What do you get if your SIPP or ISA provider goes bust?

Wednesday, 31st January 2018 10:37 - by Eric Chalker

The Financial Conduct Authority (FCA) has been reviewing this question, but the answer just now is, “Less than you might want.”  It will depend, of course, on how much you lose, but if you have to resort to the Financial Services Compensation Scheme (FSCS) there are compensation limits.  The maximum compensation for lost cash is £85,000, which might seem adequate.  But for company shares which you think you own and then discover you don’t, the maximum claim is for £50,000, which could be very inadequate indeed. 

Could it happen?

   How realistic is it to think that an intermediary holding your shares – ie a nominee account provider – could go bust?  Well, some do.  Some even warn of the possibility, in their terms and conditions.  According to the FSCS, in the five years to 2014 over 52,000 investors had to seek compensation.  More than 3,500 of these had claims which exceeded the £50,000 limit.  Six even exceeded £1m.  Annually, the proportion of claims which exceed the maximum has been growing, from under 5 per cent in 2010 to over 13 per cent in 2014; if they have continued to increase at the same rate the proportion now will be over a quarter.  

   Why might an intermediary go bust?  Three possibilities occur to me: fraud, maladministration and a cyber attack.  All nominee account providers must be regarded as potentially vulnerable to any of these, because ultimately how a firm is run is in the hands of humans.  Humans make mistakes, sometimes don’t do what they are supposed to and sometimes even misbehave.  There will of course be controls, but nothing is foolproof, which is why compensation schemes exist. 

   If your shareholdings are certificated, or in a sponsored (personal) Crest account, your name will be on those companies’ share registers, with no intermediary on which to depend.  But with an intermediary, you are dependent on it actually buying and holding whatever shares you have requested and paid for, as well as doing the same for all its other clients.   If the music stops, you want the total number of shares owned by the nominee in, for example BP, to equal the total it is supposed to be holding for all of its clients.  If this isn’t the case, there will be a shortfall and you will stand to lose money.

Consulting on better compensation

   In December 2016, the FCA issued consultation paper CP16/42 to commence a review of the compensation arrangements for which it is responsible.  It asked a number of questions, most of which related to matters not being addressed by this article, such as how the compensation is paid for by the financial services industry.  Three questions were directly related to private investors who, for one reason or another, use intermediaries; these questions invited comments on the compensation limits.  The consultation was directed at firms bearing the cost of FSCS compensation, but “consumers” and “consumer groups” were also invited to participate. 

   Based on the 250 responses received, the FCA launched a further consultation last October (CP17/36), which closed this week.   The questions asked were fewer, with just two of them crucial to the position of private investors.  The FCA has noted that, because of “pensions freedoms”, far fewer people, when retiring, are doing so with insurance-based annuities regulated by a different body, the Prudential Regulation Authority (PRA).  The PRA provides 100 per cent money-back compensation in the event of an insurer’s failure, which is vastly different from the £50,000 available for a SIPP or ISA provider’s failure.

   In its 2016 consultation, the FCA asked for reaction to five possible levels of compensation: £50,000 as now, £75,000, £100,000, £150,000 and £1,000,000 (this figure being the current pensions lifetime allowance).  Not surprisingly, the great majority of responders were opposed to raising the compensation limits.  Among those in favour, “there was no consensus” about what the limit should be.  Now the FCA is suggesting the limit should be £85,000 (ie in line with compensation for lost cash) and has asked whether this is supported or, if not, what the figure should be.

What do private investors think the compensation should be?

   This is a subject on which I spent quite some time while responsible for policy matters in the UK Shareholders’ Association.  I have therefore submitted my personal response to the latest consultation, as follows.

It is to be hoped that the FCA will place fully adequate investor protection above the commercial interests of those who want to keep it at a more comfortable level for them, but a wholly inadequate level for us.

Eric Chalker, UK Shareholders’ Association Policy Co-ordinator & Director, 2012-2016