The FCA has published a consultation paper on the application of client money rules in peer-to-peer lending.
The cause of the consultation seems to be the increasingly institutional flavour of the UK’s peer-to-peer lending space. As is laid out in the paper early on, peer-to-peer loans (those that fall within the regulatory remit of article 36H) are subject to the rules laid out in the Client Assets Sourcebook (CASS). Non-36H agreements (“B2B” agreements), which describes a wide variety of institutional funding commitments, fall outside of 36H regulation, and are not subject to CASS. And yet for some platforms, retail and company money both is flowed into a blender – “commingled”, in regulatory terms – before being matched to a loan. There are of course institutional investors – the likes of P2PGI – which purchase whole loans only, and as such their capital does not come into contact with retail money.
The current situation is that money held by a platform in P2P agreements must be segregated from the firm’s own money. But P2P money must also be segregated from unregulated B2B agreements. The consultation has been brought about due to a concern that many peer-to-peer platforms do have the necessary systems for distinguishing between P2P and B2B agreements. The fear is that the non-CASS compliant mixing of these two pools of money could, in the FCA’s words, “cause significant delay and expense in returning client money, leading to consumer detriment”.
There are two schools of thought for the regulator to juggle. On the one hand, there are platforms that would prefer to hold all P2P and B2B monies together, offering CASS protection to all lenders. On the other, there are platforms that prefer to keep B2B money wholly separate from P2P client money, and to designate it for whole loan purchase only.
Bearing the above in mind, the regulator has laid out a number of proposals. The first is that firms will be permitted to hold all lender money (P2P or B2B) under CASS 7, should they wish to do so. That money would of course still need to be segregated from the firm’s money, but the need for distinguishing between retail and institutional money would be negated. The FCA sees such a move resulting in greater consumer protection, due to reduced complexity. In the instance of a platform insolvency, all monies would be be dealt with in accordance with the client money distribution rules, as laid out in CASS 7A. Note, however, that firms may continue to segregate P2P and B2B money if they wish to. But the FCA is also proposing that all segregated B2B agreements be brought into CASS.
Do we sense the shadow of the now-infamous Trustbuddy hanging over the FCA? Time and again the consultation points to clarity as the key driver of change. See, for example, the reasoning behind the proposal that both P2P and B2B agreements be treated as client money: “The arrangement would be clear and simple for firms to implement, for clients to understand and for the FCA to supervise.”
The root cause of the TrustBuddy meltdown was the platform’s mismanagement of client money. But compounding the problem was the fact that it was nigh on impossible for anybody – investor or regulator – to detect what was happening behind the scenes. We hear rumours that TrustBuddy failed to even attach serial numbers to loans, which perhaps ought to have been spotted as an early indicator of client money mismanagement.