A new scandal is brewing in the personal finance industry that could dwarf the revolt against overdraft charges which has tarnished the reputation of the banks and won customer refunds of £1bn. As the Office of Fair Trading begins a court case against those bank charges, thousands of customers are seeking, and winning, refunds of premiums for payment protection insurance (PPI).
PPI is meant to cover mortgage, personal loan and credit card borrowers if they lose their jobs or fall ill but the policies are riddled with exemptions and are often considered a waste of money. Taking out a policy can add £3,000 to the cost of a £7,500 loan.
About £4bn of the £5bn paid in premiums annually is kept by the industry, making PPI the most lucrative form of insurance in the UK. According to the personal finance campaigner Martin Lewis, half of the 20 million policies currently in force may have been mis-sold, amounting to £10bn.
In a warning that it will no longer tolerate the industry's failings, the Financial Services Authority yesterday imposed a record £1.1m fine on HFC Bank, which loans money to people with poor credit records. For two years to May 2007, HFC, a subsidiary of HSBC, sold PPI to 163,000 sub-prime customers, but its advisers failed to explain their recommendations or identify any of the many exemptions that would bar payments if they claimed through illness or redundancy.
The FSA, which warned last year that it would impose stiffer fines for mis-selling, said HFC's failings had in all likelihood caused its customers significant problems. "The fine against HFC – the biggest PPI fine to date and first since our September announcement – is evidence of our determination in this area," said Margaret Cole, the director of enforcement.
HFC joins 11 other companies fined for their selling of PPI, including two well-known finance companies, GE Capital Bank, which was fined £610,000, and Capital One Bank, which was fined £175,000.
Record numbers of PPI holders are complaining to the free Financial Ombudsman Service (FOS), emboldened by the growing internet campaign. Since last April, it has received 5,000 PPI cases, almost three times the total of 1,832 for the whole of the previous year. The monthly total has been rising sharply, from 237 in April to 970 in December. This month is expected to set a new record.
Emma Parker, the FOS's spokeswoman, said average payments of £3,000 were being awarded to the 80 per cent of customers who won their cases, adding: "We are upholding more consumer complaints about PPI than any other product." Campaigners say that although insuring loans can be sensible, customers should consider whether they should cancel or reclaim their existing PPI policy.
Seven million new policies are taken out every year and the profits overshadow the £2.7bn that banks make annually from overdraft charges, which the Office of Fair Trading hopes to limit in a case beginning today in the High Court in London.
Only 20 per cent of the money collected under PPI is returned to policyholders – a "shocking" figure, says the consumer group Which? – compared with more than half for home insurance and 80 per cent for car insurance.
Customers complain they have been told they will not be able to borrow money without the protection.
Policyholders are usually only covered for 12 months of the life of the policy, and then only for the first five years of any loan. And claims cannot be made on many common causes of illness, such as bad back or stress. People on short-term contracts or self-employed may not be covered for redundancy. "There is something wrong with the way PPI is sold. It is ridiculously extortionate and expensive," said Martin Lewis, from whose moneysavingexpert.com site customers have downloaded almost 200,000 letters demanding refunds.
"One of the problems is that banks have sold the policies to people without them knowing, so there are people who are not reclaiming because they do not know they have got PPI." The insurance industry says that it is improving and says that people need to be protected from a change in their circumstances.
In a statement, HFC said it was committed to ensuring that customers were sold suitable products: "It is, therefore, disappointing that... our procedures have been found to fall below the standards expected by the FSA and which we set ourselves." The Windsor-based bank promised to ensure customers had not been disadvantaged by writing to a "sample" of customers.
The claims management company portalclaims.com said 41 per cent of under-30s with personal loans mistakenly believed their policy was a condition of their loan. A further 12 per cent were given the impression that it would increase their chances of being lent money.
"This misunderstanding has been exploited by many banks," said the website's proprietor, Tim Moore. "At the moment, people can't reclaim their bank charges because of the court case.
"In the meantime, they should be reclaiming the thousands they are owed through mis-sold PPI."
Clare Powell, Willenhall, West Midlands: 'Bank conned me into taking out costly PPI on top of loan'
Clare Powell, Willenhall, West Midlands
"I fell into the trap of being told that I wouldn't get a loan unless I agreed to take out a PPI as well. In 1999 my husband and I decided we needed a new car and so we applied for a loan. I've been banking with HSBC since I was 16 so naturally I went straight to my usual bank. Perhaps I was a bit naïve not to have shopped around, but you like to think that regular customers get treated with respect. HSBC told me that I wouldn't be able to get my £5,000 loan unless I took out a PPI, so I did. It was a five-year loan and we paid it off on time every month. It was only in 2006 that I read that banks were not allowed to insist on customers taking out a PPI;I'd effectively been conned. I ended up filing a claim to HSBC and they reimbursed me for £1,300."
Rachel Hauxwell, Nottingham: 'It added a huge amount'
"I needed a loan to pay off debts. I divorced a few years back and met somebody new. We had very little money and had to start from scratch. We bought a house that needed repairs and just stuck everything on a credit card. Then I fell pregnant so had to quit my job. We decided to consolidate our debt into a £16,000 loan with First Plus. Even though our existing mortgage had adequate cover for further loans, it was hinted that we wouldn't be able to get the money unless we took out a PPI as well. Two years later, we remortgaged and, to our astonishment, found we owed £17,500 despite paying off the loan regularly for two years. The PPI had added a huge amount to the total. MoneySavingExpert.com advised us how to claim it back. The loan company offered us a £4,100 refund, which went on a new boiler."
Gemma Jones, Llanfairfechan, North Wales: 'They refused to pay twice'
"I took out a loan in 2004, to buy a car, from Lloyds TSB. The interest was 16.9 per cent. They told me I had to have payment protection. I was a naive 19-year-old. Since then I have claimed twice, but they refused it both times. In 2005, I was unexpectedly laid off and then in 2006 my employer went bust. Lloyds TSB said they would not pay out because they could not find him [the employer]. I couldn't sleep, lost weight and got very stressed because of my money troubles. After hearing about the campaign I wrote Lloyds a letter downloaded from moneysavingexpert.com. I got a letter back saying they were going to refund me £1,777 with interest, but about two months later I am still waiting. When I pay off my loan I'm changing banks. I haven't got a good word to say about Lloyds TSB."
During the late 1980s and early 1990s, members of company pension schemes were persuaded to join less lucrative private pension plans, missing out on payments from their employers. Two million people were affected.
Financial advisers working on commission sold borrowers endowment investment policies designed to pay back mortgages when they ended. But they did not generate the big lump sums expected, leaving five million people looking for extra money to pay off their home loans.
Banks have been charging current account customers about £30 a time for breaching their overdraft limit or bouncing a cheque. The Office of Fair Trading believes the charges are so high they are illegal.