Regulation special report: Status: It’s complicated
Knowledge gaps, lack of engagement, and lack of clarity around new rules – the relationship between the Financial Conduct Authority and the peer-to-peer lending industry is fraught and complex. Kathryn Gaw investigates…
Regulation is a touchy subject in the world of P2P. Since the earliest days of Financial Conduct Authority (FCA) compliance, there has been a sense in the industry that the regulator has been an agent of chaos, making sweeping – and often inappropriate – decisions on behalf of an industry that it did not fully understand.
This has culminated in a series of regulations which have convinced many platforms that they cannot, or should not, advertise their products to retail investors. This is not true, but this disconnect speaks to a wider issue between the regulator and its charges.
P2P platforms have long been sceptical about the FCA’s ability to effectively regulate the space, and they have a point. Last year, an employment tribunal led to the release of a number of emails which showed that the City regulator was “confused” about how to regulate P2P lending in 2016, and missed key opportunities to take actions which would have protected Lendy investors from losses.
In 2020, the Gloster Report excoriated the regulator for an apparent “disconnect” between the FCA and the financial services sector, which contributed to the collapse of the mini-bond firm London Capital & Finance (LCF)
The FCA’s failure to protect Lendy and LCF investors from capital losses has led to calamitous headlines about the dangers of P2P and mini-bond investments, when many would argue that the blame should have been laid at the feet of the regulator.
Last year, the FCA announced a new framework to “strengthen our financial promotion rules for high-risk investments and firms approving financial promotions.” The City watchdog listed P2P lending among the “high-risk investments”, lumping it in with unregulated asset classes such as cryptocurrencies. Unsurprisingly, this categorisation led to an outcry among platforms, and warnings that regulatory over-reach could kill the retail P2P sector.
All P2P lenders must now feature a prominent risk warning on their websites and in all marketing materials, and all new investors are required to complete an appropriateness test before being allowed to invest. In anticipation of further FCA crackdowns, some platforms have gone even further and have stopped advertising their products, or have shifted away from their retail investor base by increasing their investment minimums.
JustUs has recently increased its minimum Innovative Finance ISA (IFISA) investment to £10,000 as part of its new strategy to focus on high-net-worth individuals and family offices rather than retail investors. Chief executive Lee Birkett says that it has simply become too costly to advertise effectively to individual lenders.
“The costs involved with onboarding retail P2P clients just isn’t worth the regulatory hassle,” he says. “We’d rather focus on one £500,000 investment which would be more profitable than a hundred £5,000 investments, which would be massively loss making.”
More recently, property platform Brickowner increased its minimum investment from £500 to £1,000 due to “changes to the regulatory environment”.
These changes have had a knock-on effect on the visibility of P2P in the financial services market. Just a few years ago, P2P brand names were plastered on the side of football pitches, appearing in TV ads, and taking up prime real estate on the sides of buses and the platforms of the London Underground. But in light of the latest regulations, awareness has dropped off.
Thomas Donegan, a partner at the law firm Shearman and Sterling, believes that platforms are being overly cautious in the way that they present themselves to the public, wary of attracting the scrutiny of the regulator.
“When onerous or difficult new compliance requirements are introduced, we often find that firms prefer to cease a particular service or activity, rather than incurring the compliance risk of getting it wrong or being second guessed by their regulators,” explains Donegan.
“We have also seen this sort of phenomenon in the decline of corporate hospitality and in some firms’ reluctance to allow post- Brexit EU customer access from the UK, for example.”
But it could be argued that a lack of visible P2P options is actively harming retail investors, who could benefit from the inflation-beating, tax-free returns that P2P can offer – if only they knew where to look. Contrary to popular belief, platforms can still advertise their products and services while being compliant with regulations, and some industry leaders have even praised the regulator for its efforts to protect retail consumers.
“P2P platforms are not prohibited from advertising,” says Veryan Skinner, head of brand and communication at Folk2Folk. “We have a set of rules and guidelines from the FCA which are there to protect consumers and ensure we deliver positive outcomes.
“We promote the credentials of our company and our advertising aims to raise awareness of our loan investment product and our IFISA. Our adverts invite potential investors to find out more, they are not direct financial promotions.”
Jason Ferrando, chief executive of EasyMoney, has also spoken out in support of the FCA’s mission to reduce investor risk. However, he believes that the FCA’s risk warnings have gone too far, particularly when applied to asset-backed lending.
“It seems somewhat unjust to corral diverse and risky investment businesses into one ‘pot’ regardless of the fact that some of us have, in effect, low risk to our investors and others have significant risk,” says Ferrando.
Ferrando explained that while he supports transparency around investor risk, he felt it was unfair to bundle payday lenders and unsecured loan providers in with property-backed lenders such as EasyMoney.
“It just doesn’t seem equitable,” he added.
It appears that the regulator is listening to industry feedback, but engagement still leaves a lot to be desired. According to compliance specialists, there is still a significant knowledge gap between what the regulator is aiming to do, and what P2P platforms believe is required of them.
It is impossible to know what the FCA thinks of the criticism of its approach towards P2P regulation. Multiple requests for comment by Peer2Peer Finance News have gone unanswered. However, the FCA’s choices could have a wider-ranging impact that stretches far beyond its jurisdiction.
The UK has become a sandbox for P2P regulation, just as it was a sandbox for P2P activities in general. P2P was founded in the UK by Zopa in 2005, but it was another 10 years before the first P2P regulations were put in place. During that unregulated decade, new products were tested, new technologies were tried out and a blueprint for modern-day P2P was established.
Today, the major trends in P2P lending are coming from the regulator, not from the platforms themselves. Perhaps earlier regulation could have made space for more responsible innovation during the early years of P2P, or at least helped to forge a better relationship between the regulator and its charges.
In Europe, the regulatory journey for P2P lenders is just beginning, and it is clear that the European Commission (EC) is learning from its UK counterparts.
While some individual countries passed laws to regulate crowdfunding as early as 2012, the launch of the European Crowdfunding Service Provider Regulation (ECSPR) represented the first time that a single law would be applicable to all P2P lenders across Europe. The EC has worked closely with crowdfunding platforms, P2P lenders and trade bodies such as EuroCrowd during the draft phase of the ECSPR, to ensure that retail investors have been the focus of these new rules.
“Regulation is there to enable capital movement and protect investors, while keeping enough breathing space for brokers to work in the space,” says Oliver Gajda, founder and executive director of EuroCrowd. “It is hard to get this right and it is a process.”
The regulations were finally signed off in late 2020, before becoming law in late 2021. A two-year transition period will end on 10 November 2023. So far, the regulations have been welcomed by European platforms, who see the benefit of being able to operate across multiple European countries without having to change their business models. There are currently no restrictions on P2P advertising in the EU.
Meanwhile, in the UK, P2P regulation is still a work in progress. The new consumer duty will come into effect in July, and requires all regulated firms to place consumer interests at the heart of everything that they do. Some P2P platforms argue that they have been doing this for years, despite stifling regulations which have made it harder for them to reach their target investor base.
“The FCA is hot on reviewing direct offer financial promotions and the cooling off period means that many customers are walking away,” says Daniel Rajkumar, chief executive of Rebuildingsociety.
“The current cooling-off rules were intended to mitigate the FOMO effect of instigating lenders to register and invest on impulse. However, the drop-off has been dramatic with many suitable lenders abandoning the process for the inconvenience.
“It has been said that some FCA supervisors have confused generic financial promotions (which do not require cooling off) for direct offer financial promotions which do. So, for a platform it’s just not worth advertising any more.”
The UK Crowdfunding Association (UKCFA) pushed back on this point in the consultation paper, but Rajkumar says that the trade body’s feedback was ignored. He believes that some platforms could now consider leaving the UK and moving into foreign markets where “the regulator is more conducive to fair competition.”
“The FCA has basically killed the retail investor,” said another P2P stakeholder. “The FCA didn’t listen to the industry, and it has missed its opportunity to regulate P2P effectively.”
While this last point is up for debate, it appears that the regulator does have good intentions when it comes to P2P. Its stated aim is simply to protect investors from losses – platform complaints and a lack of P2P visibility are just the unfortunate side effects. But there is still time to get it right. Better engagement from the FCA could help platforms to navigate the new rules while still highlighting the substantial investor benefits.
The FCA did not respond to requests for comment.
