Electronic Money, Payment Card Interchange Fee and Payment Services (Amendment) Regulations 2023 amended the Electronic Money Regulations and the Payment Services Regulations so that FCA rules may make provisions that result in funds being held by a safeguarding institution on trust. The FCA now says in its consultation paper that “imposing a statutory trust is the only way to ensure adequate consumer protection under our current powers”. That then raises the question of whether there are other powers that HM Treasury could give to the FCA that would (in the FCA’s view) lead to better protections for customers.

The FCA says that its rules will help speed up and reduce the cost of distributions on insolvencies and delays in receiving relevant funds. In contrast, the insolvency progresses “will have the most severe impact on financially vulnerable consumers, who may need to borrow money and go into debt if they cannot access their funds for an extended period”. However, the FCA’s cost-benefit analysis assumes that its proposals will reduce the average time to first distribution from 2.3 years to a central estimate of 1.3 years, which is still a long period compared with the FSCS, which pays out within 7 working days.

Operational costs and feasibility

Thirdly, the FCA’s proposals to require direct payment of funds into designated safeguarding accounts (rather than allowing them until the end of the day after they are received) are likely to place significant costs on firms and require major changes to payment flows and business models. The FCA needs to be sure and demonstrate that these changes are necessary before proceeding with them.

Reflecting on the National Payments Vision

The FCA’s safeguarding review and HM Treasury’s PSR review predated the National Payments Vision. The publication of the National Payments Vision is an opportunity for the FCA and HM Treasury to reflect on their approach to safeguarding and whether all of the FCA’s proposals will result in the best outcomes for customers at a proportionate cost. There is plenty to think about.