The Law Spot highlights some legal points of interest / cases / legislation which have arisen during the month in the UK. It is not intended to be comprehensive in any way, merely a summary of a selection of the legal issues which have affected the financial services industry during the period.
Welcome back to readers, following a one-month break in the summer for annual leave which co-included with a quieter time for law updates due to the summer parliamentary recess. This month has a number of articles of interest to bankers and financial services professionals, starting with the Queen’s Speech which was dominated by Brexit-led legislation, and culminating in a special report looking at an emerging and exciting technology; Blockchain.
The Queen's Speech
The mainstay of the Brexit-focused legislation announced by the Queen’s Speech was the European Union (Withdrawal) Bill (the Bill), which will:
- repeal the European Communities Act 1972 (ECA) and convert EU-derived law into UK law from the day the UK leaves the EU (Brexit day);
- create temporary powers to make secondary law, enabling corrections to laws which do not operate appropriately from Brexit day;
- allow changes to domestic law to reflect any withdrawal agreement under Article 50; and
- reproduce the common EU frameworks created by EU law in UK law.
Dentons (2017) report that “other legislation dealing with specific areas such as customs, trade and international sanctions will supplement the Bill”. They note that “most of the law governing the establishment and operation of companies in the UK, although influenced by successive EU minimum harmonisation directives, has remained a matter of domestic law. It is contained mainly in the Companies Act 2006 and the secondary legislation made under that Act rather than the ECA, and so will largely fall outside the scope of the Bill and other Brexit legislation.” However, it will not be as straight-forward for pan-EU/EEA entities and regimes – more information can be found here.
The government also announced that it intends to bring forward proposals to consolidate and strengthen its powers to protect national security. Dentons (2017) state that this is to “ensure that foreign ownership of companies controlling important infrastructure does not undermine British security or essential services. The UK government will have the power to scrutinise significant foreign investment and to intervene in those transactions that raise national security concerns”.
The Future of UK Payments
The Payments Strategy Forum (“PSF”) has published a public consultation titled a "Blueprint for the Future of UK Payments" which notes that although UK payments systems are some of the best in the world, they are no longer fit for purpose due to their age and complexity. The PSF has developed a New Payments Architecture (“NPA”), “which will consolidate and replace the current tripartite system of Bacs, Cheque and Credit and the Faster Payments Service and will be implemented over a five-year period” (Nelson et al, 2017).
Nelson et al (2017) report that the “NPA will operate with a single set of standards and rules, with strong central governance and will be managed by the New Payments System Operator, a newly established conglomerate of the three main UK retail payment system operators; Bacs Payment Schemes Limited, Cheque and Credit Clearing Company Limited and Faster Payments Scheme Limited.”
Key features of NPA include:
- A layered approach, with a ‘thin’ collaborative infrastructure to enable competition and innovation;
- Adoption of the common, international messaging standard, ISO 20022, to enable access, innovation and interoperability, both in the UK and potentially internationally;
- Security and resilience, with financial stability as a key principle;
- The use of ‘push payments’ to enable simplicity and increase customer control; and
- Flexibility built into the design to support a range of new end-user overlay services such as Request to Pay.
The PSF is also concerned with improving trust in payments and has proposed a set of seven solutions. The consultation will look at two of these solutions, namely ‘Payments Transaction Data Sharing and Data Analytics’, which is focused on detecting and preventing financial crime by creating an industry-wide capability.
Public Censure for a Payment System Operator
Staying on the theme of payment services, the Payment Services Regulator (PSR) has published a decision notice issued to the Cheque & Credit Clearing Company Ltd (C&CCC) outlining the reasons behind its decision to impose a public censure on C&CCC for various failures to comply with PSR’s general directions.
The PSR, in common with the FCA, has the option of public censure (amongst other things) as an alternative to issuing a financial penalty. The PSR decided that on this occasion a public censure, rather than a financial penalty, was appropriate for a number of reasons. These included “C&CCC’s admissions to its failures, the company's engagement with the PSR from the outset of the PSR's investigation, the lack of any previous findings of compliance failures against C&CCC, and the fact that C&CCC did not derive any economic benefit from the failures. Furthermore, the PSR noted that there had been no detrimental impact on payment system users, competition, or innovation” (Bonnell and Buckworth, 2017).
Claims Management Companies
More stringent, but welcome regulation is planned for Claims Management Companies (CMCs) with the Financial Guidance and Claims Bill (Bill) which is currently progressing through parliament and which will amend sections of the Financial Services and Markets Act 2000 (FSMA). The Bill transfers regulatory responsibility away from the current regulator, the Claims Management Regulation Unit of the Ministry of Justice, to the Financial Conduct Authority (FCA). Complaints handling responsibility will also move under the jurisdiction of the Financial Ombudsman Service (FOS) enabling the FOS to investigate and determine consumer complaints about the service provided by CMCs.
DLA Piper (2017) argue that the “current regulatory regime has proved itself ineffective, with consumers failing to secure value for money and lenders being confronted by large numbers of entirely speculative claims, with the conduct of claims appearing to be more focused on earning money for the CMC rather than serving the best interests of the consumer”.
However, at present there is no indication how long it will take the FCA to develop an appropriate regime and to carry out a proper consultation before any new rules are implemented. There are also no specific measures in the Bill to deal with CMCs' use of nuisance tactics such as unsolicited calls and texts, although it has been suggested that the FCA's tough regulatory rules on marketing and advertising will automatically provide for such tactics.
Fraudulent Breach of Duty by Directors and the Limitation Period
The Limitations Act 1980 scuppers many a claim by requiring that legal action is commenced within six years of the cause of the claim. Interestingly, the Court of Appeal found in the case of Subsea v Balltec that claims against directors for breach of their fiduciary duties (i.e. duties they owe to the company relating to standard of care) are not subject to the usual six-year limitation period where that breach was fraudulent. It does not matter for these purposes whether or not the breach involved handling any property belonging to the company, and applies equally to executive and non-executive directors.
In the particular case of Subsea v Balltec, a former non-executive director of the company, Mr Emmett breached his fiduciary duties to Subsea by preparing and making of bids for contracts in competition with Subsea. The breaches of duty occurred more than six years before the claim was issued, so would ordinarily be statute-barred under the Limitation Act 1980. However, the trial judge accepted that the claim fell under one of the exceptions from the six-year period, as directors are regarded as trustees for the purposes of the Limitation Act.
This is of interest to corporate relationship managers and sheds light on the duty of care that directors owe to their company. It is not uncommon for former directors’ conduct to come to light sometime after the event, and this case makes clear that it is possible to take action even after lapse of time where there has been a fraudulent breach of the director’s duties.
Debt Recovery Pre-Action Protocol
The 1st October 2017 heralds a big change in debt recovery and collections for consumer and commercial debt with the introduction of the debt recovery Pre-Action Protocol for which was issued by the Ministry of Justice. It applies to any business (including sole traders and public bodies) claiming payment of a debt from an individual (including a sole trader). It is unclear at the moment whether partnerships will be affected, but many firms will choose to encompass partnerships with the new procedure to standardise the process.
The Protocol is designed to encourage early communication between the lender and borrower, and ensure that court proceedings are avoided, where possible. It requires the lender to post a letter of claim to the customer before commencing proceedings, containing prescribed information (Ministry of Justice, 2017) including:
• the amount of the debt;
• whether interest or other charges are continuing;
• details or evidence of how the debt arose;
• a statement of account for the debt, including the amount of interest and any other charges imposed since the debt was incurred;
• details of how the debt can be paid and what the debtor can do if it wishes to discuss payment options.
The lender must forward an information sheet and reply form with the letter of claim. The protocol also lays down when court proceedings may be commenced thereafter.
Special Report- Blockchain
Blockchain is emerging technology with significant application in the financial services sector. A blockchain is:
- a digital database (or ledger);
- distributed across a network of computers (i.e. a decentralised peer-to-peer network); and
- contains data records protected by powerful cryptography against human error, editing, tampering, removal and revision.
Osborne Clarke (2017) explain that “each record (or ‘block’) contains details of a transaction and is time-stamped and associated with certain data that links it to the previous ‘block’ in the chain. When a new transaction takes place, it is authenticated across the network by users known as ‘miners’ (using specialised IT equipment) before being recorded as a new ‘block’ and being made available to view by other members of the blockchain”.
Blockchains can be:
- “‘public‘, for example where used for trading shares; or
- ‘private‘, for example a real estate company’s blockchain that stores title documents of properties.
- permission less or un-permissioned, which allow anyone to contribute data with all participants possessing an identical copy of the ledger; or
- permissioned or private, which allow only specified actors (e.g. banks, approved individuals etc.) to submit transactions and/or validate them across the network. This submission and validation process is achieved via a control layer built into the ledger.”
(Osborne Clarke, 2017).
Blockchain technology is increasing being used in a number of different industries, for example, for example Whomes (2017) reports that “Spotify recently acquired blockchain start-up ‘Mediachain’ Labs to help build more secure, traceable transactional information about its music files”; IBM is investing heavily in the technology and has launched its “Blockchain Founder Accelerator programme for large enterprises, helping them tackle the technology, business and legal issues that come with establishing new blockchain networks” (Whomes, 2017).
Blockchain and Financial Services Organisations
Financial services organisations are also investing in, and utilising blockchain technology. The Bank of England; Westpac and ANZ to name just three have recently announced their engagement with the technology. ANZ and Westpac has used blockchain technology for bank guarantees in a commercial leasing transaction. In such transactions involving guarantees, Baker McKenzie (2017) note that the technology allows “both parties to rely on the shared ledger as a single non-disputable source as to the existence and status of a bank guarantee, saving time and costs in document management and tracking of the guarantee’s status. Encryption of all records on the ledger ensures that only the parties to the transaction can view its contents, maintaining its confidentiality” and overcoming the potential for forgery or loss.
Baker McKenzie (2017) argue that blockchain technology has the “potential to revolutionise how financial institutions record, process, report and verify financial transactions”. They expand on the process, explaining that “nodes across the blockchain network apply every transaction to their copy of the distributed ledger and then pass on that transaction to other nodes, allowing a group of computers to maintain a shared public ledger. The math behind blockchain links all transactions to previous transactions; instead of tracking account balances, blockchain technology uses linkages to previous transactions to verify ownership of funds”.
Blockchain transactions are transparent, accurate, traceable, programmable, accessible, and done in real-time. Baker McKenzie (2017) elaborate on these benefits and identify a number of potential applications for financial Institutions:
• “Accounting & Auditing: Accountants, auditors and other intermediaries could gain unprecedented access to all transactions of an organisation in real-time. Financial corruption and deceitful accounting practices could be avoided as it is not possible to interfere with the transaction record of a blockchain. Whomes (2017) expands, stating that “the technology also presents the perfect solution for combatting fraud. If a transaction within the ledger is tampered with, the chain is broken and the change becomes invalid. This means you can guarantee that any payment record is kept permanently secure and accurate each step of the way”.
• Reporting: Software applications leveraging the blockchain information could change the way companies report, manage, and communicate their financial reporting obligations leading to increased automation, accuracy, and real-time reporting.
• Trading: Blockchain could give rise to instant settlement as there may be no need for third party intermediaries or clearing houses. This would lead to reduced costs and increased liquidity.
• Payment Systems and Fund Transfers: The impact of blockchain technology will be huge for transferring funds between people and institutions, including across borders”.
Whomes (2017) states that blockchain also has significant benefits for consumers of financial services products, highlighting that “the technology holds the key to improving the customer experience. It can streamline and improve banking products, while also – on a broader scale – provide the basis for a complete restructure of how banks use data to offer customers new services. In practical terms, this could mean anything from a new system to help identify bank users and fight fraud, to a cross-border payment platform that facilitates instant low-cost money transfers”.
However, block chain technology also brings its own challenges in terms of information governance:
• Data protection:
- real-time access to transactional information stored on the blockchain third parties would need to comply with data protection legislation;
- blocks in the blockchain are linked together and immutable, which may conflict with the rights of individuals to have their personal data deleted within a specific period of time;
• Other compliance issues: legal and regulatory requirements governing the particular service being used would need to be followed e.g., “record-keeping and reporting for anti-money laundering, tax, banking, securities and payment system compliance. In many cases, the data underlying the digital record will still have to be authenticated and the certain supporting documentation may still need to be stored”;
• Jurisdiction: blockchain networks do not have a specific location, similar to cloud technology creating potential jurisdictional issues;
• Procedural issues: such as the development of standards to define the type and format of transactional information to be stored in the public ledger, and the “evidentiary value and legal enforceability” of blockchain information.
(Baker McKenzie, 2017)
Financial Services Regulation
The FCA, the financial services conduct regulator, is investigating the use of blockchain technology in the industry via various studies, although respondents to an anti-money laundering study expressed some reservations, noting that whilst “distributed ledger technology has the potential to be transformative”, there were a number of specific challenges hindering the adoption of the technology, the most prominent of which was the perceived knowledge gap. The FCA (2017) reported that “respondents felt that a large number of compliance and technology staff in regulated institutions lack the technical expertise to truly consider a distributed ledger solution. Equally there is a view that the FCA lacks experience and capability in this area and firms appear reluctant to build a solution that the regulator might be unable to consider or approve”.