FG17/4: The fair treatment of mortgage customers in payment shortfall: impact of automatic capitalisations

Finalised guidance
FG17/4 - The fair treatment of mortgage customers in payment shortfall: impact of automatic capitalisations April 2017 Financial Conduct Authority Page 1 of 21 Contents Definitions for use with this finalised guidance 2 1.Executive summary 3 2.Finalised guidance introduction 6 3.Finalised guidance 8
Annex 1: Remediation framework 15
Annex 2: Remediation framework – ‘How to’ guide 17

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Definitions : these definitions are for use with this finalised guidance only and are not relevant to the FCA Handbook When we say What we mean Contractual Monthly Instalment (CMI) recalculation Recalculating the customer’s CMI, excluding any payment shortfall balance. This would mean, unless any additional payments are made to reduce the payment shortfall, at the end of the mortgage term, the payment shortfall would remain outstanding. Reconstituted CMI The CMI as it would have been if no payment shortfalls had been included in the balances used to automatically calculate CMI during the review period. Reconstituted payment shortfall balance The payment shortfall balance as it would have been if payments made by the customer in excess of the reconstituted CMI had been credited against the payment shortfall balance as they were made. Reconstitution (of a mortgage account) Restatement of the CMI and payment shortfall balance as they would have been if no payment shortfalls had been included in the balances used to automatically calculate CMI during the review period. The restatement involves calculating a reconstituted CMI and a reconstituted payment shortfall balance. Additional payments The increase of CMI that is attributable to the automatic inclusion of the payment shortfall balance in the CMI calculation. Mortgage balance The total amount owed by the customer (including any payment shortfall balances) on their mortgage account or sub-account of their mortgage.

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1. Executive summary
   1.1 We have considered how firms calculate contractual monthly instalments (CMI) for
   mortgage customers with payment shortfalls1 (commonly known as mortgage arrears) and whether this meets our rule requirements and how customers have been affected.
   1.2 In 2010, our predecessor – the Financial Services Authority – introduced a Mortgages and
   Home Finance: Conduct of Business Sourcebook (MCOB) rule saying that firms must not automatically capitalise a payment shortfall where the impact on the customer would be material. The purpose of the rule was to stop firms automatically capitalising customers’ payment shortfalls without considering individual circumstances. The rules were strengthened to give customers with payment difficulties a fair opportunity to consider how to repay their payment shortfall.
   1.3 We have found that some firms automatically include customers’ payment shortfall
   balances within CMI calculations, following a calculation trigger, such as an interest rate change. The payment shortfalls are treated as still outstanding with firms continuing to pursue the payment shortfall balance separately through their collections processes, treating the balances as immediately due and payable.
   1.4 We believe that firms’ current practice might be driven by their historical calculation
   systems and Mortgage Terms and Conditions, which aim to ensure the CMI is sufficient to repay the total mortgage balance by the end of term.
   1.5 We consider that this practice is ‘automatic capitalisation’. Even if inadvertent, it results
   in firms automatically collecting the payment shortfall balance over the remaining term of the mortgage, while also treating them as immediately payable.
   1.6 The extent of this practice varies from firm to firm, with some firms operating systems
   that automatically capitalise payment shortfall balances for all customers and others for only a small subset of customers.
   1.7 Automatically including payment shortfall balances within a CMI calculation results in a
   higher CMI – compared to a CMI without the payment shortfall balance being included. When the higher CMI is paid this reduces a customer’s mortgage balance and the interest charged; effectively customers are making overpayments towards their mortgage balance. However, the higher payment does not reduce the payment shortfall balance as recorded by the firm. (1) the total sum of periodic installments of capital or interest (or both) that have become due under the terms of a regulated mortgage contract but which, in breach of those terms, remains unpaid; or (2) the total sum of periodic payments towards the purchase price or of rent (or both) that have become due under the terms of a home purchase plan but which, in breach of those terms, remains unpaid. (see Glossary: payment shortfall)

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1.8 We consider that including payment shortfall balances within CMI calculations can lead to
unfair customer outcomes. For example:
i. Payment shortfall balances may be overstated if customers meet the new higher CMI –
where lenders do not recognise the increased payment as including a partial payment towards the clearance of the payment shortfall balance – this may lead to:
a) payment shortfalls taking longer to repay, due to the higher CMI reducing customers disposable income b) arrears management fees being charged inappropriately when the customer effectively no longer has a payment shortfall c) customers’ payment shortfall balances being presented unclearly or incorrectly on court applications for possession or suspended possession orders d) customers’ payment shortfall balances and payment profiles being presented unfairly on credit reference agencies records
ii. Customers might miss payments on other financial commitments – such as more
expensive debt – unnecessarily, because of the higher CMI.
1.9 We conducted cross-firm analysis – six firms, representative of the sector; convened an
industry working group – ten firms from across the sector and two trade associations; and reviewed a sample of customers’ mortgage accounts – 54 cases, from two firms.
1.10 All of the firms we assessed have updated their collections processes in line with our rule
requirements, so their arrears management systems include consideration of customers’ individual circumstances before they arrange a capitalisation of payment shortfall. However, some firms do not appear to have considered the implications for the systems they use to calculate customers’ CMIs.
1.11 We expect firms to put this right, and stop the practice.
1.12 Although it is recognised that this is primarily a conduct issue, firms should also consider
the associated prudential risks. Firms should review their provisioning and capital to take account of the impact and consequences of remediation.
1.13 This paper sets out a remediation framework (the framework) for customers who have
suffered harm because of automatic capitalisation of payment shortfalls. We have developed the framework with input from the industry working group. We also publicly consulted on the framework – GC16/6 - The fair treatment of mortgage customers in payment shortfall: impact of automatic capitalisations – to seek the views of other interested parties.
1.14 The framework is intended to set out a proportionate, practical and fair approach for
remediation. Use of the framework is not mandatory, but we expect firms to determine a remediation approach to achieve fair outcomes for affected customers.

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1.15 The framework – including the £10 threshold – is not a precedent for other customer
remediation programmes. It was developed with specific consideration to the automatic capitalisation of payment shortfall issue set out in this guidance, the extent of industry practice, and for the majority of affected customers, the likely levels of remediation.
1.16 We considered two approaches to correct this issue: putting customers back to the
position they should have been in if the payment shortfall automatic capitalisation had not occurred; or putting them back to the position they would have been in if the payment shortfall had not continued to be treated as immediately due after having been capitalised – by extinguishing the payment shortfall balances at the time firms’ automatically capitalised them. Our case analysis showed that extinguishing the payment shortfall balance was not appropriate for most customers, because most were unable to meet the higher CMI.
1.17 Through our work we also identified that customers’ payment shortfalls were driven
mainly by events such as ill health and loss of earnings and not by the automatic capitalisation, although this will not have helped customers.
1.18 It has not been possible for us to determine the number of customers impacted by this
issue across the industry. However, through our work with the industry working group, which represents around 66% of the market share – based on outstanding mortgage balances – we identified approximately 750,000 impacted customers1 . This number may be greater now, due to the Bank of England base rate change in August 2016, leading to a new CMI calculation for some customers.
1.19 Our analysis indicates that the financial impact for most customers may have been
relatively small with estimated remediation likely to be in the low hundreds of pounds. The framework provides firms with an option that they could use to start remediating customers, saving time and cost in coming up with their own approaches. If firms were to conduct individual case reviews we estimate the cost would be approximately £2,000 per customer. By making the compensation process as efficient as possible much of this cost should be avoidable. 1 Based on data provided to us by working group members in August 2016.

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2. Finalised guidance introduction
Who this finalised guidance affects
2.1 This finalised guidance is primarily aimed at residential mortgage lenders and administrators
of regulated mortgage contracts.
Consumer interest
2.2 This finalised guidance may be of interest to mortgage customers and consumer groups
representing customers who have experienced, or are experiencing, payment difficulties with their mortgage. What firms need to do next
2.3 In line with DISP 1.3.6G and Principle 6, we expect firms to:
i. review whether, in respect of regulated mortgages and home purchase plans subject to
the relevant FCA rules and Principles during the period since 25 June 2010 (see below), they have automatically included payment shortfalls balances in their CMI calculations.
ii. if they have, review whether this practice has caused harm to customers who were
protected by the relevant rules. iii.if so, assess and provide appropriate remediation.
2.4 In addition, we expect firms to:
i. explain the impact of automatic capitalisation to affected customers clearly and fairly and
what steps they have taken to put it right.
ii. make whatever changes to policies, procedures and systems are needed to ensure they
comply with our requirements, and consider whether terms and conditions are consistent with those requirements.
iii. consider the associated prudential risks. As such, firms should review their provisioning
and capital to take account of the impact and consequences of remediation.
2.5 As part of our ongoing regulatory supervision, we will monitor the work firms carry out to
determine whether customers have suffered harm, and if so to remediate appropriately. If we find that firms have failed to pay due regard to the interests of their customers and treat them fairly, we will consider appropriate interventions.

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Relevant Principles for Businesses and MCOB rules
2.6 We consider that the CMI calculation practices identified are likely to breach the Principles
for Businesses and MCOB rules. Some of these are set out below.
2.7 MCOB 13.3.4AR – In complying with MCOB 13.3.2AR(6): 1) a firm must consider whether,
given the individual circumstances of the customer, it is appropriate to do one or more of the following in relation to the regulated mortgage contract or home purchase plan with the agreement of the customer:…d) treat the payment shortfall as if it was part of the original amount (but a firm must not automatically capitalise a payment shortfall where the impact would be material)1 .
2.8 PRIN. 6 Customers’ interests – a firm must pay due regard to the interests of its customers
and treat them fairly.
2.9 PRIN. 7 Communications with clients – a firm must pay due regard to the information needs
of its clients, and communicate information to them in a way which is clear, fair and not misleading.
2.10 Automatic capitalisations may have been inadvertent, driven by historical systems.
Nevertheless, the outcome for customers is the same and it is for firms to put in place fair remediation for customers. Relevant review period and scope
2.11 The review period for remediation begins from 25 June 2010. This is when the relevant
MCOB guidance became Handbook rules.
2.12 Customers in scope are those with current or past payment shortfalls on a regulated
mortgage or home purchase plan to which MCOB 13 applies2 , where firms have automatically included the payment shortfall balance in calculating the CMI. This includes closed mortgage accounts, and second-charge mortgages where the automatic calculation occurred after 21 March 2016, but will not include buy-to-let mortgages. Timing of remediation
2.13 The FCA expects all remediation programmes to be concluded by 30 June 2018. Firms must
treat any affected customers fairly if they are currently in payment shortfall or enter payment shortfall before remediation activity and related systems changes have been completed. Firms should also consider how they prioritise the delivery of remediation to customers. 1 the impact of a capitalisation would be material if, either on its own or taken together with previous automatic capitalisations, it increased: 1) the interest payable over the term of the regulated mortgage contract by £50 or more; or 2) the contractual monthly repayment amount under the regulated mortgage contract by £1 or more (see MCOB 13.3.4AAR). 2 To be in scope the mortgage or home purchase plan must have been regulated at the time when the payment shortfall balance was included in the CMI calculation. By virtue of amendments to articles 60B, 60C and 61 of the Regulated Activities Order which came into force on 21 March 2016, certain regulated credit agreements became regulated mortgage contracts; see MCOB 1.2.21.

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3 Finalised guidance
Remediation framework
3.1 This guidance sets out a possible framework (the framework) firms can use when providing
customer remediation. We do not require firms to adopt this particular approach. It is for firms to determine their own approach to give fair outcomes for customers.
3.2 In this document, remediation refers both to correcting the effects of the automatic
capitalisation and, where appropriate, to paying any compensation that is due to the customer.
3.3 The framework is set out in Annex 1 and is supported by a ‘How to guide’ in Annex 2. We
summarise it below.
3.4 The framework helps firms to identify a range of affected customers through a set of filters.
It indicates potential resolutions, and suggests how to calculate appropriate compensation. The outcome for an affected customer could be one of the following:
i. No action for closed mortgage accounts where the inclusion of a payment shortfall in a
single calculation of CMI resulted in an additional payment (see definitions on page 2) of equal to or less than £10.
ii. For open mortgage accounts where the inclusion of any payment shortfalls in a
calculation led to an additional payment of equal to or less than £10, a CMI recalculation (see definitions on page 2), excluding any outstanding payment shortfall balances. This will set a new CMI. iii.For both open and closed mortgage accounts with an additional payment greater than £10, a reconstitution (see definitions on page 2) of the mortgage account, to put the mortgage account back in the position it would have been in if payment shortfall balances had not been automatically capitalised.
3.5 Where firms identify that customers have suffered a loss due to automatic capitalisation the
framework sets out one method of compensation. The framework envisages that compensation will be credited to the mortgage balance or, if the mortgage account is closed, paid to the customers. Customers may receive compensation in the form of:
i. a refund of incorrectly charged fees and interest, and, where fees have been paid by the
customer, interest of 8% a year (simple).
ii. a payment of interest at 8% a year (simple) for any payments of CMI in excess of the
reconstituted CMI which are made after the point at which the reconstituted payment shortfall is cleared.
3.6 Where the reconstitution of the mortgage account shows a different payment shortfall
history, firms should update customers’ credit reference agencies records to reflect this – see paragraph 3.24 for further details.

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3.7 Following reconstitution for mortgage accounts where the property has been repossessed or
there is a possession order – including a suspended possession order – that has not yet been enforced, there are additional steps for firms – see paragraphs 3.19 to 3.23 for further details. Firms may need to conduct an individual review of the mortgage account to consider whether the customer outcome might have been different if payment shortfalls had not been included in CMI calculations. Framework limitations
3.8 When developing the framework, we considered the regulatory principles in section 3B of
FSMA, including the principle that a burden or restriction which is imposed on a person should be proportionate to the benefits which are expected to result.
3.9 In paragraph 1.7 we explain that customers who have paid the additional CMI have reduced
their mortgage balance and the interest charged. So, through our own work and work with industry we have identified certain filters and thresholds which aim to ensure that remediation is practical for firms that use the framework to deliver, proportionate to the harm caused by automatic capitalisation and fair to affected customers. These filters and thresholds mean that there are some limitations to the framework which are highlighted in the sections below paragraphs 3.10 to 3.26. CMI increase threshold
3.10 Firms using the framework will only reconstitute mortgage accounts where at least one
automatic capitalisation resulted in an additional payment greater than £10 per month. Where there are multiple calculation events the value of the highest single calculation is used. For example, if there have been two calculation events resulting in an additional payment of £6 and £8, these mortgage accounts would not meet the CMI increase threshold. Whereas, if after the first calculation the additional payment was £6 and the second £13, the mortgage account should be reconstituted to the point the first additional payment was greater than £10 per month, in this example it would be the second calculation event.
3.11 When working with the industry working group we considered a number of thresholds above
and below £10. Analysis showed that at higher thresholds too many customers with significant levels of additional payments would be excluded. At lower thresholds it would have required significant numbers of mortgage accounts to be reconstituted by firms where this would deliver little benefit to the customer. Work conducted by the industry working group and our own analysis indicated £10 to be an appropriate threshold. We suggest that resolution for customers where any single additional payment is equal to or less than £10 is a recalculation of the CMI, excluding any payment shortfall balance, to correct the mortgage account going forward. The framework does not suggest any compensation for these customers – see paragraphs 3.27 to 3.28 for details on customers’ rights to complain.

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Method of remediation - reconstitution versus extinguishing arrears
3.12 The framework is based on the premise that the harm to customers from automatic
capitalisation was caused by the CMI being higher than it should have been. That is why the remediation approach is based on putting the mortgage account back to where it would have been if the CMI had not been calculated including the payment shortfall balance. Any additional payments made by the customer which have been applied to reduce the customer’s mortgage balance should be reallocated (by appropriate accounting adjustments) to the payment shortfall balance.
3.13 Another possible approach would be for a firm to reset the payment shortfall balance to zero
– extinguishing the payment shortfall – from the point of the CMI calculation (including payment shortfall balances). This is the process for a formal capitalisation where firms consider the customer’s individual circumstances and agree to treat the payment shortfall as if it was part of the original mortgage balance.
3.14 This approach would compensate customers for the harm caused by firms continuing to
treat the shortfall as being due for payment, even though repayment had already been spread over the remaining term of the mortgage. This approach might make more sense for a customer who kept up with the higher CMI payments, especially if they also had a separate arrangement to pay the payment shortfall.
3.15 This approach would not put the mortgage account back in the position it would have been
had the payment shortfall not been included in the CMI calculation. Instead, the higher CMI would be left in place, and the payment shortfall would be set to zero at the point of calculation. Any fees and charges applied as a result of the customer being in payment shortfall after that point would be refunded – unless the customer fell back into payment shortfall – and the customer’s credit file would be corrected.
3.16 We considered suggesting that firms should look at mortgage accounts both ways to see
which produced the best outcome for the customer. We recognise that there will be some customers who would obtain compensation under the ‘extinguishing’ approach not available under the ‘reconstituted’ approach. However, our case analysis found that the extinguishing arrears approach might be appropriate in a relatively small number of cases, mainly because most customers affected fell back into payment shortfall very quickly – suggesting that they could not afford to keep paying the higher CMI. Firms also told us that their systems could not cope with considering remediation in two different ways for every mortgage account.
3.17 For these reasons and our consideration of consultation feedback received, the framework
proposes that the ‘reconstitution’ approach can be followed in all cases with CMI increases above the £10 threshold.
3.18 Firms must deal fairly with customers who have a payment shortfall remaining after their
account has been recalculated or reconstituted (MCOB 13.3, MCOB 2.5A.1R and Principle 6). If firms apply for a possession order following reconstitution of a previous automatic capitalisation, they should make the court aware that the account has been reconstituted, and how the corrected position has been calculated.

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Possessions and possession orders (POs)
3.19 The framework suggests that certain possession cases should be considered for remediation
by individual case assessment. This is to identify cases where the outcome for the customer might have been different if the mortgage account history had been represented on the reconstituted position.
3.20 The framework only suggests consideration of possession cases where, under the
reconstituted view of the mortgage account, the customer would not have triggered the firm’s possession processes, based on its arrears management policies applicable at the time. See sections 4a and 5a of the ‘How to’ guide in Annex 2 for more details.
3.21 The consideration of certain possession cases is not intended to question the court’s
judgment in granting possession, but to challenge the firm’s decision to take possession action when it did, and whether the information provided to the court during the possession application was fairly presented.
3.22 We don’t expect many cases where automatic capitalisation makes the difference between
possession being granted or not. If a firm finds a case where it believes, based on a corrected view of the payment shortfall balance and payment history at the time of the application for possession, that it was not right to bring proceedings when it did, it should consider how this affected the customer and remediate appropriately. Section 4b, paragraph A.15 of the ‘How to’ guide provides examples of factors that might be taken into account as
part of this remediation.
3.23 Where a PO has been granted but not exercised and the mortgage account meets the
criteria in paragraph 3.20 firms should consider:
i. applying to the court to have the PO set aside and refunding any associated fees that
should not have been incurred by the customer
ii. flagging the case to ensure that if firms apply to enforce a PO the court is made that the
account has been reconstituted, and how the corrected position has been calculated Updates to customers’ credit reference agencies (CRA) records
3.24 The framework proposes that firms update customers’ CRA records, to reflect the revised
position, in all cases where reconstitution of the mortgage account shows a different payment shortfall history to that previously recorded. Firms need to make sure their approach to correcting customer credit records treats customers fairly, and complies with relevant legislation, including the Data Protection Act 1998 – see the Information Commissioner’s response to consultation GC16/6 here. Consequential loss and distress and inconvenience compensation
3.25 The framework does not anticipate that firms will proactively investigate potential
consequential loss or distress and inconvenience in every case, however firms should consider and respond to any claim that may be made by customers. The framework does not prevent firms considering compensation for consequential loss or distress and inconvenience as part of their approach to remediation.

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3.26 An example of consequential loss would be additional interest or charges incurred on other
debts, if the customer missed payments on those debts because of having to pay the higher CMI. When conducting our case analysis we reviewed customers’ primary bank account statements and saw limited evidence of consequential losses. Such losses depend on individual circumstances and require significant investigation. So we concluded it was unlikely to be proportionate or practical for the framework to include consideration of consequential loss. Customers’ rights to complain
3.27 Firms’ communications should make clear to customers that if they do not feel the firm’s
remediation delivers a fair outcome for them, they are entitled to ask the firm to: consider a claim for consequential loss or distress and inconvenience; or review any other aspect of the remediation if they do not believe it compensates them correctly for their losses.
3.28 Firms’ communications should also make it clear that customers can refer their complaint to
the Financial Ombudsman Service if they are not satisfied with the outcome. Customer communications
3.29 Our Principles for Businesses require firms to consider the information needs of their
customers, and communicate information to them in a way which is clear, fair and not misleading (PRIN. 7 Communications with customers). Firms’ remediation communications should clearly describe the impact of automatically capitalising payment shortfall balances, what has happened and steps taken to put it right, including:
i. noting that the firm has determined that it treated payment shortfalls (for some
customers) in a way that the FCA considers to be a breach of its rules.
ii. setting out how this may have adversely affected the customer.
iii. advising the amounts of compensation (and any other remedial actions) and how these
have been arrived at. iv.informing the customer of their right to complain – see paragraphs 3.27 to 3.28 for details
3.30 In addition to speaking to their mortgage lender, customers can also speak to an
independent third party. To help facilitate this, firms’ communications should provide customers with details of how they can obtain help from free debt advice services.
3.31 We also suggest that the information firms give customers should set out examples of
additional costs that customers may have incurred and need to consider. This is so customers can understand whether the remediation being offered adequately reflects the harm caused. This may include, but is not limited to:
i. monthly or ad hoc arrears management or litigation fees.
ii. fees for contacting/writing to the customer.

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v. other possible losses or expenses that may have been incurred by the customer.
3.32 Firms should take reasonable and proportionate steps to trace and communicate the
outcome to customers of closed mortgage accounts that have been reconstituted. Timescales to deliver remediation
3.33 The time to identify affected customers and to put appropriate remediation in place may
vary from firm to firm, depending on the system they use. We expect firms’ remediation actions to be concluded by 30 June 2018. If a firm is likely to be unable to meet the deadline, they should discuss this with their FCA supervisor or the Firm Contact Centre.
3.34 Firms should ensure fair treatment of affected customers who are currently in payment
shortfall or enter payment shortfall before the remediation activity and related systems changes are completed. We expect firms to consider how they prioritise the delivery of remediation to customers. Professional indemnity insurance
3.35 We are aware that certain professional indemnity insurance policies prohibit admissions of
liability without the written consent of the insurer, and have considered this in developing our proposals. We do not consider that following the finalised guidance would constitute an admission of liability by firms, but firms should consult their legal advisers if they are unsure about this. Cost benefit analysis (CBA)
3.36 In this CBA, we are not comparing the costs and benefits of the guidance versus
remediation being carried out. Rather we are assessing the costs and benefits of the guidance compared to firms carrying out remediation, but with no guidance on how to do this.
3.37 We expect the guidance to have benefits for customers and firms by:
i. giving better outcomes for customers: the overall aim of the guidance is to help
ensure that affected customers are treated consistently and fairly by their mortgage lenders.
ii. providing regulatory certainty for firms: the guidance gives firms our views on how
customers may have been adversely affected by automatic capitalisation, and a possible remediation approach.
iii. limiting the costs of compensation: the framework gives firms an option they could
use to start remediating customers, saving time and cost in coming up with their own

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3.38 We have not estimated the costs and benefits of publishing this guidance, because it is not
clear the approach firms would take to remediating customers in the absence of the guidance. We have also been told that firms cannot assess the cost of using the framework until the guidance is finalised. Firms who think this approach is not right for them may adopt a different approach to remediation. For example, firms with only a few affected customers or whose mortgage account management processes are not highly automated may find it more cost effective to review each case individually, rather than use the framework. We expect that a framework – which reflects work carried out by us and the industry working group firms – should save firms some of the costs they would have to incur in developing a bespoke approach.
3.39 Based on our discussions with the industry working group, we believe the approach in this
finalised guidance will be proportionate for most, but not all, firms. Equality Impact Assessment (EIA)
3.40 We are required under the Equality Act 2010 to consider the need to eliminate
discrimination and to promote equality of opportunity in carrying out our policies, services and functions. As part of this, we conduct an EIA assessment to ensure that the equality and diversity implications of any new policy or guidance proposals are considered.
3.41 We believe the proposals in this finalised guidance do not raise equality or diversity
questions. We foresee positive impacts for all protected groups, as firms have a better understanding of the rules and undertake remediation.

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Annex 1: Remediation framework
The remediation flow diagram provides a framework for firms to follow Key:
Start of flow – mortgage accounts enter the flow Reference to section in the framework ‘how to’ guide – provides you with relevant information to complete the process. Decision box – answers to questions (yes or no) determine what the next step should be. Depending on your answer to the question you should follow the appropriate arrow. Action box – take the relevant action in the blue box before following the arrow to the next step (if applicable). Start with all in scope customers Yes No

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Based on the reconstituted view of the mortgage account, would the firm’s possession process still have been triggered? No Further Action Required Reconstitute mortgage account – amend CMI and payment shortfall balance Is the change in CMI above the CMI increase threshold? Was the property repossessed (including voluntary possession)? Individual assessment Is a Possession Order (PO) in place? Based on the reconstituted view of the mortgage account, would the firm’s possession process still have been triggered? Yes Yes No Is the mortgage account closed? No Yes Based on the reconstituted view of the mortgage account, at any point would the customer have cleared the payment shortfall sooner than they did? Yes Communicate the outcome to the customer Ensure fair treatment of customer in relation to PO Recalculate CMI excluding the payment shortfall balance Yes Start with all in scope customers 2a 2b 4a 5a No This flow diagram must be used in conjunction with the remediation framework – How to guide in
Annex 2
No
Compensate for any payments of CMI in excess of the reconstituted CMI which are made after the point at which the reconstituted payment shortfall is cleared, fees, charges and interest No Yes 4b 5b 6a Yes Yes Consider whether CRA records need to be updated and communicate the outcome to the customer

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Annex 2: Remediation framework –
‘How to’ guide
Introduction
A.1 The framework is one way firms can provide remediation for customers. This annex provides firms who choose to use the framework with a step-by-step guide to implementing it. A.2 Firms should make sure that they teat customers fairly as they deliver remediation. Step-by step guide through the framework A.3 The section numbers correspond to the number shown on the framework flow diagram,
Annex 1 of this guidance.
Section 1: Start with all in scope customers
A.4 Firms should identify all customers that are in scope for remediation. Firms should establish which mortgage accounts have been subject to automatic capitalisation of their payment shortfall since 25 Jun 2010. Paragraph 2.12 in the finalised guidance gives more details on in scope customers.
Section 2: Is the change in CMI above the CMI increase threshold?
A.5 If a customer’s payment shortfall has been subject to automatic capitalisation since 25 June 2010, this will have resulted in an increase to the customer’s CMI. The framework helps firms identify customers whose CMI increased by more than £10 per month as a result of automatic capitalisation. These customers are remediated under section 3. A.6 Automatic calculation of the CMI may result in the CMI increasing for other reasons. For example, if the CMI increase was also due in part to an increase in interest rate which accounted for an increase of £20, and the increase attributed to the inclusion of the payment shortfall was £7 (total increase £27), this would not be considered as being above the CMI increase threshold. A.7 Where the CMI increase is equal to or less than £10, these customers are dealt with under section 2a.

NO – go to section 2a
YES – go to section 3

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Section 2a: Is the mortgage account closed?
YES – no further action is required
NO – go to section 2b
Section 2b: Recalculate CMI excluding the payment shortfall balance
A.8 Recalculate the customer’s CMI, using a balance excluding any payment shortfall balance outstanding. A.9 Any remaining payment shortfall balance can continue to be pursued through the firm’s standard collections process. A.10 Firms should communicate the outcome to the customer – see Chapter 3, paragraphs
3.29 to 3.32 for details on communications.
Section 3: Reconstitute mortgage account – amend CMI and payment shortfall balance
A.11 The aim of reconstitution is to put the customer’s mortgage account back in the position it would have been in had the automatic capitalisation not occurred. Then firms can compare the reconstituted view of the mortgage account with the automatically capitalised view to determine whether the customer has suffered loss as a consequence of the automatic capitalisation, for example, because the customer would have exited payment shortfall more quickly had the automatic capitalisation not taken place. A.12 To reconstitute the mortgage account, a firm should restate the CMI and payment shortfall balance as though no payment shortfall balances had been included in the balances used to calculate a CMI. See the definitions on page 2.
Section 4: Was the property repossessed (including voluntary possession)?)
NO – go to section 5
YES – go to section 4a
Section 4a: Based on the reconstituted view of the mortgage account, would the
firm’s possession process still have been triggered?
A.13 This aims to assess whether, based on the reconstituted view of the payment shortfall balance and payment history, the customer would have triggered the firm’s possession processes, according to the firm’s arrears management policies at the time. A.14 For example, the answer to this question would be ‘no’ if the reconstituted account shows that the customer:
i. would have been three months in arrears at the point possession proceedings started,
and the firm’s arrears management policies at that time stated six months in arrears as the trigger for starting the possession process.
ii. had regularly paid the reconstituted CMI and the firm’s arrears management policies
at that time stated that the possession process would not be started so long as the customer was meeting the CMI. NO – go to section 4b: individual assessment YES – go to section 6

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Section 4b: Individual assessment
A.15 Where, following reconstitution, firms establish that it was not appropriate to start the possession process when they did, they may need to communicate with their customer to find out the impact of the possession action and provide the customer with appropriate compensation. Factors firms should consider in determining appropriate compensation include, but are not limited to:
i. the cost of moving
ii. alternate housing costs – for example, where cost of renting is higher than CMI
iii. the cost of missing out on equity appreciation
iv. legal costs
v. estate agent fees
vi. distress and inconvenience
vii. other costs associated with possession and sale
A.16 Firms should also compensate the customer for any fees, charges or interest imposed because the customer was in payment shortfall longer than if the automatic capitalisation not happened. Firms should use the process outlined under section 6a. A.17 Firms should take reasonable and proportionate steps to communicate the outcome to the customer – see paragraphs 3.29 to 3.32 for details on communications.
Section 5: Is a Possession Order (PO) in place?
YES – go to section 5a
NO – go to section 6
Section 5a: Based on the reconstituted view of the mortgage account, would the
firm’s possession process still have been triggered?
A.18 The approach to this section is the same as that under section 4a. YES – go to section 6 NO – go to section 5b
Section 5b: Ensure fair treatment of customer in relation to PO
A.19 Based on a reconstituted view of the mortgage account, where firms establish that they would not have proceeded to obtain a possession order in line with their arrears management policy at the time, firms should consider taking action which may include:
i. applying to the court to have the PO set aside and refunding any associated fees that
should not have been incurred by the customer.
ii. flagging the case to ensure that if the firm applies for a possession order following
reconstitution of a previous automatic capitalisation, they should make the court aware that the account has been reconstituted, and how the corrected position has been calculated. Go to section 6

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Section 6: Based on the reconstituted view of the mortgage account, at any point
would the customer have cleared the payment shortfall sooner than they did? YES – go to section 6a NO – Firms should consider whether CRA records need to be updated and communicate the outcome of the reconstitution to the customer – see Chapter 3, paragraphs 3.29 to 3.32 for details on communications.
Section 6a: Compensate for any payments of CMI in excess of the reconstituted CMI
which are made after the point at which the reconstituted payment shortfall is cleared, fees, charges and interest Fees and charges:
A.20 Firms should refund any fees, charges and interest that were applied to the mortgage account because it was in payment shortfall longer than it would have been without the automatic capitalisation – i.e. those charged after the payment shortfall had been cleared on the reconstituted view of the mortgage account. Where customers paid these fees, firms should also pay interest on this amount at a rate of 8% per year (simple) from the date the fee was paid. A.21 Examples of fees and charges which could have been incorrectly applied during the periods highlighted in paragraph A.20 include (but may not be limited to):
i. monthly or ad hoc arrears management or litigation fees
ii. fees for contacting/writing to the customer
iii. home visits/third party representative fees
iv. unpaid or returned direct debit or cheque fees
v. solicitors/legal costs
vi. court fees
Overpayments:
A.22 If the customer continued making the higher CMI payments – which included an element attributable to a capitalised payment shortfall – after the payment shortfall balance would have been cleared under the reconstituted view of the mortgage account, this effectively means the customer was making overpayments against the mortgage balance. Interest at 8% (simple) a year should be paid on any payments of CMI in excess of the reconstituted CMI which are made after the reconstituted payment shortfall is cleared, to compensate the customer for the deprivation of use of these funds.

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Compensation:
A.23 Any compensation should be paid for:
i. open mortgage accounts: by a credit to the amount owed, with appropriate
adjustments to the payment shortfall balance (as recorded by firms’ collections systems).
ii. closed mortgage accounts: by bank transfer or cheque. Firms should take reasonable
and proportionate steps to trace these customers.
Other actions:
A.24 Once all adjustments have been applied to the mortgage account, a further CMI calculation should be made.
Section 7: Consider whether CRA records need to be updated and communicate the
outcome to the customer
A.25 In all cases where reconstitution shows a different payment shortfall history to that previously recorded, firms should update customers’ CRA records to reflect this. Firms need to make sure their approach to correcting customer credit records treats customers fairly and complies with relevant legislation including the Data Protection Act 1998. A.26 Firms should communicate the outcome of the reconstitution to the customer including what the new CMI payment will be (see Chapter 3, paragraphs 3.29 to 3.32 for details on communications). Firms should take reasonable and proportionate steps to trace and communicate the outcome to closed mortgage account customers.