When will the FMA go to court against insurers?
The FMA’s website features six separate guidance notes in which it discusses how it decides when and how to use the regulatory weapons in its armoury. They are as follows:
- Regulatory Response Guidelines (dated 2016). These are intended to describe how the FMA brings enforcement action in response to contravention of the financial markets legislation, outlines its response options, and discusses how it decides upon a regulatory response.
- Enforcement policy (dated 2011 and no longer featured on the FMA’s website, but apparently not subsumed into the Regulatory Response Guidelines as they refer to this policy). This sets out, among other things, the FMA’s enforcement priorities and the factors it weighs in deciding whether to pursue a breach that comes to its attention.
- Co-operation policy (2016). This outlines the circumstances in which the FMA might exercise its discretion to take a lower level regulatory response or no action at all in exchange for information and full, continuing and complete co-operation.
- Prosecution policy (undated). This sets out the FMA’s decision-making criteria to be applied when considering a criminal prosecution.
- Model litigant policy (2013). This policy outlines the FMA’s intended approach to litigation and conducting investigations.
- Strategic Risk Outlook (annual). This identifies, among other things, the FMA’s view of the main risks to, and the opportunities it has for promoting fair, efficient and transparent financial markets, which include enforcement options.
This is a lot of guidance. Key points that may be distilled from it include the following:
- Whether the FMA takes action in a particular case will depend, among other things, upon:
- Its assessment of whether the matter fits within its regulatory and enforcement strategic priorities (including whether the conduct is likely to harm fair, transparent, and efficient financial markets).
- Whether it is of general relevance, rather than a one-off issue or one that is confined to the individual parties.
- Whether the person involved cooperates with the FMA.
- Prospects of success.
- Seriousness of the conduct.
- Whether the conduct can be remedied or undone.
- Other mitigating or aggravating circumstances.
- Whether serious loss has been suffered.
- The wider public interest.
- Whether another agency of the State is better placed to pursue it.
- Whether the FMA has the resources to pursue it in light of its other priorities.
- Where the FMA does pursue a breach, its approach will depend on a number of additional considerations, including the following:
- Demonstrating real and credible consequences of misconduct or non-compliance.
- Being consistent in its responses and in how it uses its regulatory tools.
- Encouraging reporting misconduct, appreciating that a lack of willingness to do so may prevent it from hearing about potential misconduct and harm in the market.
- How best to achieve specific regulatory objectives and whether they can be met by an alternative resolution.
- Whether there is a need to clarify the law.
- Whether there is a need to educate the market and change behaviours.
- The need for deterrence, balanced against whether the defendant may be seen as a ‘martyr’.
- Whether there is an appropriate alternative to litigation available.
- Whether litigation would result in compensation or reparation to affected persons.
Perhaps surprisingly, the FMA indicates in its Regulatory Response Guidelines that if harm has been identified, it “may also take regulatory action of some sort even though no ‘rules’ appear to have been broken”. This seems contrary to fundamental legal principles relating to the rule of law.
A change in approach?
Most insurers are large, professional organisations with sophisticated processes to ensure compliance with their regulatory obligations. Historically, they have had constructive relationships with the FMA, as one of their primary regulators. They are also regulated by the Reserve Bank, as their prudential regulator with responsibility for licensing, solvency and adequacy of reserves.
On the whole, when issues with compliance arise, as they inevitably will when providers serve a large number and variety of customers with a range of complex financial products in a developing regulatory and commercial environment, they have been dealt with in a constructive and professional manner. The financial markets providers and the FMA have generally been focussed upon resolving issues, compensating any customers who have been affected and ensuring that systems and processes are improved to avoid a recurrence.
This was the approach taken when the FMA (and the Commerce Commission, which previously had regulatory responsibility for insurers’ market conduct) entered into a 2016 settlement with Westpac to resolve an issue involving some NZD4 million in fees which had inadvertently been overcharged to New Zealand customers who used ATM machines in Australia. Westpac proactively brought the issue to the regulators when it became aware of it and agreed an appropriate remedy. The matter was resolved without court proceedings and without any penalty on the basis that the bank agreed to pay appropriate compensation to affected customers.
The Commerce Commission, with the FMA’s involvement, entered into a similar settlement agreement with Tower Insurance in 2017 to resolve an issue in which Tower had inadvertently overcharged customers who were entitled to multi-policy discounts by calculating their discounts incorrectly. Tower proactively informed the regulators of the issue when it came to light. The resolution was that Tower would calculate and pay compensation to the affected customers and would make a charitable donation to reflect its inability to reimburse some customers. Again, no proceedings were issued and no penalty was paid.
In both instances, the FMA resolved the issues in a constructive and practical manner, recognising that the bank and the insurer had identified the errors themselves, self-reported them to the regulator and made sensible proposals to compensate affected customers. This responsible behaviour was rewarded with a light regulatory response that did not involve court proceedings or a penalty.
The FMA had previously entered into similar settlement agreements with three banks to resolve claims of misleading conduct with respect to interest rate swaps. In each case the issues were resolved out of court, with the banks making compensation payments to affected customers and without penalties being paid.
Has there been a change?
A different approach appears to have been evident in the FMA’s dealings with insurers more recently. Two cases illustrate this.
In 2019, ANZ Bank proactively informed the FMA that in 2018 it had identified issues with credit card repayment insurance policies that it had provided to some of its credit card customers. The issues related to the inadvertent issuing of multiple policies to a small number of customers and the issuing of policies to an even smaller number of customers who were ineligible because of their age. The errors were inadvertent, and their monetary value was relatively low compared with earlier cases. The bank reimbursed the affected customers in full, with interest. Unlike the previous cases, however, the FMA issued court proceedings against the bank under the misleading conduct provisions of the Financial Markets Conduct Act 2013 (FMCA). The bank admitted the claim in full and agreed to pay an agreed penalty of NZD280,000. While the proposed penalty was agreed in a settlement agreement, as proceedings had been issued, it was imposed in the form of a fine imposed by the court.
A similar approach was taken in a court proceeding commenced in 2021 by the FMA against AIA Insurance. AIA identified and self-reported three issues in 2018 as part of the FMA’s review of life insurers at that time: a purported enhancement of policy benefits, charging premiums after the termination of a policy and treating policies as terminated when they should have remained in force, and incorrect inflation adjustments. AIA admitted the claims in the proceedings and agreed with the FMA a joint penalty recommendation of NZD700,000, which remains subject to a penalty hearing in court.
These examples appear to illustrate a change in the FMA’s approach to cases in which insurers identify an inadvertent error that has disadvantaged customers, act prudently and openly to remedy it and self-report the issue to their regulator. Prior to 2019, the FMA’s approach was to resolve these matters with an agreed compensation process and undertakings to ensure that the problems did not recur. Now, it appears more likely that the response will be to rely upon the insurer’s self-reported admissions to issue proceedings, in the knowledge that the insurer will not defend them and a judgment will be issued.
Such a change would be consistent with the FMA’s statements in its 2019-20 annual report, which included a statement that financial services firms should expect a more robust enforcement response, as the new financial services regulatory regime matured and firms had had an opportunity to become aware of their new regulatory obligations. This would also be consistent with one of the FMA’s strategic priorities being to maintain a credible deterrence effect through enforcement action.
This apparent change in approach also came at a time in which the FMA’s funding for litigation was tripled. The FMA exceeded its litigation budget in the 2019 financial year, spending almost NZD3 million against a budget of NZD2 million. For the 2020 financial year, the Government tripled the FMA’s litigation funding budget to NZD6 million. A report by PwC observed that they expected to see relatively more of the budget directed to investigation and enforcement over coming years.
More generally, the Government’s 2020 budget nearly doubled the FMA’s overall funding, increasing it in increments over three years by an additional NZD24.8 million per annum to a total of NZD60.8 million, with the majority of the increase coming from increased levies upon insurers and others in the financial sector. An MBIE discussion paper released in January 2020 identified a number of reasons for the budget increase. One reason identified was an increase in the number of potential breaches identified, requiring additional resource for enforcement activity, and that financial services providers’ systems, controls and governance around conduct risks was lower than expected, so there was an increased need for investigation and enforcement activity by the FMA.
A change in the FMA’s enforcement approach from a constructive and cooperative approach to resolving unintended process or systems issues to one in which court proceedings will be issued as a matter of course against insurers who have acted prudently to remedy issues, compensate customers fairly and proactively report the issues to the FMA, may have unlooked-for consequences. The FMA identify one such consequence in their own guidance note, which is that it may discourage insurers and other market participants from reporting misconduct, so that the FMA may learn less about potential misconduct and harm in the market. Another may be that insurers become less willing to proactively compensate affected customers except as part of a settlement with the FMA because they see that as a potential bargaining chip to use with the FMA to avoid court proceedings and a financial penalty.
Insurers may wish to reflect upon whether their regulatory environment has changed and what this may mean for their engagements with the FMA. While we do not expect that insurers will withhold information that they are obliged to provide, some may wonder whether more cautious and less open engagements in some respects may be appropriate. It will be interesting to see whether any changes and developments that occur will assist the FMA in achieving its regulatory objectives.