It looks like the banks may be in hot water again, this time regarding Interest Rate Swap Mis-Selling
As the BBC reported in November, accusations have been flying that the major High Street lenders sold complex financial contracts to small business clients without properly explaining the risks involved.
The products were offered to thousands of small firms – including pub owners, haulage firms, care-home operators and vets – when they asked their bank to take out a loan.
The borrowers were told that the product would provide an “insurance” or “hedge” against the risk of interest rates rising.
But with interest rates having instead fallen since 2008 to historic lows, many of these businesses have discovered they are now sitting on tens of thousands of pounds in losses.
Small businesses claim to have been sold “Interest Rate Swap Agreements” and other complicated interest rate hedging products such as “collars” or “caps and floors” without being properly told the risks they were taking.
Many borrowers claim that they were pressurised into buying these products. They say the “hedge” was made a condition of the loan they needed being granted, and that in some cases they were given very little time to make a decision.
The hedges were supposed to protect borrowers from the risk of interest rates going up.
But the quid pro quo was that borrowers paid more when interest rates fell. After 2008, the Bank of England slashed interest rates to help out struggling borrowers – but these borrowers did not benefit from cheaper interest rates because of their hedges.
What’s more, borrowers have found themselves stuck with these hedges. For example, some businesses have tried to shrink their businesses in response to the tough trading conditions, by selling off properties and using the proceeds to pay off their loans. But when they have asked to cancel the hedges for these loans, they have sometimes been told they must pay tens of thousands of pounds in cancellation costs.
Some products also contained additional risks. For example, the lender – but not the borrower – had the right to cancel the hedge without paying any compensation.
In the case of an electrical retailer who has spoken to BBC business editor Robert Peston, the borrower actually ended up paying a higher interest rate on the hedge as the Bank of England cut lending rates below a trigger level.
In many cases, borrowers say they have ended up with hedges for loans that do not even exist.
For example, some claim they were told to take out hedges for significantly more than the amount of money they were actually borrowing.
In other cases, borrowers say they were pushed into taking out hedges that would last many more years than their loans, because the bank said they were likely to reborrow the loans when they came up for repayment.
But the bank made no commitment to relend them the money. So the borrower faces the risk of being stuck in an expensive hedge for a loan the bank refuses to renew.
In one case that has been settled out of court, the borrower even claimed that their bank had already agreed to cap their monthly loan repayments – meaning there was no need for an interest rate hedge at all.
So far nobody really knows the extent of the problem.
The Financial Ombudsman Service (FOS) and the Financial Services Authority (FSA) have both said that so far they have only received a small number of complaints.
Jeremy Roe, who runs a chain of holiday cottages, founded the Bully-banks campaign website after he said he himself fell victim to mis-selling.
He says that hundreds of aggrieved businesses have registered on his website since it was highlighted by the Daily Telegraph last month, although he has no idea how large the problem could turn out to be.
Many businessmen have been too embarrassed to come forward until now, according to Mr Roe: “People feel like idiots. They feel humiliated for entering into transactions that now seem so obviously inappropriate.”
The banks have not disclosed how many of these interest-rate hedges they have sold to small businesses.
However, our business editor understands that RBS and Barclays – two of the UK’s biggest lenders to small businesses – have sold them to only 5,000 and 2,000 clients respectively.
These figures do not include the much larger number of smaller clients who have been sold “fixed-rate loans”, which effectively packaged together a normal loan and with an interest-rate hedge.
“Talk to the bank,” says James Ducker of Benchmark Treasury Pricing, a financial adviser specialising in these hedging products. “Try to negotiate. It may not work, but it is always worth trying first.”
Mr Roe of Bully-banks has been encouraging his new members to write to people – to the FSA, the Treasury, the Financial Ombudsman Service (FOS) and their MP.
He describes his campaign as “embryonic”, and says they need to increase their numbers to the thousands to make a difference. “Information and numbers are power,” he says.
He recommends businesses collect as much documentary evidence as possible – legal documents, sales materials provided by the banks, and email records.
He also points out that borrowers have a right to demand that their bank provide them with transcripts of any telephone conversations they have had with bank representatives, which the banks routinely record.
The FSA first looked into the issue two years ago, following a handful of individual complaints. Banks were asked to tighten up their practices as a result.
Following recent investigations by the Telegraph – including the revelation last month that Barclays had told clients withhold information from the FSA – the regulator is reviewing the issue again.
The BBC understands that this review is at an early stage, but that the FSA does not expect any investigation to reach the scale of last year’s Payment Protection Insurance scandal.
One of the biggest problems facing businesses is that the “Interest Rate Swap Agreements” they have been sold are very complicated – both legally and financially – and are beyond the understanding of many otherwise experienced solicitors and financial advisers.
The Bully-banks website provides a forum for businesses to compare notes.
The Consumer Action Group website – a group campaigning against excessive bank charges – has also covered the mis-selling claims extensively on some of its discussion threads.
The FOS will provide free advice, and where there is evidence of misbehaviour, can instruct the banks to pay out up to £150,000.
However, the FOS can only consider the cases of businesses with an annual turnover equivalent to less than two million euros, and with 10 employees or less.
Obtaining legal advice is particularly tricky, according to Abhishek Sachdev of financial advisory firm Vedanta Hedging.
“A lot of law firms and claims management companies have very recently entered this business offering no-win-no-fee deals,” he says. “But often they only have a superficial understanding of the issues.”
Mr Sachdev recommends that aggrieved businesses should speak to more than one law firm, and look for solicitors that have clear prior experience dealing with these types of cases and work with a financial expert in this specific field.
He also points out that anyone considering legal action should make sure to lodge a case before the six-year statute of limitations takes effect.
“It’s all very difficult, as there is no precedent,” says Stephen Rosen, a partner at solicitors Collyer Bristow, who has advised on more than 30 such cases.
Mr Rosen says part of the problem is that the legal costs involved – which can amount to tens of thousands of pounds – are prohibitive for many small clients.
“The bank digs its heels in and brings in a large City law firm,” he says. “The banks are determined that a case shouldn’t go to trial.”
Some small law firms have been unwilling to take up these cases, says Mr Rosen, because of their complexity and because the opponent is too formidable. Meanwhile many bigger firms don’t like handling any litigation against the banks, because the banks are major clients of theirs.
At least two major cases have been settled out of court this year, with the banks asking the plaintiff sign a confidentiality agreement agreeing not to discuss the details publicly.
The main legal grounds for a claim would be a failure by the bank to follow the rules laid down in the FSA’s Conduct of Business Sourcebook and the European Markets in Financial Instruments Directive, or an outright misrepresentation by the bank as to the risks inherent in the transaction.
A key issue is whether the bank can be shown to have been providing advice to the borrower when they sold these products.
The fact that the bank may have earned tens of thousands of pounds in profits on selling these “hedges”, which are now causing financial ruin for many of their business clients, is not of itself legal grounds for a claim.
Interest rates can go up as well as down. Indeed, interest rates cannot go a lot lower – the Bank of England can only cut them a further 0.5% before they hit zero. Rising interest rates can be a real risk for businesses, as they were in the 1970s.
However, financial adviser James Ducker says anyone considering entering into one of these transactions should speak to an expert to get independent advice – so the banks know they cannot charge a huge profit.
“Swaps can be a useful service which to help insulate business customers against fluctuations in interest rates,” according to the British Bankers’ Association.
“As with every other purchase, customers should consider if this is the right product for them, shop around and be sure they fully understand what they are signing up to before making a commitment.”
By Laurence Knight
Business reporter, BBC News