High Court rejects the first IRHP mis-selling claim brought by private persons under Section 138D FSMA

The High Court has rejected the first interest rate hedging product ("IRHP") mis-selling claim brought by private persons under section 138D of the Financial Services and Markets Act 2000 ("FSMA") in the recent case of Ramesh Parmar & Anor v Barclays Bank plc [2018] EWHC 1027 (Ch).

The decision will be of particular interest to financial institutions defending claims relating to the mis-selling of financial products generally, and in particular to statutory claims brought by private persons. The court considered a number of factors which may make for useful comparisons with other cases, in particular in relation to its assessments that there was no advisory relationship and that there was no breach of the Conduct of Business Sourcebook ("COBS") Rule 10 (which applied on the basis that it was a non-advised sale). The factors of potential wider application are discussed in the decision section below. Insofar as two of the claimants' complaints were found to amount to technical breaches of other COBS Rules, the court's decision that no loss flowed from those breaches and therefore the claims still failed, is instructive.

Significantly, the court took a more narrow approach to the use of basis clauses to define the bank/customer relationship as "non-advisory", than has previously been adopted by the courts in the mis-selling context (and in financial markets transactions generally). The courts have consistently found that basis clauses are outside the scope of the Unfair Contract Terms Act 1977 ("UCTA") (and s.3 Misrepresentation Act 1967), as they do not attempt to exclude or limit liability, but rather give rise to a contractual estoppel, which prevents the parties contending that the true state of affairs was different to that agreed in the contract: Crestsign Ltd v National Westminster Bank plc & Anor [2014] EWHC 3043 (Ch). However, in the instant case, the court held that UCTA was irrelevant, because COBS 2.1.2 applied and went further than UCTA to "prevent a party creating an artificial basis for the relationship, if the reality is different". The court therefore held that the bank would not have been able to rely upon the basis clause if it had in fact given advice.

Given the court's ruling that the defendant bank did not give advice, its conclusions on this issue were obiter dicta and therefore do not have precedent value, but may be persuasive in future cases. However, the court's suggestion that COBS 2.1.2 goes further than UCTA is ripe for challenge. It is widely accepted that an attempt to alter the character of a relationship retrospectively through the use of basis clauses is unlikely to avoid the scrutiny of UCTA. Indeed, in Crestsign itself, the claimant submitted that it would be "rewriting history or parting company with reality" to define the relationship as one in which advice was not given. However, the court in that case (properly in our view) highlighted that the line that separates provision of information from giving advice may be a fine one, and this may lead parties to legitimately define their relationship to avoid disputes afterwards, with "no violence" being done to history or reality. With this in mind, there is an argument to be made that COBS 2.1.2 does not go any further than UCTA, and as such the bank should have been able to rely on the basis clause if it had crossed the line into giving 'advice'.

Additionally, and in keeping with other recent authorities, the court held that there was no specific requirement for the bank to disclose its internal credit limits at the point of sale under the COBS Rules for the purpose of demonstrating the breakage costs (see our banking litigation e-bulletin). However, there was a second aspect of the complaint relating to non-disclosure of the internal credit limit considered in this case: the impact of the internal credit limit on the claimants' future borrowing ability. This aspect caused the court more concern. The court commented that there could be factual situations where disclosure would be required under the COBS Rules if the limit would have a significant impact on future borrowing, although this was not the case on the present facts. However, the court does not seem to have been referred to the Privy Council decision in Deslauriers & Anor v Guardian Asset Management Limited [2017] UKPC 34, in which the contrary conclusion was reached (see our banking litigation e-bulletin).

Background

The claimants were longstanding clients of Barclays Bank plc (the "Bank") and ran a small disposable gloves business and a small residential property investment business.

The claimants had no prior experience of IRHPs. However, in May 2006, prior to taking out a third loan with the Bank, the claimants indicated to the Bank that they were interested in taking out a fixed rate loan. The Bank no longer offered fixed rate loans. Instead, the Bank suggested that the claimants could enter into an IRHP to manage their interest rate risk.

The Bank provided a number of different presentations over three years which gave information on a variety of IRHPs (including swaps, caps, collars, enhanced collars and structured collars). Following discussions between the Bank and the claimants, in April 2009, the claimants entered into two ten-year interest rate swaps at a fixed rate of 3.48% (the "Swaps"). Relevant details of the presentations and discussions are considered further in the decision section below.

In October 2012, after the past business review into the sale of IRHPs had been announced by the FCA, the claimants made a complaint about the Swaps. The claimants met the criteria of non-sophisticated retail classified customers and were assessed as eligible for the review. However, the review ultimately concluded that the Bank had met the necessary standards at the point of sale and therefore no redress was due. The claimants subsequently commenced proceedings.

Claim

The claimants initially advanced various causes of action, including allegations of breach of various common law duties of care and fiduciary duties in connection with the underlying sale of the Swaps and/or the conduct of the past business review by the Bank (among others). However, the claimants abandoned these claims and instead focused on a sole cause of action: a statutory claim under s.138D FSMA for several alleged breaches by the Bank of the COBS Rules. The claimants claimed that - but for the alleged breaches of COBS - they would have entered into two interest rate cap products, each for a term of five years at a rate of 4.5%.

Decision

The principal issues which arose for consideration were:

1. Was the sale advised or non-advised?
2. Did the Bank fail to comply with either COBS Rule 9 (if it was an advised sale) or COBS Rule 10 (if it was a non-advised sale)?
3. Could the Bank rely on 'basis clauses' in its contracts with the claimants?
4. Did the Bank comply with various other COBS Rules?

The court cautioned that each case will turn on its own facts and so the findings made may provide limited assistance in any subsequent case. However, there are a number of points of potentially wider application which arise from the court's discussion of these issues, which are explored in further detail below.

1. Was the sale advised or non-advised? 

   The court stated that, in order for the sale to be advised, there must be "a value judgement", "an element of opinion" or "advice on the merits" on the part of the Bank, in keeping with the principles established in Rubenstein v HSBC [2011] EWHC 2304 (QB) and Zaki & Ors v Credit Suisse (UK) Ltd [2011] EWHC 2422 (Comm). The court noted that the test was an objective one, namely, having regard of all evidence in the factual circumstances of the case: "has there been advice or simply the giving of information?" (as per Thornbridge Ltd v Barclays Bank plc [2015] EWHC 3430 (QB)).The court concluded that the sale was non-advised and that COBS Rule 9 was not engaged in the circumstances. In reaching that conclusion, the court relied on the following factors:

   • The fact that the claimants had a relationship of trust with their relationship managers at the Bank did not mean that the relationship managers were dealing with the claimants as advisers.
   • The absence of an external independent adviser did not necessarily mean that the Bank's representative was giving advice to the claimants.
   • References in the presentations provided to the claimants to "Barclays Capital's unrivalled depth of expertise and providing strategic FC to Corporate Risk to the UK Market Place" and the words "Corporate Risk Advisory" beneath the Bank representative's name, by themselves did not mean that the Bank was giving advice to the claimants in relation to the IRHPs.
   • Generally, to constitute a recommendation, the recommendation must have been made in respect of a particular product (and not interest rate management generally). The fact that the claimants were given information as to the pros and cons of various IRHPs by a specialist in the field authorised by the FCA to do so, in itself did not make the Bank's representative an adviser, particularly as he did not promote one IRHP over the other.
   • The use of phrases such as "bespoke", "our more popular solutions", and "tailoring the protection" in literature or communications did not mean that advice had been given.
   • It was clear from the evidence that the claimants' decision to enter into the Swaps (rather than the cap product) was not based on a recommendation from the Bank's representative, but was because the claimants did not wish to pay a premium, having considered all the information available.
2. Did the Bank fail to comply with either COBS Rule 9 (if it was an advised sale) or COBS Rule 10 (if it was a non-advised sale)? 

   As the court found that there was no advisory relationship, it was not strictly necessary to consider the effect of COBS Rule 9 and whether the Swaps were suitable. However, the court went on to do so, and found that even if COBS Rule 9 had been engaged, the Swaps would have been suitable for the claimants in the circumstances.The court therefore considered compliance with COBS Rule 10 (the obligation to assess the appropriateness of the product), which applied because the court held that the sale was non-advised. The claimants alleged that the Bank was in breach of this rule by failing to carry out an adequate fact finding exercise, so as to ensure the claimants had the necessary understanding of the risks involved in relation to the IRHPs. The court rejected this claim and found that the fact-finding exercise carried out by the Bank had been sufficient, despite the Bank conducting the exercise incrementally.

3. Could the Bank rely on basis clauses in its contracts with the claimants?The Bank took the position that even if it had been found to have given advice, it could rely on certain 'basis clauses' in the contractual documentation. The Bank submitted that similar or near identical clauses to those in the present case had been considered by the court in mis-selling cases, and repeatedly found to be 'basis clauses' rather than exclusion clauses, and therefore beyond the remit of UCTA (for example, in Crestsign). The Bank submitted that there was no distinction to be drawn between the words used in s.3 UCTA and those used in COBS 2.1.2. The latter prevents any attempt by a firm "in any communication relating to designated investment business seeking to (1) exclude or restrict; or (2) rely on any exclusion or restriction of; any duty or liability it may have to a client under the regulatory system".

   The court rejected the Bank's submission on this issue and instead found that UCTA was irrelevant. The court held that COBS 2.1.2 went further than s.3 UCTA, in that it "prevent[ed] a party creating an artificial basis for the relationship, if the reality is different". Accordingly, had the Bank in fact given advice, the Bank would not have been able to rely on the disclaimers in the contractual documentation in question or any similar statements in the presentations provided to the claimants to negate this. Such clauses would be void under COBS 2.1.2.

4. Did the Bank comply with various other COBS Rules? 

   The other aspects of the claimants' claim centred on allegations that the Bank had failed to provide sufficient information to the claimants in relation to three principal matters, and thereby failed to comply with various other COBS Rules.Potential magnitude of break costs

   The claimants argued that the presentations provided by the Bank failed to give a sufficient explanation of the potential magnitude of break costs. The court rejected this argument, instead finding that the Bank provided the claimants with both qualitative and quantitative illustrations of potential break costs and the documentation made it clear that break costs would depend upon market conditions at the time of termination. Further, on the evidence before the court, the claimants clearly understood the nature, effect and possible magnitude of break costs.

   The court did, however, find that the following wording in the presentations was misleading: "cancelling the contract may result in either a breakage cost or a breakage gain. The principles of the calculation are the same as for traditional fixed rate loans". The court accepted the claimants' submission that the principles were in fact wholly different. The court held that this amounted to a breach of COBS Rules 2.2.1, 4.2.1, 4.5.2 and 14.3.2. However, the claimants had not in fact been misled and therefore no loss flowed from those breaches.

   True value of the cap product in comparison to the Swaps 

   The claimants argued that in the presentations provided to them, and in their discussions with the Bank's representative, the Bank failed properly to identify the true value (in terms of potential future gains and offset of the initial premium) of the cap product in comparison to the Swaps.

   The court found that the Bank failed to state in the written presentations that there could never be a break cost in relation to the cancellation of a cap. It held that this flaw amounted to a breach of COBS Rules 4.5.6 and 14.3.2. However, as the claimants were well aware of the fact that a cap would not involve break costs (from discussions with the Bank) by the time they decided to enter into the Swaps, no loss flowed from the breach.

   Disclosure of the existence of the Bank's internal credit limit 

   The claimants argued that the Bank should have disclosed the existence of its credit equivalent exposure ("CEE") limit in relation to the Swaps, and its potential impact on the claimants' ability to obtain further borrowing in the future. There were two distinct aspects of this complaint: (a) disclosure of the CEE limit would have effectively demonstrated the potential breakage costs; and (b) the CEE limit imposed a hidden fetter on the claimants' credit and therefore their ability to borrower further sums.

   In keeping with the Court of Appeal's recent decision in Property Alliance Group Limited v The Royal Bank of Scotland plc [2018] EWCA Civ 355 (see our banking litigation e-briefing), in which the Court of Appeal found that there was no obligation on the defendant bank to disclose its internal credit limit at the point of sale, the court held that it was not necessary for the Bank to disclose the existence of its CEE limit to meet its obligations under the COBS Rules in this case. The Bank could discharge its COBS obligations to explain potential breakage costs by giving adequate examples, and discussing them with the client (as in the instant case).

   The court said that the decisions in PAG (and five other first instance authorities) as to why there was no obligation to make such disclosure, were instructive. This was notwithstanding the fact that those cases were not specifically concerned with whether or not there had been compliance with the COBS Rules. In PAG, it was found that the CEE equivalent could not have been expected to have been revealed, as it was the product of the subjective view of the lending bank about possible movements in interest rates in the future and the length of the outstanding term of the swaps at the time of the break.

   However, the impact of the CEE limit on the claimants' future borrowing ability caused the court more concern. The court understood that the CEE was not a credit line capable of being utilised by a customer, but was a factor taken into account when the Bank determined whether to grant the customer further lending. On the evidence, the CEE in the instant case had no impact whatsoever on the claimants' ability to borrow further funds from the Bank. However, the court commented that there may be other factual situations where the CEE limit could have a significant impact on future borrowing and should be disclosed in order for the financial institutions in question to comply with the COBS Rules.

Conclusion

This is largely another welcome decision for financial institutions involved in IRHP (and other mis-selling) claims. In particular, it highlights the relative similarity in the approach of the court in considering claims brought by private persons and other persons that do not qualify under s.138D FSMA. There is still no single reported case involving allegations of the mis-sale of IRHPs in which a claimant has succeeded at full trial. Although obiter, it remains to be seen whether the court's comment on the need to disclose the CEE will be followed in future decisions.