Articles

Bank Charges: OFT -v- Abbey National Plc & Others

Release Date:	03 April 2008
Author:	Masoud Zabeti

Introduction

Over the past couple of years, “bank charges” have come under sustained attack.  Spurred on by consumer groups, ‘claims specialists’, the press and regulators, consumers have reclaimed from retail banks and building societies hundreds of millions of pounds in charges.  The banks are reported so far to have paid out £560m to the hundreds of thousands of customers claiming the return of fees charged to them for unauthorised overdrafts.[1]  The sheer volume of these claims, which have become unmanageable for all concerned in dealing with them, has prompted the Office of Fair Trading (“the OFT”), seven leading banks and a building society[2] (“the Banks”) to seek determination of the main legal issues through the courts by way of a test case (“the Test Case”).  So where did this all start?

Background

In April 2006, following an investigation, the OFT issued a statement[3] setting out its position in respect of the fairness of standard terms in credit card contracts imposing default charges[4].  Although not legally binding, the OFT expressed the view that default charges are open to challenge on the grounds of unfairness if they have the object of raising more in revenue than is necessary to recover certain limited administrative costs[5] incurred by the credit card issuer.  The OFT set a threshold of £12 above which it considered default charges to be unfair and below which it considered the charge to be either not unfair or insufficiently detrimental to consumers to warrant regulatory intervention.  The result was an increase in claims by customers against card issuers, but the consequences of the OFT’s statement went much further.

In its position statement the OFT expressed, what has been described by the Banks, as an “ill informed” opinion.[6]  The OFT stated, “The principles have wider implications for analogous standard default terms in other agreements including those for mortgages, current bank accounts and store cards.”[7]  This statement has vexed banks and building societies who believe it has played a part in a snowballing of claims by customers in respect of other charges, which the Banks argue are applied for services rendered rather than for breach of contractual duty.  

OFT -v- Abbey National Plc & Others Bank Charges

i) Introduction

On 29 March 2007, the OFT announced a study into retail bank pricing,[8] which was to consider “wider questions about competition and price transparency in the provision of personal current accounts and obtain the necessary context for assessing the fairness of unauthorised overdraft charges.”[9] 

However, before the study could be concluded, it quickly became clear that something had to be done about the snowball, which had grown out of control.  Put another way, by Laurence Rabinowitz QC, representing the Royal Bank of Scotland in the Test Case, “A hornet’s nest had been disturbed and something had to be done.”[10]

The retail banks and building societies were inundated by what Mr Rabinowitz QC described as a “torrent of claims” by customers following a “deluge of complaints”.  The level of claims had made it almost administratively impossible for the banks to deal with them.  By this stage, the County Court system had also been clogged up by thousands of these small claims, not to mention the vast number of complaints referred to the Financial Ombudsman Service (FOS). 

With little option, on 25 July 2007, the Banks entered into an agreement with the OFT and the Financial Services Authority (“the FSA”) to take part in the Test Case.  To facilitate the Test Case, the FSA issued a waiver, which came into effect on 27 July 2007.[11]  It allowed banks and building societies to continue applying unauthorised overdraft charges to customer accounts (although one County Court judge held otherwise[12]) while no longer being required to resolve complaints about the charges until “resolution of the test case”.  This was on the condition that banks agreed to do the following:

(i)      communicate clearly with consumers throughout the Test Case process;

(ii)     continue to help their customers avoid incurring unauthorised overdraft charges in the first instance; and

(iii)     continue to deal with hardship cases. 

Unsurprisingly, the FOS soon followed suit.  The courts also announced that they were generally staying claims for recovery of unauthorised overdraft charges until resolution of the Test Case.

Unsurprisingly, the FOS soon followed suit.  The courts also announced that they were generally staying claims for recovery of unauthorised overdraft charges until resolution of the Test Case.

ii) The Issues

On 27 July 2007, the OFT filed and served its Claim Form in the Commercial Court seeking a declaration that the Banks’ current account terms and conditions, and relevant charges are not excluded from an assessment for fairness under the Unfair Terms in Consumer Contract Regulations 1999 (“the UTCCR”).[13] 

The Banks counterclaimed in September 2007 seeking declarations of their own.[14]  The Statements of Case indicate the main issues to be resolved by the Test Case are:

(i)         whether the relevant terms in the Banks’ terms and conditions for current accounts and/or the relevant charges are subject to an assessment for fairness under regulation 5 of the UTCCR;

(ii)        if the relevant terms and/or the relevant charges are subject to an assessment for fairness, whether it should be a precondition to a finding of unfairness for the term or charge to be shown to be contrary to the requirement of “good faith”; and

(iii)       whether the relevant charges can amount to a penalty at common law. 

These three issues are referred to as the Preliminary Issues.  The parties however agreed that depending on the outcome of the OFT’s investigation and the Court’s determination on the Preliminary Issues, the OFT may amend its case to seek determination of the substantive issues of fairness and penalty,[15] as well as to claim appropriate relief against the Banks, such as a declaration, an undertaking to the Court, an injunction[16] or an enforcement order[17].

To allow for necessary analysis, the Banks provided the OFT and the Court with a copy of terms and conditions for relevant accounts and the charges that were in force as at 1 October 2007, as well as a representative selection of previous terms and charges contained in earlier agreements, which are the subject of disputes in the County Courts. 

The Test Case was listed for three weeks before Andrew Smith J, beginning on 17 January 2008.  It was heard in the International Dispute Resolution Centre, although due to the level of interest, there was also an overflow room in which the proceedings were being shown on television screens. 

iii) The Submissions

a) OFT

The OFT submits that the UTCCR apply to the relevant terms found in the Banks’ terms and conditions, as they apply in relation to unfair terms in contracts concluded between a seller/supplier and a consumer (regulation 4(1)). The provisions of the UTCCR, on which the OFT relies include:

(i)         Regulation 5(1), which provides, “A contractual term which has not been individually negotiated shall be regarded as unfair if, contrary to the requirement of good faith, it causes a significant imbalance in the parties' rights and obligations arising under the contract, to the detriment of the consumer”;

(ii)        Regulation 8(1), which provides that an unfair term in a contract concluded with a consumer by a seller/supplier shall not be binding on the consumer; and

(iii)       Regulation 6(2), which identifies two matters to which the assessment of the fairness of a term, in so far as it is in plain intelligible language, shall not relate, which include:

the definition of the main subject matter of the contract; and

the adequacy of the price or remuneration, as against the goods or services supplied in exchange.

The OFT argues that the main characteristics of current account contracts for the purposes of the Regulations are the following:-

(i)        The customer grants the bank a loan, repayable on demand, which the bank credits to the current account.

(ii)       The customer may deposit cash, cheques and other payments.

(iii)       In so far as the account is in credit, the customer has the right to withdraw money.

(iv)       In so far as the account is in credit, the customer has the right to instruct the bank to make payment to third parties[18].  

In the view of the OFT, overdraft facilities do not constitute the main subject matter of current account contracts, but are instead part of the further optional services the banks offer to their customers.  It points out that such further services are not offered as part of all current accounts and are not necessary for the operation of a current account, which can operate without them.

The OFT identified four types of charges applied to customers’ accounts in connection with unauthorised overdrafts.  These include:

(i)       circumstances in which a customer gives payment instructions to a bank where he/she has insufficient funds available to support the debit, but the bank nevertheless agrees to effect payment (Paid Item Charge);

(ii)      returned item fees in respect of cheques, direct debits etc. (Unpaid Item Charge);

(iii)      charges applied daily or monthly for periods in which an account goes overdrawn or exceeds an existing overdraft facility (Overdraft Excess Charge); and

(iv)      circumstances in which a bank honours a cheque issued in conjunction with a cheque guarantee card for which the customer does not have sufficient funds (Guaranteed Paid Item Charge). 

The relevant charges and terms and conditions that provide for them, the OFT argues, are not the main subject matter of current account contracts, but rather are incidental and/or subsidiary terms.  Moreover, acts that the banks perform prior to a refusal to carry out an instruction for payment or withdrawal are not in themselves services that the banks provide to customers.[19]

The OFT therefore submits that on a proper construction of regulation 6(2), the Banks' relevant terms and charges are:

(i)         not in plain intelligible language[20]; and/or

(ii)        do not define the main subject matter of the contract; and

(iii)       do not relate to the adequacy of the price or remuneration, as against the goods or services supplied in exchange. 

Accordingly, the OFT is of the view that such terms, which the Banks describe in their literature as being “fees for a service”, fall to be assessed for fairness under the UTCCR. 

b) The Banks

The Banks have, unsurprisingly, adopted similar submissions to each other.[21]  They identify the services offered to current account holders as including (i) a deposit service, (ii) an overdraft service, and (iii) a payments service.   Overdraft services are then further divided into “advanced overdraft services” (where the customer applies for an overdraft before going overdrawn) and “instant overdraft services” (where a payment by a customer from his/her account causes the account to become overdrawn).

The Banks submit that each payment instruction presented by the customer that, if honoured, would cause the account to go overdrawn (i.e. an instant overdraft request), constitutes a request by the customer to the bank for an overdraft on the terms set out in the account terms and conditions.  These terms, the Banks argue, entitle them to charge customers (i) an instant overdraft request fee, (ii) an instant overdraft monthly fee, and (iii) an instant overdraft interest rate.  Moreover, the Banks argue that the relevant terms and conditions do not characterise any charge as being triggered by a breach of a customer's contractual duty.   

It is on this basis that the Banks submit their charges do not amount to payment of fees for breach of a customer's contractual duty.  In support of this argument, the Banks point out that there is no contractual prohibition on the customer seeking to make a payment from his account that causes his account to go overdrawn or to exceed an overdraft previously agreed with a bank. 

In any event, the Banks argue, their terms and conditions are in plain intelligible language.  They submit that the terms contain express and clearly marked warnings in plain English for customers about the charges and interest that will be applied to their account in respect of instant overdraft requests.  The Banks therefore argue that their terms fall within regulation 6(2)(a) and/or 6(2)(b) of the UTCCR and are therefore not subject to a test of fairness.

In the alternative, the Banks submit that in so far as the charges are payable following breach of the customer's contractual duty, they are not capable of amounting to a penalty at common law where the bank waives any such breach by providing the instant overdraft service.  It is, of course, recognised law that if a sum is payable otherwise than as a result of a breach of contract, the rules on penalties do not apply.[22] 

The Banks further refer to the range of services they offer customers without charge[23] and point out that all services they provide to customers are paid for by customers through a combination of (i) the service fees, (ii) the net interest earned by the Banks in respect of customer deposits, and (iii) the interest charged by the Banks on overdrafts.  The Banks submit that the fee paid by customers in respect of the instant overdraft service forms an essential part of the bargain between the Banks and their customers, and therefore constitutes an integral part of the price for the services provided by the Banks.  As such, the instant overdraft request fee and the instant overdraft monthly fee are remuneration in exchange for the provision of the instant overdraft service and/or current account banking services generally.  

Geoffrey Vos, QC, representing Nationwide Building Society, said during his submissions that overdrafts are a fundamental feature of current accounts. He further explained that bank customers across the country draw on their unauthorised overdrafts to the tune of £600m a day, and this is therefore part of the standard service used by millions of people every year.[24] 

Interestingly, there have been a number of County Court judgments, which have considered some of the issues raised in the Test Case, including Michael Gillin v. Lloyds TSB Bank Plc[25], Kevin Berwick v. Lloyds TSB Bank Plc : Michael Houghton v. Lloyds TSB Bank Plc[26] and Tom Brennan v. National Westminster Bank[27].   In these cases, the Courts found in favour of the banks concerned, generally accepting the sorts of arguments submitted by the Banks in the Test Case (although the Brennan case considered other issues). [28] 

The Courts also considered paragraph 1(e) to schedule 2 to the UTCCR, which sets out terms which may be regarded as unfair including, “terms which have the object or effect of requiring any consumer who fails to fulfil his obligation to pay a disproportionately high sum in compensation”.  However, in the Berwick case District Judge Cooke rejected this argument, ruling that paragraph 1(e) did not apply, because the charges imposed on the Claimant did not amount to compensation for any breach of obligation by him.

Conclusion

Whatever the judgment of Andrew Smith J, there will be an appeal on the Preliminary Issues to the Court of Appeal and beyond.  However, this would still leave the substantive issues to be resolved.  To speed up the process, the Banks have agreed to have all appeals heard on an expedited basis and the OFT has reserved the right to apply for any appeal on the Preliminary Issues to be stayed pending the trial of the substantive issues[29].  Regardless, the final determination of the Preliminary Issues is not expected until next year and it could be a further year before the substantive issues are finally determined.

Depending on the outcome, the ultimate determination of the legal issues, which are likely to be decided by the House of Lords (by then, probably the Supreme Court) could have a significant impact on consumers by changing the way that banks and building societies charge for the provision of banking services.

An adverse decision for the Banks could require them to repay customers as much as £10billion[30].  More importantly, it will put an end to a substantial source of revenue for the Banks who argue that instant overdraft charges form an integral part of the price for the services they provide to customers.  The ultimate outcome might therefore be an end to “free banking”.  Banks and building societies could introduce charges for specific services for which there is presently no charge or monthly/annual fees for the provision of current accounts and general banking services.  

Recent research by Moneysupermarket.com suggests that if banks were to charge every customer for the provision of current accounts, as is done in some other countries, it would cost British consumers an average of £300 a year in circumstances where presently the average cost to the consumer of running a typical UK current account is 70% less than in most other western countries.[31]  While consumer groups rightly argue that the present charging system disproportionately affects those least able to pay, will they be content with banks applying annual fees for the provision of all current accounts?  More importantly, will such an outcome benefit consumers?  The answer will depend on whether one defines “consumers” as those consumers least able to pay or all consumers.

This episode also highlights the problems for all concerned that can be created by ‘the snowball’ and should lead regulators to be more cautious about expressing publicly opinions that can dramatically increase its size and pace.