FSA concedes that reform of financial ombudsman system may be necessary

The Financial Services Authority has privately conceded that its consumer watchdog system is flawed and it is considering ways to change it.

The problems lie with the financial ombudsman system, which is meant to deal with complaints against financial services companies and rule on whether they have been treated fairly.

Banks and building societies believe the ombudsman's decisions have strayed into far more general territory, forcing them into such wide-ranging changes as re-pricing their entire mortgage book.

Companies also object to the rules surrounding appeals against the ombudsman's decision, because they have to be directed to the same body.

The situation has caused so much resentment that the ombudsman now faces a judicial review over one of its decisions. Decisions by the ombudsman which particularly angered financial institutions were over mortgage rates and rules surrounding tax exempt special savings accounts (Tessas).

Walter Merricks, the chief ombudsman, ruled earlier this year that two customers of Nationwide and Halifax had been treated unfairly because both institutions introduced second, lower, mortgage rates but would not move customers onto the rate if they already had a discount deal linked to their old rates. The decision only concerned two cases but it forced Nationwide to spend £90m to move all of its customers in the same position onto the lower rate and made Halifax withdraw its lower rate, disadvantaging thousands of customers.

The watchdog has also been widely criticised for its position on Tessa investment products. It said companies were not allowed to offer better deals to customers with individual savings accounts than to those with Tessas. One provider, Norwich & Peterborough building society, disagrees so strongly with the outcome that it has started judicial review proceedings for this autumn.

The FSA is discussing ways to oversee the process, so that providers are given more guidance about whether they have to apply individual decisions to their entire customer base.

A spokesman for the omdubsman denied that there was friction with the FSA, saying: "We work very closely with the FSA and pass a lot of information onto them. But we are a quasi-judicial body and so can only rule in particular cases. Banks and building societies may want more clarification of when they have to apply our decisions more generally."