In a response to the Treasury Select Committee’s inquiry on SMEs, Sean Martin, General Counsel of the FCA, has issued a letter to Andrew Tyrie, published on 19 September 2014, in which he has explained the legal opinions used by the FCA in their decision to treat loans similar to interest rate hedging products (IRHPs) as falling outside of regulatory remit.
The FCA received legal advice from Charles Flint QC of Blackstone chambers. The FCA’s internal position, which was supported by the advice they received, is as follows:
- Contracts for loans similar to IRHPs are not specified investments under the Financial Services and Markets Act 2000. Entering into or terminating such contracts does not constitute regulated activity.
- When a bank enters into a contract for loans similar to IRHPs, or terminates such a contract, the conduct elements of the Principles for Businesses do not apply.
- The FCA is currently unable to establish a redress scheme in respect of any failings to properly disclose break costs in contracts for loans similar to IRHPs, or to regulate the future conduct of banks in that respect.
Mr Martin further explained that the fact that IRHPs alone are regulated products and loans similar to IRHPs are not, is not a paradox. IRHPs are contracts for differences (CFDs), the purpose of such being to secure a profit or to avoid a loss by reference to fluctuations in interest rates. Loans similar to IRHPs are not for the purpose of securing a profit, but rather for the purpose of customers to borrow and for banks to lend. Regardless, such contracts will be looked at on a case-by-case basis. Whether or not a product is regulated will depend on the construction of the individual contract. Mr Martin advises that it is ultimately a responsibility of the banks to categorize such contracts and to assess what regulatory requirements apply to a given product. The FCA has no evidence to suggest that banks have been doing so incorrectly.
The above response shouldn’t be accepted as an unwinding of the FCA’s otherwise stringent regulatory approach to IRHPs and related products. Looking at contracts on a case-by-case basis gives the regulatory system flexibility at the cost of transparency. Banks should ensure they understand the distinction provided by the FCA when categorising contracts.
Should you require any advice or information on the above, Cleveland & Co, your external in-house counsel, are here to help.
