If you followed the Bradford & Bingley story, you will know that the government avoided the need for taxpayers to cover the loss by ensuring that the firm was seen as being in default, so that the Financial Services Compensation Scheme (FSCS) would cut in. But what is this and who does it protect?

The FSCS covers bank deposits, insurance policies, investments, and mortgage advice for individuals in the UK. It provides financial compensation in the event that a firm is unable, or likely to be unable, to pay claims against it – hence the B&B intervention. The cost of this is covered by levies on firms regulated by the Financial Services Authority and – in general – compensation is paid for from the levies applicable to the type of firm involved in the default. However, if that ‘pot’ runs out, there can be a call on other types of firm; so insurance companies, insurance brokers and IFAs could theoretically end up paying out for the default of a bank!

The level of cover depends on the type of loss. For example for bank deposits, the government has recently increased the level of compensation from £35,000 to £50,000 per person per bank (although you need to be careful about this, because the limit will apply to deposits with more than one bank if they are part of a group and share a single FSA registration number – you can check this on the FSA website).

For investments and mortgages, the figure is slightly lower at £48,000, because the first £30,000 is covered in full, but only 90% of the next £20,000. For pensions, general insurance and life assurance, the limit is £2,000, plus 90% of the balance to an unlimited amount (although for motor insurance the cover is 100%).

Exceptions and limitations
There are some exceptions. For example, claims relating to:

• investment issues relating to business conducted before 28 August 1988;
• mortgage advice and arranging relating to business conducted on or after 31 October 2004;
• insurance intermediaries relating to business conducted on or after 14 January 2005;

are not covered, as these are the dates when the regulators assumed responsibility for each area. Limits were lower in earlier years, so the maximum amount that can be recovered may be lower in some cases.

It is important to be aware that the FSCS only operates where the firm concerned is unable to pay compensation, where necessary. In the case of investments, this highlights the importance of using an IFA because they carry Professional Indemnity Insurance that is an investor’s ‘first line of defence’ in the event of inappropriate advice having been given.

Of course, there are many other reasons for using the services of an Independent Financial Adviser, not least of which is that they operate completely independently of insurance companies and investment fund managers and are able to focus entirely on the needs of their clients, rather than sales targets set by the product providers. In addition, IFAs always offer you the option to pay a fee for your advice, so that you are doubly assured of their independence.

Two other points should be considered, particularly in respect of bank deposits. Firstly, it will be interesting to see the extent to which UK investors in overseas banks are really protected.

Secondly, many corporate depositors may have no protection under the FSCS because the scheme only covers limited companies that can satisfy at least two of the following three criteria: turnover of less than £6.5m; a balance sheet of less than £3.26m; fewer than 50 employees.

Partnerships can claim up to £50,000 and sole traders can claim up to £50,000 in total, but can only claim for either personal or business accounts with each institution, not claim for both.

As ever, it is important to take individual advice before making any decision regarding your finances. For further information, please contact Robert Bruce Associates.

The value of investments is not guaranteed; you may get back less than you put in.

NOTHING CONTAINED IN THE ARTICLE SHOULD BE CONSIDERED AS GIVING INDIVIDUAL FINANCIAL ADVICE. PLEASE NOTE THAT THERE MAY BE VARIATIONS FOR THOSE LIVING IN SCOTLAND AND NORTHERN IRELAND.