Firms in Default
As is stated in the legislation that established it, the Financial Services Compensation Scheme (FSCS) is a 'fund of last resort' for making compensation payments to consumers on behalf of firms that are unable to do so themselves. In most cases, this means that the FSCS will pay out to consumers who have lost money through firms that have become insolvent. The Scheme refers to these firms as being 'in default'.
The process of defaulting is the most important concept to understand with regard to the Financial Services Compensation Scheme. Whether or not a firm is in default will decide whether or not the Scheme will be able to assist with a compensation claim. If the firm is still trading then the Scheme will not be able to help, and complaints should be addressed either to the firm itself or to the Ombudsman.
The Default ListThe FSCS maintain an up-to-date list on its website of firms that it has declared in default. This means that they are either currently unable, or are deemed to be likely to be unable, to repay money lost by their customers. Every firm that is declared to be in default will have been the subject of an investigation by the Scheme. In unusual circumstances, the Financial Services Authority (the industry regulator) may declare a firm as being in default; in most cases, however, the process begins with a complaint from a consumer. As a result, the FSCS's list is not necessarily exhaustive as firms may exist against which there have not yet been complaints, but which would otherwise be declared as in default.
Once a complaint has been received, the Scheme will launch an investigation into the financial situation of the firm in question. They will catalogue the firm's liabilities and its assets, and will make a judgement about their ability to fulfil investors' claims along with their ability to meet their other liabilities. The firm may have professional indemnity insurance; this may well increase their ability to meet their financial responsibilities, but only if there are sufficient assets available to pay the excess. In the case of partnerships or sole traders, the FSCS will also launch an investigation into the personal financial situation of the firm's 'principals'; that is, the owner or partners. Their personal ability to meet investors' claims will also be taken into account. This will not apply in the case of a limited company, whose principals are generally immune from such claims.
Investigation PeriodThe process of investigation can take some months. It will also be lengthened if, once the Scheme announces its intention to declare a firm in default, the principals make representations signifying that they disagree. If this happens then a further investigation will take place. As a result, the period between an investigation beginning and compensation actually being paid can be a long one.
If the Scheme finds that the firm is able to pay its investors, then all claims should be directed to the firm as the FSCS is legally unable to help. If the company in question refuses to pay out then investors should consider taking legal action. If, on the other hand, it appears that the firm has subsequently become unable to pay its investors' claims, then the Scheme should be contacted again and they will re-investigate the case.