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Bank of Ireland has shrunk its retail UK loan book by almost a third to €16 billion since the onset of the pandemic four years ago, as it pursues a “value over volume” strategy in a cut-throat market.
This saw the group back out of the mass-mortgage market in favour of a higher-margin “bespoke” offering, such as larger-value and equity-release loans, and getting out of unsecured personal finance. It has ripped up a 20-year financial services partnership with the UK Post Office in the process to reduce it to offering savings products.
The retrenchment continued this year when the bank put its €2 billion-plus British corporate and commercial loan book into winddown.
One business line never in danger was Northridge Finance, the bank’s UK car finance unit, which has a €3 billion loan book against more than 12 million vehicles – accounting for 2 per cent of that market.
It’s a jewel in what remains of the bank’s crown in the UK. Northridge, based in Belfast, made net profit last year of £39.9 million – equating to 1.5 per cent of its total assets. That was 50 per cent higher than the wider group’s return on assets in an exceptional year amid elevated interest rates. It was also more than double the average 0.7 per cent rate of European Union banks, according to European Banking Authority (EBA) data, which itself was the highest since before the financial crisis.
But the unit has been caught up since January in an industry-wide review by the UK Financial Conduct Authority (FCA) into whether UK motor finance customers were being overcharged because of historical use of discretionary commission arrangements (DCAs) between car dealers and lenders. The investigation covers 14 years before such arrangements were banned in 2021 in the market.
DCAs involved lenders setting a minimum rate for car finance but giving brokers, typically forecourt salespeople, the discretion to set higher rates. Commission paid by the lender was linked to rates charged – meaning the higher the rate the car buyer pays, the more the broker gets.
While the FCA originally planned to outline its next steps in September, it has pushed the timeline out to next May as lenders struggled to provide all the data required.
Meanwhile, a landmark court of appeals ruling in London last week on three test cases – involving Lloyds Banking Group’s Black Horse motor finance arm, the largest player in the market; merchant bank Close Brothers; and a unit of South Africa’s FirstRand Bank – has set the sector spinning.
The court said it was unlawful for a car dealer to receive a commission from a motor finance lender, if the customer had not given informed consent. This has set a bar higher than required by the FCA.
It ruled that the brokers (motor dealers) had breached a common-law fiduciary duty to act in the best interests of customers and put themselves in a position of conflict. The three lenders have been ordered to repay the commissions to the borrowers.
[ Bank of Ireland pauses new UK car finance offers after shock industry rulingOpens in new window ]
While at least two of the lenders are planning an appeal to the supreme court, the decision puts the FCA in a bind, too.
The chief executive of the authority, Nikhil Rathi, seemed confident when he said in May that the car finance examination was unlikely to mirror the UK payment protection insurance scandal that led to banks paying out almost £50 billion.
The ruling has undermined this. As it stands, the current ruling piles pressure on the regulator to impose a large compensation scheme on lenders. But how can the FCA announce its findings until there is legal certainty on the test cases?
RBC Capital markets analysts hiked their total costs estimates in recent days for car finance lenders, led by Lloyds’s Black Horse, which they now reckon faces having to set aside £3.2 billion of provisions to cover customer redress, fines and administration expenses.
They estimate Bank of Ireland now faces some €950 million of costs – almost five times what they believe to be the current consensus figure.
It’s also a multiple of the total €340 million costs Bank of Ireland stomached for its role in the tracker mortgage scandal – the biggest overcharging affair in Irish banking history.
“The emerging view is that pre-existing analyst estimates for motor finance provisioning are much too low,” said John Cronin, a banking analyst and author of online newsletter Financials Unshackled.
“There are also concerns in relation to other pockets of the retail lending market in the wake of the court decision. For example, almost 80 per cent of UK mortgages are written through brokers – and this higher bar in terms of brokers owing a fiduciary duty to their customer could potentially have implications for mortgage lenders too.”
As much as €600 million has been wiped off Bank of Ireland’s market value since the ruling – though it has rallied off its lows in recent days. By contrast, its main domestic rival, AIB, has risen over the period.
The bank has not commented beyond saying it is monitoring developments since the ruling and confirming that Northridge temporarily paused lending this week, as firms in the sector scramble to update process and systems in light of the judgment.
The Central Bank of Ireland, meanwhile, brought in a ban on DCAs in the Irish market in July, two years after consumer hire and hire purchase activities became regulated in the State.
“We continue to monitor the market as part of our ongoing supervision, but as we have not seen customer complaints about the practice we are not currently planning to carry out a look-back review,” a spokesman said.
For now, at least.