FSA fines Bank of Scotland 750,000 for maladministration of PEPs and ISAs

The problems were caused by systemic failings in controls and inadequate staff training. BoS have now addressed these weaknesses and are paying compensation where this is due.

Andrew Procter, Director for Enforcement at the FSA says:

"Investors are entitled to be confident that their funds are being accurately administered. This case demonstrates why regulated firms must have good processes and procedures in place to ensure that this happens. The combination of inadequate controls and the lack of staff training were a systemic weakness in Bank of Scotlands PEP and ISA department. Such systemic weakness not only puts investors at risk but also increases the risk of fraud going undetected. Good systems on the other hand make for good consumer protection as well as good commercial sense. In the current difficult climate some firms may be tempted to cut back on investment in back office systems - this would be extremely short-sighted."

The FSA considers these failings to be particularly serious because BoS:

• had a large customer base so that substantial failings exposed a large number of its PEP and ISA customers to potential loss;

• had experienced similar reconciliation issues with its previous PEP system, but despite this implemented the new system in such a way as to let old problems re-occur;

• management failed to ensure that training needs for staff were met although internal audit reports between December 1999 and November 2000 had stated that relevant staff lacked knowledge and required training;

• had not realised that under its own procedures on operational losses, compensation might be due to some customers. In the even the amount of compensation payable turned out to be very small because of the general fall in the value of shares during this time. 5,549 customers are due 10,350 compensation. In different circumstances the amount could have been much higher.

• failed to inform the regulator when system problems (outstanding cash reconciliations) increased to levels above those that had earlier caused concern, despite being asked by the FSA to keep it informed if the problems escalated. In June 1999 FSA staff had signalled concern at a backlog of reconciliations in the region of 400. By May 2000 this backlog had reached approximately 10,000;

• did not provide the regulator with all relevant documents until a year after they had first been requested.

Additional problems occurred in February 2000 when some investors were sent statements containing errors. In some cases BoS failed to send investors statements that they should have been sent.

In April 1999, BoS started using a new computer system to manage and process ISAs. This system was not fully automated, so staff had to spend considerable amounts of time manually processing items. Despite this BoS transferred 38,000 PEPS onto this new system later in the year. This substantially increased the time that BoS staff had to spend doing manual processing, leaving them with insufficient time to deal with other issues such as items that did not reconcile between different cash accounts. As a result the outstanding items from reconciling cash accounts increased to unacceptable levels meaning that BoS could not be sure that it knew how much money it held on behalf of individual customers. These problems also resulted in 19,000 material transactions being processed late on customer accounts.

The FSA has accepted that BoS did not deliberately contravene the relevant regulatory rules and has co-operated with the FSA.

Notes for editors

1. The relevant former FSA principles which regulated firms had to observe were as follows: Former FSA Principle 2 stated A Firm should act with due skill, care and diligence. Former FSA Principle 9 stated A Firm should organise and control its internal affairs in a responsible manner, keeping proper records, and where the Firm employs staff or is responsible for the conduct of investment business by others, should have adequate arrangements to ensure that they are suitable, adequately trained and properly supervised and that it has well-defined compliance procedures.

2. Before 1 December 2001 one of BoSs regulators was IMRO. The applicable IMRO rules were: Chapter II Rule 4.5(1) Subject to Rules 4.5(2) to (8), a Firm which acts as an Investment Manager for a Customer must ensure that he is sent at suitable intervals a report stating the value of the portfolio or account at the beginning and end of the period, its composition at the end, and, in the case of a discretionary portfolio or account, changes in its composition between those dates.

   Chapter VI Rule 2.1(5)(a): Without limiting a Firms specific obligations to provide information under the Rules, each Firm must keep IMRO promptly and fully informed of any material matter directly affecting the Firm, its permitted business or any other activities affecting such business, of which it is aware and which any reasonable person would consider to be relevant in consideration of the Firms position under the Rules, or otherwise as a firm regulated by IMRO.

   Chapter VIII Rule 4.3(2): Subject to any direction of the Enforcement Committee, if it appears to the Investigating Team that the Firm or any Related Company of the Firm or any Associate of the Firm or of any such Related Company, has or may have in its possession, custody or control, any documents, any other material or any information relating to any matter being investigated or relevant to an Investigation, the team may require the Firm, within such time as may be specified in a notice to the Firm:

   (b) to produce to the team any such documents and other material in the Firms possession, custody, power or control, or to disclose to the team all such information and, if any such documents or material cannot be produced or if such information cannot be disclosed, the team may require the Firm to state, to the best of its knowledge and belief, where and in whose possession, custody, power and control they are.

3. The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000: maintaining market confidence; promoting public understanding of the financial system; the protection of consumers; and fighting financial crime.

4. The FSA aims to maintain efficient, orderly and clean financial markets and help retail consumers achieve a fair deal.