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20 January 2021

The ban on discretionary commission models within the motor finance market and enhancement of the credit broker disclosure rules and guidance in the Consumer Credit sourcebook (‘CONC’) comes into force from 28th of January 2021.

Background

The FCA conducted a review of the motor finance market and explored whether commission models in the motor finance space gave rise to conflicts of interest. The FCA’s review consists of collated data relating to 1,000 motor finance transactions from 20 lenders representing about 60% of the market.

As a result of the motor finance review, the FCA identified the following:

Discretionary commission arrangements

The prevalence of commission arrangements which link broker commission to the customer interest rate and allows brokers wide discretion to set the interest rate may be causing consumer harm in potentially creating a landscape where consumers pay significantly more for their motor finance because brokers are incentivised to ‘sell’ more expensive motor finance to maximise their commission income. The FCA found that discretionary commission arrangements linked to interest rate creates an inherent conflict of interest due to the information advantage that brokers enjoy in having knowledge of the credit products on offer and their commercial interests in arranging more expensive credit balanced with the fact that consumers are reliant on them to source suitable finance solutions. The FCA’s conclusion was supported by data showing a significant difference in the amount of interest customers pay when taking motor finance deals arranged through a broker who benefits from a discretionary commission model compared to a flat fee commission model, with the former group of consumers paying in total around £500m more in additional costs.

Commission disclosure

The FCA found that only a small number of brokers in its sample disclosed to consumers that a commission may be received for arranging finance. The FCA found that those brokers in its sample who did disclose the existence of a commission arrangement with lenders often did not communicate the disclosure prominently. This potentially creates a landscape where consumers are not being equipped with the relevant information, at the right time, to enable them to make informed transactional decisions.

Discretionary Commission Ban

The FCA’s ban of discretionary commission models comes into place on 28th of January 2021. The FCA believe that this will remove the conflict of interest inherent in discretionary commission models by removing the link between interest rate and commission. The FCA envisage that this should remove the incentive for brokers to set higher interest rates.

The FCA expect interest rates to be based on, for example, credit risk rather than driven by misaligned incentives for car dealerships and brokers. The ban seeks to create a landscape in the motor finance market where the cost of credit is based on the credit risk of consumers rather than the financial incentives of brokers. The ultimate benefit for consumers, in the FCA’s view, is that their financing costs should decrease as a result of the ban.

Additional Considerations

Currently the ban on discretionary commission arrangements is limited to the motor finance market. The FCA acknowledged the existence of similar discretionary commission models linked to interest rate in other markets (for example, asset finance and premium finance) however state that there is insufficient evidence to demonstrate consumer harm in those other markets which justifies similar intervention.

The FCA define ‘discretionary commission arrangement’ with reference to the total charge for credit, rather than just the interest rate to prevent firms from circumventing the ban. In other words, the ban seeks to abolish any discretionary commission that is linked to the total charge for credit (not just interest rate).

It is to be noted that the ban does not seek to ban variable commission models that are not dependant on interest rate. For example, brokers continue to be allowed to operate models where the amount of commission is determined by the amount of work carried out by the broker (for example, in the case of customers who are a higher credit risk and where the broker undertakes more work on the lender’s behalf to gather information to enable the lender to carry out a more detailed assessment of affordability).

For more information or to find out how we can help, please feel free to contact us on 01423 613066 or email info@thecompliancecompany.co.uk

By Samantha Connor

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