Just how safe is our savings safety net?
I usually give warnings about shady stockbrokers, ‘easy money’ schemes and rip-off investments that promise the world. This time is different. There’s still a warning, but it’s about gaps in the Financial Services Compensation Scheme (FSCS), the safety net that we would come to rely on should any licensed British financial business goes bust.
The near-collapse of Northern Rock turned the spotlight on the compensation scheme last year. Many people realised for the first time that they could lose hundreds – or even thousands – of pounds, because the scheme paid out only a percentage of the losses and not every penny, and there was a ceiling to the amount anyone could claim.
The government and the Financial Services Authority (FSA) did a quick bit of tinkering and changed the rules. So if a bank or building society goes broke, savers could claim 100% of their money up to £35,000. In October 2008, this limit was increased to £50,000 to calm fresh fears of bank safety.
This will cover most savers without any problem. And big savers can spread their money across a variety of separately licensed banks to ensure that all their savings are protected.
However, there are three gaping holes in this system that hardly anyone knows about.
The first is that anyone buying or selling a house is likely to have far more than £50,000 zipping through the banking system on moving day. Imagine the nightmare you could face if your bank closed its doors on that very day and you couldn’t complete your purchase. A promise of £50,000 compensation to be paid months later would not be much consolation if you and all your furniture were out on the street.
The second loophole applies to executors and administrators winding up the estate of someone who has died. Their job often involves turning the deceased’s assets into cash for payment to beneficiaries. The cash is held in an estate bank account, awaiting distribution. If the bank failed, and the money was lost, the executors could find themselves sued by the beneficiaries for having chosen the ‘wrong’ bank.
However, it’s the third and final gap that’s potentially the most serious. Billions of pounds have poured into self-invested personal pensions (SIPPs) since the rules were simplified in 2006. As company final salary schemes have closed, SIPPs have soared in popularity. But what would happen if something went wrong and a SIPPs manager collapsed? In theory, pension investments should be held separately from the manager’s own business assets, yet how many times have such safeguards proved less than reliable in practice?
The blunt fact is that SIPPs are a very long-term investment.
A young person starting a SIPP today could well be looking at a pension pot worth half a million pounds or more in the run-up to retirement – if the cash turned out not to be there on retirement day, compensation of £50,000 would not even scratch the surface.
There’s no easy answer to these issues. For executors and homebuyers, the authorities are likely to recommend insurance to bridge the gap between the compensation limit and the amount at risk. But no one has yet devised a solution for SIPP-savers, though the government is hoping to come up with a solution.
In some ways, this warning is more serious than usual. It’s easy to think we’re safe when we deal with a group that’s been vetted and licensed by the FSA, partly because we believe the compensation scheme will pick up the pieces if anything goes wrong. Sadly, however, this isn’t the whole truth.
Tony Hetherington is Consumer Champion of the Year 2007
Like a self-select ISA but for pensions, self-invested personal pension is a registered pension plan that gives you a flexible and tax-efficient method of preparing for your retirement. It gives you all sorts of options on how you put money in, how you invest it and how it’s paid out and offers a greater number of investment opportunities than if the fund was managed by a pension company. SIPPs are very flexible and allow investments such as quoted and unquoted shares, investment funds, cash deposits, commercial property and intangible property (i.e. copyrights, royalties, patents or carbon offsets). Not permitted are loans to members or people or companies connected to the SIPP holder, tangible moveable property (with the exception of tradable gold) and residential property.
The Financial Services Authority is an independent non-governmental body, given a wide range of rule-making, investigatory and enforcement powers in order to meet its four statutory objectives: market confidence (maintaining confidence in the UK financial system), financial stability, consumer protection and the reduction of financial crime. The FSA receives no government funding and is funded entirely by the firms it regulates, but is accountable to the Treasury and, ultimately, parliament.
Everything you own: all your assets (property, cars, investments, savings, insurance payouts, artwork, furniture etc) minus any liabilities (debts, current bills, payments still owed on assets like cars and houses, credit card balances and other outstanding loans). When you’re alive this is called your wealth; when you’re dead, it becomes your estate.
This is a mutual organisation owned by its members and not by shareholders. These societies offer a range of financial services but have historically concentrated on taking deposits from savers and lending the money to borrowers as mortgages, hence the name. In the mid-1990s many societies “demutualised” and became banks. One academic study (Heffernan, 2003) found demutualised societies’ pricing on deposits and mortgages was more favourable to shareholders than to customers, with the remaining mutual building societies offering consistently better rates. In 1900, there were 2,286 building societies in the UK; in 2011, there are just 51.
The Financial Services Compensation Scheme is the compensation fund of last resort for customers of authorised financial services firms. If a firm becomes insolvent or ceases trading, the FSCS may be able to pay compensation to its customers. Limits apply to how much compensation the FSCS is able to pay, and those limits vary between different types of financial products. However, to qualify for compensation, the firm you were dealing with must be authorised by the Financial Services Authority (FSA).