What could recent cases mean for the liability of banks to customers?

One of the many banking conduct scandals of the past few years is the mis-selling of interest rate hedging products to business banking customers, including small businesses. This has resulted
in considerable litigation and some potentially important decisions regarding the law on the liability of banks to customers.

The Financial Conduct Authority (FCA) has acknowledged the failings of the banks in this area and formally commenced a full review scheme for certain banks in May 2013. According to the FCA website, 18,100 redress determinations have been sent to customers, with 14,600 of those including
a cash offer and 3,500 confirming that the sale had complied with the FCA rules and no loss had been suffered. Around £2bn has been paid out.

However, the scheme only applied to 'unsophisticated' customers (as defined by the banks and the FCA) and so litigation remained the only option for many of the businesses affected.

Mis-selling claims

The appeal pending in Crestsign v Royal Bank
of Scotland (RBS) [2014] EWHC 3043 (Ch) could
have widespread implications for investment
and derivative mis-selling claims, and the liability of banks to their customers and investors in general.

Crestsign argued that RBS had failed in its duty
of care to provide advice in relation to an interest rate swap that the company entered into with
the bank, associated with its lending. During
the sales process, a director and shareholder of
the company, Mr Parker, confirmed that he did
not really understand hedging products.

After an initial meeting to discuss the products, at which RBS provided advice, the company was sent RBS's terms of business and stand-alone derivatives terms, which included clauses stating that RBS was a non-advisory dealing service and would not advise on the merits of a transaction.

The focus of the arguments was on whether the bank should be entitled to rely on these
disclaimers to absolve it from liability for what would otherwise have been negligent advice and information. The bank's argument was that these clauses are basis clauses, rather than exclusion clauses. Crestsign countered that the clauses were so inconsistent with the reality of the situation that they were in fact exclusion clauses, which would be subject to the Unfair Contract Terms Act 1977 and would be considered unreasonable under this test.

The court held that the bank had advised Parker. However, despite the fact that the terms and conditions were provided after the initial discussions, when the advice was given, the court decided that because they were provided before the transaction was concluded these documents did not rewrite history, were effective, and therefore the question of reasonableness did not arise.

The case seems to highlight a lacuna in the
law which allows banks to avoid falling under
the Unfair Contract Terms Act, which is intended
to prevent unreasonable exclusions of liability,
and therefore being found liable for negligence. Crestsign seeks to address this issue on appeal,
as it seems wrong that banks should be able to rely on clauses which they know do not reflect reality in order to avoid liability.

If the Court of Appeal finds in Crestsign's favour, the decision will be applicable to other forms of hedging, such as foreign exchange hedging, which have also been sold widely to businesses in similar circumstances, and also for other derivatives and investments generally.

Many of the customers who were eligible
for the review of sales of interest rate hedging products required by the FCA are unhappy with the outcome, as often customers are offered no redress, or redress based on a replacement product which they do not agree fully compensates them for their loss. The banks have so far paid out relatively little by way of consequential loss.

Customers argue that there has been a breach
of duty in the way the review was implemented and that it did not follow the FCA's requirements. The recent judgment on an application to amend the particulars of claim in Suremime v Barclays Bank [2015] EWHC 2277 has provided some hope in
this respect, as Judge Havelock-Allan QC found that it was 'more than merely arguable that, when [Suremime] agreed to engage in the process, [Barclays] undertook a binding obligation to conduct the FCA review with reasonable care and skill and/or in accordance with the specification
for the FCA review that had been agreed with the [Financial Services Authority]'.

This argument has not yet been tested in a final decision hearing but, if accepted, it could have major implications for the way any similar review schemes are handled, for example if such a scheme were to follow the long-awaited FCA report regarding RBS's controversial global restructuring division.

Another pending decision - which may benefit small business customers in particular - is the Court of Appeal's examination of who is entitled to bring a claim for a breach of statutory duty over the breach of the FCA's rules under section 138D of the Financial Services and Markets Act 2000 (FSMA).

In Titan Steel Wheels v RBS [2010] EWHC 211 (Comm), it was held that companies were excluded from bringing this claim, even if the transaction was only a 'one off', because they were not 'private persons' within the meaning of FSMA. However, Lord Justice Kitchen has granted permission to appeal on this point, among others, in MTR Bailey Trading v Barclays Bank [2015] EWCA Civ 667, and so the developments in this case will be watched with interest.

Loss calculations

Another common form of interest rate hedging sold by banks to customers is a fixed rate loan with a break cost or early repayment charge, which is based on an 'embedded swap', meaning that the termination provisions state the bank can claim
the cost of unwinding hedging transactions it had made for its own hedging purposes associated with the loan. These arrangements were particularly common when the customer was a smaller business or a business borrower from a building society. The effect is intended to be that the customer pays a break cost equivalent to having had an interest rate swap (or other interest rate derivative) and breaking it when it prepays the fixed rate loan before the end of the term.

However, further investigations will need to be carried out when considering the calculation of these losses in light of Barnett Waddington Trustees v RBS [2015] EWHC 2435 (Ch). In this case, the bank had requested a break cost of around £2.4m for unwinding its internal swap (made between two RBS departments) when the claimant sought to break the loan early. The High Court held that a swap between two departments of one legal entity could not be considered a 'funding transaction' under the specific wording of the early repayment costs provision and the evidence provided by RBS was insufficient to show an actual loss.

The wording used in clauses dealing with break costs can vary between banks, and even within banks, over time. There are also a large number of variations in banks' procedures for internal and external transactions with this type of fixed rate loan, so claims will have to be dealt with on a case-by-case basis. It is advisable that customers ask the bank to prove how any break cost being claimed has been calculated and for proof of any other associated costs. It can then be determined whether these are recoverable in light of the wording within their contract.

Libor manipulation

We are instructed in Rhino Enterprises v Barclays Bank, which is currently ongoing in the High Court. The case involves borrowers with interest rate hedging products claiming for damages and/or rescission of those hedging products because of the bank's fraudulent misrepresentation in respect of the integrity of the London Interbank Offered Rate (Libor). The Court of Appeal confirmed that this is at least arguable in Graiseley Properties
v Barclays Bank [2013] EWHC 67 (Comm). This case settled before reaching trial but Rhino picks up where it left off.

The parameters of disclosure are always contentious in banking cases, particularly Libor cases. Interesting issues continue to emerge, including questions in relation to the extent of
the knowledge of the bank's senior management about Libor manipulation. There have also been questions about whether other parts of the manipulating banks were directly benefiting from the suppression of Libor during the financial crisis.

Property Alliance Group v RBS [2015] EWHC
1557 (Ch), which is currently awaiting trial, recently highlighted an interesting issue in relation to the documents a bank can be required to produce. RBS sought to rely on documents
that were passed between it and the FCA as showing that the regulator did not criticise it in these documents, while at the same time arguing that they were subject to privilege and so not suitable for disclosure.

Mr Justice Birss determined that the bank
could not have it both ways and that it had
waived privilege in those documents by proceeding in this way. RBS is appealing this decision, and the outcome will be followed carefully by the parties in many other similar
cases regarding Libor manipulation. SJ

Janine Alexander, pictured, is a partner and Bronagh Adams an associate in the financial disputes team at Collyer Bristow