Select Committee on Treasury Minutes of Evidence

Memorandum submitted by the Financial Services Authority

  In the light of the Committee's continuing interest in split capital investment trusts, and in response to their letter of 26 September,[3] this note:

    —  outlines the investigations which the FSA has now begun into various aspects of firms' conduct in this sector;

    —  summarises possible redress arising from FSA enforcement action;

    —  describes other work in hand; and

    —  describes the arrangements operated by the Financial Ombudsman into handling complaints by investors in splits.


  1.  In his evidence on 11 July, John Tiner reported to the Committee that the FSA had already begun enforcement investigations into promotional and marketing material issued by authorised firms in respect of split capital investment trusts.[4] These investigations are continuing.

  2.  He also told the Committee that we were conducting enquiries into alleged collusive behaviour among authorised investment managers of a number of splits and that those enquiries might also lead to a formal enforcement investigation.

  3.  Following the conclusion of those enquiries, we have now launched a formal enforcement investigation into the issue of collusion in the Splits market consistent with the provisions of the Financial Services and Markets Act. The FSA will not name the firms concerned or comment further on the subject matter of the investigations at this stage. Nor can we speculate on possible outcomes or on the possible culpability of particular firms and/or individuals, as any such speculation could prejudice our investigations.

  4.  These types of investigations are, by their nature, complex and time consuming, and we would not expect the outcomes to be known for some time. As John Tiner noted in his oral evidence last July, the enforcement investigation could take at least 12 months to reach a conclusion, and longer in the event of a referral to the independent Financial Services and Markets Tribunal. The Financial Services and Markets Act 2000 requires the FSA to follow due process in such proceedings; details are set out in the FSA's Enforcement Manual.

  5.  We would confirm to the Committee that we are dedicating significant resources to our investigations and also to our consideration of the wider issues, as discussed below, and that progressing and finalising our work in this way remains a high priority for the FSA. We are very conscious of the concerns of a large number of investors who have lost, or are at risk of losing, a substantial sum of money.


  6.  The investigation may, of course, conclude that there is no evidence of any contravention or misconduct, in which case no further action would be taken. Even if there is evidence of a contravention or misconduct, the FSA may still conclude that no action is appropriate having regard to the circumstances and its policy on the exercise of its powers. However, there is a range of possible disciplinary and other enforcement actions that could result. These could include criminal prosecution under section 397 FSMA[5] (pre-N2 section 47 FSA), imposition of penalties for market abuse, rule breaches and breaches of high level principles. FSMA penalties include public censure, fines, and, if appropriate, the withdrawal of authorisation or approval. If there are fitness and propriety issues in relation to key individuals, the making of prohibition orders might also be a consideration.

  7.  The FSA also has a power under section 384 FSMA to make restitution orders against a firm if it is satisfied that it has contravened rules, principles or that it has engaged in market abuse or committed an offence under FSMA. This power is exercisable if it can be shown that profits have accrued to the firm as a result of the contravention or that one or more persons have suffered loss or otherwise been adversely affected as a result of the contravention. The power is a power to require the firm, in accordance with such arrangements as the FSA considers appropriate, to pay to the appropriate person or distribute among the appropriate persons such amount as appears to the FSA to be just in the circumstances. The FSA's decision to exercise this power can be referred to the Financial Services and Markets Tribunal.

  8.  The FSA Enforcement manual sets out guidance on the FSA's criteria for determining whether to exercise its powers to obtain restitution (Chapter 9.6). These include the number of persons who have suffered loss and the extent of those losses, the cost to the FSA of seeking redress, the solvency of the firm and the availability of redress to the consumers by other means, eg the Financial Ombudsman Service (FOS). The FSA's power to obtain restitution is not intended to duplicate the functions of the FOS, but in certain cases it may be more appropriate for the FSA to pursue restitution. Generally the FSA anticipates that many individual losses may be more efficiently and effectively redressed by consumers pursuing their claims directly with the firm concerned or through the FOS. However, where a large number of persons have been affected or the losses are substantial, it may be more appropriate for the FSA to seek restitution.

  9.  There is also a power under section 404 FSMA for the Treasury to authorise the FSA to establish a scheme for reviewing past business if it is satisfied that there is evidence suggesting that there has been widespread or regular failure on the part of authorised firms to comply with rules relating to a particular kind of activity and that as a result private persons have suffered loss in respect of which authorised firms are liable to make payments. Firms are required to comply with such a scheme in order to establish the nature and extent of the failure, the liability of the firms, and the amounts payable by way of compensation.


  10.  All the above relates to our investigations into the issues relating to the current situation in the Splits sector and how it arose. As reported in the Update document we issued in May, we are also reviewing the regulatory regime that encompasses Splits and the extent to which the detail of the underlying portfolios of Splits might be disclosed.

  11.  We have met Derek Higgs to examine any common interests between his review of the role of non-executive directors of companies in general and the review of the Listing Rule requirements in respect of independent directors of Splits. Our review of the Listing Rules in their entirety is a longer term activity, heavily influenced by proposed European Directives, where terms have not yet been finalised, but consideration is being given to the specific rules applicable to investment companies and trusts as a whole and to Splits in particular.

  12.  The Association of Investment Trust Companies is still working to increase the level of voluntary disclosure made by Splits and we have continued to support this move. We have not yet been able to assess the effectiveness or value to consumers of their initiative. If it is found to be valuable and comprehensive we will probably see no need for further action by the FSA. However, if the AITC's initiative does not achieve all that is hoped we will look further at the benefits of making an appropriate amendment to the Listing Rules.


  13.  Separate from the ongoing investigations, we have alerted investors, through our website, the media and indeed our appearance before the Committee in July, to their rights to complain if they feel they were misled at the time they acquired their investment.

  14.  The complaints process has two stages. Investors must in the first instance raise their complaint with the firm concerned. If they are dissatisfied with the outcome, they have the right to refer the case to the FOS. Any award made by FOS is binding on the firm—but not on the investor, who may take the matter to court.

  15.  Generally, the FOS has power to deal with complaints relating to regulated activities carried on by authorised firms. In the case of complaints relating to the marketing of investment trust shares which took place prior to the Financial Services and Markets Act coming into force (1 December 2000), the FOS must decide whether a complaint is one which could have been dealt with under one of the former complaints schemes, particularly those established by IMRO and the PIA. The FSA's Consumer Help website— explains what split capital investment trusts are and sets out the circumstances in which investors may be able to complain.

  16.  Investment trust shares are sold in a variety of ways and, if consumers claim to have bought on the strength of something which was misrepresented or mis-described, whether the claim falls within the jurisdiction of the FOS will depend upon the particular circumstances of the case. That said, there are some generic approaches, which are likely to be applicable in a significant number of cases. As a matter of principle, neither the FOS nor the regulatory system generally will compensate the consumer merely for poor investment performance. A complaint should only be upheld where a firm has not complied with a duty owed to the consumer.

  17.  The broad categories through which consumers may have acquired their interests are as follows:

Execution only and prospectus sales

  18.  Consumers who purchased investment trust shares without having seen or relied on a prospectus or marketing brochure and who may simply have instructed a stockbroker to purchase shares will not have grounds to complain about mis-descriptions in any marketing literature.

  19.  Similarly, those who may have acquired shares solely on the strength of the information contained in a trust prospectus will not have a right to complain to the FOS about the prospectus and the investment trust company which issued it. This is because the investment trust company was not required to obtain authorisation (this continues to be the case under FSMA) and because the prospectus and listing particulars for the trust were excluded from the investment advertising regime which operated under the previous legislation—as they continue to be under the new financial promotion regime.

Advised sales

  20.  Where consumers invested as a result of advice given to them by an authorised firm (for example an IFA, a stockbroker or a portfolio manager), FOS will be able to consider complaints from consumers about the quality of the advice which they have received. The Ombudsman, in considering any such complaint, will do so against the standards expected of advisers at the time the advice was given.

Marketing by the manager

  21.  In many cases the trust shares will have been promoted by the investment management firm responsible for managing the trust assets (or by a marketing associate of such a firm).

  22.  In doing so the manager may have designed and issued brochures, leaflets and other sales literature which were intended to encourage potential consumers to buy trust shares and which may, for example, have described trust shares as "low risk" or as being comparable to deposits.

  23.  It is expected that the FOS will have jurisdiction to consider complaints about marketing material in a number of cases, for example where:

    —  the brochure or literature did not merely contain information but recommended that consumers should buy particular investment trust shares; or

    —  a brochure included a reply slip or application form by which the investor could apply to the manager for shares; or

    —  the manager directed those responding to an advert to another person who would be able to fulfil an order for shares; or

    —  wherever the manager has maintained arrangements to facilitate deals by consumers in investment trust shares.

  24.  The Ombudsman will consider whether complaints fall within the FOS jurisdiction in the circumstances of each case. As at 4 October, the Financial Ombudsman Service had 950 live cases relating to splits, against a total of 147 firms.

  25.  We are also aware that some firms may be considering offering investors such redress for the losses they have sustained in the splits market. We will discuss with the firms concerned how such offers should be described to investors and, together with the FOS, assess their impact, if any, on redress that may otherwise be awarded.

11 October 2002

Note on the Financial Ombudsman Service


  1.  The Committee agreed that it would be helpful if the Financial Ombudsman Service attended the evidence session on Split Capital Investment Trusts on Tuesday 22 October.

  2.  This note explains the role of the Financial Ombudsman Service and the legislative background and sets out our powers. This note also provides some key statistics, and describes our process in general terms.

  3.  The arrangements for handling complaints by investors in Split Capital Investment Trusts is set out in the FSA's memorandum (paragraphs 13 to 25) accompanying FSA's letter to the committee of 10 October 2002.


  4.  The Financial Ombudsman Service is established under the Financial Services and Markets Act 2000 (FSMA) which provides for a scheme "under which certain disputes may be resolved quickly and with minimum formality by an independent person".

  5.  The scheme is funded entirely by compulsory levies and fees on firms in the financial services industry.

  6.  Access for retail consumers to an independent mechanism for dealing with complaints about financial services firms is a key part of the financial services regulatory regime.

  7.  The Financial Ombudsman Service took on its full powers on 1 December 2001 when FSMA came into force, having replaced the eight complaint handling bodies that existed before. [6]


  8.  Under FSMA, the compulsory jurisdiction of the Financial Ombudsman Service covers FSA authorised firms in respect of regulated activities and some specified unregulated financial services activities. Transitional arrangements enable disputes arising from events that occurred before 1 December 2001 to be handled by the service. The scheme covers all types of regulated investment business (endowments, unit trusts, income bonds, life assurance, investment advice, share dealing, personal pension plans), banking services (mortgages, savings and current accounts, bank loans), and insurance policies (motor, household, travel, accident, health).

  9.  In determining disputes the ombudsman service performs a quasi-judicial function. FSMA provides that a complaint is to be determined by reference to what is, in the opinion of the Ombudsman, fair and reasonable in all the circumstances of the case. In considering what is fair and reasonable, the Ombudsman will take into account the relevant law, regulators' rules and guidance and standards, relevant codes of practice and, where appropriate what he considers to have been good industry practice at the relevant time.

  10.  The Ombudsman's decision is binding on the firm if the complainant accepts it; there is no route of appeal for the firm. If the complainant rejects the decision, the complainant remains free to go to court.

  11.  An Ombudsman's decision can include a money award which is binding on the firm up to £100,000.


  12.  Our key statistics reveal:

    —  388,239 phone and written enquiries received last year;

    —  43,330 complaints requiring investigation last year;

    —  a budget of million; and

    —  a current staff complement of 500 including, 15 ombudsmen and 250 adjudicating staff.

  12.1.  About a third of all complaints currently relate to mortgage endowments. After that, complaints about personal pensions and mortgage loans represent the next two largest areas of complaint.

  12.2.  Complaints are investigated by examining documentation submitted by both parties, contacting one or both parties for clarification where relevant. The ombudsman has power to require information or documents. It is rare for hearings to be held.

  12.3.  In a case of any complexity it is usual to for the party likely to "lose" to receive an initial view letter setting out the reasons why that view is taken. This provides the opportunity for further representations to be made before an adjudication is issued to both parties. Either party can then ask for a review and final decision by an Ombudsman.

  12.4.  On average 45 per cent of investigations are concluded within three months and 75 per cent within six months, 96 per cent within 12 months but these figures of course include some quite wide variations.

18 October 2002

3   Not printed. Back

4   HC 1089-i, Session 2001-02. Back

5   Financial Services and Markets Act 2000. Back

6   Insurance Ombudsman Bureau; Office of the Banking Ombudsman; Office of the Building Societies Ombudsman; Personal Investment Authority Ombudsman Bureau; Office of the Investment Ombudsman; Securities and Futures Authority Complaints Bureau; FSA Complaints Unit and Personal Insurance Arbitration Service. Back

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