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Unfair terms under scrutiny from FCA

The fairness of variation terms in financial services consumer contracts under the Consumer Rights Act 2015 (CRA) is currently under scrutiny by the FCA. Guidance consultation (GC 18/2) relates to all financial services consumer contracts entered into since 1 July 1995, whether or not such contract relates to regulated products. GC 18/2 should be taken into account when reviewing existing contracts and drafting new ones. The guidance consultation closed on 7 September 2018 and the finalised guidance is due in December 2018.

It is important to note at the outset that interpretation of the CRA is a matter for the courts and that the finalised guidance will not change the law. The guidance is intended to reflect case law developments at both the EU and UK level and sets out the FCA’s understanding of the law in respect of unilateral variation terms. As the FCA is a regulator under the CRA (and qualifying body under the Unfair Terms in Consumer Contracts Regulations 1999, which preceded the CRA) and may consider the fairness of terms in consumer contracts issued by FCA authorised firms or their appointed representatives, the FCA will take into account whether the firm has followed the finalised guidance when considering whether to take action against a firm for unfair terms.
Scope of the guidance
The scope of GC 18/2 in relation to the fairness of variation terms is broad. It relates to all financial services consumer contracts entered into since 1 July 1995. The FCA may consider the fairness of variation terms in any type of contract, whether or not such contract relates to regulated products. GC 18/2 should be taken into account when reviewing existing contracts and drafting new ones. The guidance is focused on variation terms given the FCA considers that such terms can be some of the most complex terms to assess for fairness and because the Court of Justice of the European Union has issued rulings on such terms in recent years.
Significance of variation terms
The FCA indicated that a large proportion of the contract terms referred to it gives firms the right to vary contracts without obtaining consent from consumers (so-called “unilateral variation terms”). An example of a unilateral variation term is one included in a variable rate contract, where firms can offer products that do not simply track a reference rate such as the base rate. The FCA recognises that there is a fine balance to be achieved in drafting these terms: on the one hand, consumers run the risk of being subjected to exorbitant terms which were not agreed at the outset; on the other hand, variation clauses can enable greater pricing flexibility, thereby promoting healthy competition and greater consumer choice.
Trends in unfair terms supervision
Unfair terms in consumer contracts have long been a particular focus of the FCA. Throughout the lifetime of the FCA/FSA, firms have been required to give undertakings to stop relying on terms in concluded contracts that the regulator has deemed to be unfair.
Since responsibility for consumer credit regulation transferred from the OFT to the FCA on 1 April 2014, the FCA has been withdrawing unfair terms guidance from its website. The FCA website now refers to the Competition and Market Authority’s (CMA) guidance, published in July 2015, as the latest development in guidance on unfair contract terms.
Other than undertakings, the last significant publications indicating the direction of the FCA’s thinking on this topic date back to 2013/2014. Still on its website are a discussion paper on changes to mortgage contracts and a thematic review on the automatic renewal of fixed term bonds from July 2014 and July 2013 respectively.
The fact that the FCA has decided to consult on new guidance suggests that the pressure on firms to monitor closely their consumer contract drafting will increase – at least in relation to variation clauses, given that in GC 18/2 the FCA states that it is not currently looking at other aspects of the law regarding unfair contract terms, albeit it may consider doing so in due course. We would not therefore treat this as necessarily opening the floodgates to scrutiny of unfair terms, but it could in due course lead to more rigorous and systematic FCA reviews.
Comparison with CMA guidance
The level of detail set out in GC 18/2 on variation terms far exceeds that contained on the same subject in the CMA guidance. The two pieces of guidance at the moment appear fairly cohesive, with no evident contradictions. However, the FCA draws out the following eleven non-exhaustive factors in the table below, for those reviewing or drafting variation terms to consider.
Themes​ ​FCA Factors
The firm’s objective in including a variation term​ ​Factor 1 ​– Has the firm included the variation term to achieve a legitimate objective?
​The scope and effect of the variation term  ​Factor 2 ​- Are the reasons which a firm uses to justify amending contract terms pursuant to the variation term (the Reasons), no wider than are reasonably necessary to achieve a legitimate objective?
​Factor 3 ​– The variation term permits a change to the contract. Is the extent of that change no wider than is reasonably necessary to achieve a legitimate purpose?
​Factor 4 ​– Are the Reasons objective?
​Factor 5 ​– Will it be possible to verify whether or not the Reasons have arisen (ie whether or not the firm is entitled to vary the contract when it invokes the variation term)?
​Whether or not the term can operate in the consumer’s favour ​Factor 6 ​– Does the variation term allow for:
– variations in favour of the consumer where the reasons may in some circumstances justify changes in favour of the firm but in other circumstances justify changes in favour of the consumer (eg price decreases as well as increases)?
– variations in only the consumer’s favour?
The transparency of the variation term ​ ​Factor 7 ​– Are the Reasons clearly expressed?
​Factor 8  ​– Will the consumer understand at the time the contract is concluded the consequences that a change to the terms might have for him or her in the future?
– In particular, for a variation term that entitles the firm to vary the price:
– does the contract (or other information provided to the consumer before the contract is concluded) set out the method for varying the price?
– will the consumer understand the economic consequences of the variation term?
​Notice ​Factor 9 ​– What, if any, notice of any variation does the contract require the firm to give the consumer?
Freedom to exit ​ ​Factor 10  ​– Does the contract give the consumer the right to terminate the contract before or shortly after any variation takes effect? To what extent could that right be freely exercised in practice?
​Striking a fair balance between the legitimate interests of the firm and the consumer  ​– Does the term strike a fair balance between the legitimate interests of the firm and the legitimate interests of the consumer (taking into account any notice provisions, rights the consumer may have to terminate the contract, and the extent to which such rights could be freely exercised in practice)?
Impact on firms
It is clear from GC 18/2 that the FCA expects firms to allocate responsibility for consumer contracts under the Senior Managers Regime, where applicable. An appropriate senior individual should be accountable for ensuring that consumer contracts are fair and transparent under unfair terms law. This prospect in itself suggests that drafting and reviewing consumer contracts will no longer be considered routine business. Senior figures will, if this proposal is retained in the final guidance, have a vested interest in ensuring that terms are compatible with the regime. Firms will be expected to take the guidance into account when reviewing existing contracts as well as when drafting new ones.
Moreover, certain industry standards may shift. Currently, some firms may be willing to assume the risk that certain industry-specific variation clauses are unfair on the basis that it may be market practice to draft the term in a particular way. The ramifications of a finding that a term is unfair under the CRA ordinarily comprise the unenforceability of that term against the consumer but may also result in restitution to consumers where the FCA considers that the term has resulted in harm. For example, the FCA might require that refunds of fee increases are provided to consumers where such fee increases derive from an unenforceable variation provision. In future, if senior managers are allocated responsibility for consumer contracts then, with the risk of FCA enforcement action against the individual managers, they may well seek to revisit and refine their firm’s approach to drafting such terms, to mitigate the risk of such enforcement action. Consequently, we can expect increased scrutiny on unfair terms, not only from the regulator, but also from within organisations.
Further information
This article is part of the Allen & Overy Legal & Regulatory Risk Note, a quarterly publication.  For more information please contact Karen Birch –, or tel +44 20 3088 3710.


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