Why now?

The FCA withdrew its previous guidance on unfair contract terms back in 2015 and 2016 and has issued draft guidance for consultation based on current legislation. The new guidance sets out the FCA’s understanding of how current laws on unfair terms operate in the context of variation terms. The Consumer Rights Act 2015 (CRA) replaced the Unfair Terms in Consumer Contracts Regs 1999 (UTCCRs). CRA covers unfair terms in consumer contracts that came into effect from 1 Oct 2016, and the UTCCRs continue to apply to consumer contracts entered into between 1 Oct 1999 and 30 Sept 2015. Both CRA and UTCCRs implement EU legislation Council Directive 93/13/EEC on unfair contract terms. The new guidance will apply to CRAs only, but should also be considered for earlier contracts under UTCCRs. The Court of Justice of the EU has issued a series of rulings which relate to the fairness of variation terms. While these don’t all relate to financial services, the FCA has included these principles in the guidance. An unfair variation is not binding on the consumer.

The FCA is concerned about unfairness in contract statements used to permit firms to unilaterally vary the terms. Examples include the unilateral change of interest rates or fees and charges. However, the regulator acknowledges the benefit of flexibility these terms offer to firms and consumers and that such terms can be deemed fair if drafted appropriately and are in line with FCA guidance.

The consultation closes on 7^th September 2018 and Finalised Guidance is expected to be published in December 2018.

What is ‘fairness’?

Terms are unfair if, contrary to the requirement of good faith, they cause a significant imbalance in the parties’ rights and obligations under the contract to the detriment of the consumer.

The CRA includes an indicative, non-exhaustive list of terms that will be regarded as unfair, known as the ‘grey list’. Unilateral variation terms appear in the ‘grey list’. The list is subject to ‘qualifications’ for specific terms in specific contracts, including financial services contracts. However, this is only ‘indicative’ of unfairness. A term may be on the list, but still deemed fair by the courts. Similarly, just because a term is not on the list, or is within the ‘qualifications’ does not mean it is fair. It will be necessary to look at each contract and term on a case-by-case basis to determine its fairness.

Under CRA, contract terms must be fair and transparent. This applies to both standard form contracts and individually negotiated contracts.

In assessing fairness, the FCA will take account of the contract’s subject matter and refer to all circumstances at the time the term was agreed to, e.g. how it was advertised/presented to the consumer, accompanying material and pre-contract information etc. In assessing transparency, the FCA will consider whether the terms are written in plain, intelligible language which is legible and does not cause confusion or ambiguity.

The guidance consultation sets out a list of factors the FCA will consider when looking at the fairness of variation terms as follows:

• The firm’s objective in including a variation of term – whether the variation term is necessary or appropriate to the contract, i.e. what terms might it be reasonably necessary to change, and when?
• If the term is too wide-reaching – the scope and effect of the variation term should not be wider than necessary to achieve a legitimate objective. Reasons are more likely to be valid if they relate to matters outside of a firm’s control, e.g. increased regulatory costs, increase in base rates etc. However, firms should not pass on risks and costs that the consumer would reasonably expect the firm to bear, e.g. a change of costs to remain competitive is not a direct product cost.
• Foreseeable changes – the consumer must be able to foresee the alterations that may be made to the contract and the consequences of these, so they can make an informed decision and take appropriate action, e.g. exit the contract if they wish. A loan agreement should transparently set out the mechanism for altering interest rates and how that mechanism impacts the lender’s remuneration, so the consumer can anticipate the financial impact of a change.
• Use of broad reasons for change – in a contract of fixed duration, a statement that terms may be varied ‘for any other reason’ is unlikely to be fair as it lacks balance between the interests of the firm and the consumer. In contracts of indeterminate duration, firms should carefully consider the fairness of wide powers to vary contracts to ensure consumers are treated fairly.
• Fair notice – reasonable notice of making a change does not turn an unfair term into a fair term, e.g. giving advance notice of the change or allowing an opt-out from the change does not render an unfair term as fair.
• Terms in the consumer’s favour – some variations will be in the consumer’s favour as well as the firm’s. The FCA will not question the fairness of a variation term if it can only operate in the consumer’s favour.
• Horizon scanning – the FCA will consider how the firm has acted on previous court judgments relating to the fairness of terms in consumer contracts.
• Transparency – the FCA will look at the firm’s approach to addressing consumers’ information needs and the extent to which it assists the consumer in making comparisons with other products available, e.g. if it provides information about how and when the variation could be exercised, the consequences for the consumer and details of the firm’s policies such as how it sets interest rates.
• Notice periods – the consumer should be given adequate notice so they have time to take action. The CRA refers to notice being provided ‘at the earliest opportunity’ and providing ‘reasonable notice’. Firms should take account of wider issues such as how much time the consumer needs to shop around, the extent of the freedom they have to exit the contract and if there are any barriers to exit. Provision of notice period does not make an unfair term fair or compensate for any lack of transparency.

FCA’s remit

The FCA is a regulator under the CRA and a qualifying body under the UTCCRs. It has the power to consider complaints and challenge firms on unfair contract terms in relation to consumer contracts issued by the firms it regulates and their appointed representatives. It can seek an injunction or accept undertakings in lieu to prevent firms relying on unfair term(s). In addition, the Competitions and Markets Authority can consider the fairness of terms in all consumer contracts.

Firms are expected to take the guidance into account when drafting and reviewing consumer contracts. Whether a firm has followed the guidance will be taken into consideration by the FCA in deciding whether to take action against a firm for unfair contract terms.

What should firms do now?

Firms should already be paying attention to existing FCA guidance on good and poor practice and the principles on the fair treatment of customers, as well as their legal obligations in relation to the CRA. Ahead of the FCA’s guidance being finalised, all regulated firms that have contracts in place with consumers should consider:

• Carrying out a review of existing consumer contracts for fairness of terms, taking a case by case approach. Consider if the terms are fair and transparent and if the balance of power is fair, e.g. are there terms which give unfettered discretion to the firm?
• Whether there is a culture in the firm that puts fairness at the heart of the business and if it strikes a fair balance between the interests of the firm and the consumer. For example, does the firm focus on narrow technical arguments to achieve minimum compliance and would it rather take a chance on whether contract terms will be challenged, than ensure it acts fairly to consumers?
• Reviewing procedures for drafting, reviewing and varying contract terms to ensure they are fit for purpose.
• If there is horizon scanning in place that will pick up case law concerning unfair contract terms that the firm needs to take account of.
• Whether the fair treatment of consumers is embedded in product governance processes and if responsibility has been allocated to an appropriate senior manager for ensuring that consumer contracts are fair and transparent.