SRA Regulatory Reforms – achievable, realistic or beneficial?
Earlier this month, the Solicitors Regulation Authority (SRA) put forward a number of proposals as to changes to the way in which it believes that the profession should be regulated. This article looks briefly at those proposals and at some of issues that arise from them.
The proposals that have been put forward are based around the principles which the SRA has set out in its policy statement “Approach to Regulation and its Reform” and which is intended to “provide clarity to those regulated by the SRA, other stakeholders and to the legal services market more widely about the SRA’s role, its approach to regulation and its strategic priorities.”
The policy confirms that the SRA’s view of the purpose of its regulation is to:
- protect consumers of legal services; and
- support the operation of the rule of law and the proper administration of justice.
Given the controversial nature of some of the proposals we shall be looking at shortly, this could be seen as being perhaps at odds with what the SRA state elsewhere.
Whilst the policy is clearly seen by the SRA as being a fundamental statement of its intent, unfortunately it is perhaps too verbose to be widely read. Statements such as:
“objectives need to be considered when considering regulatory interventions designed to assure the achievement of the core outcomes”
“The SRA is clear that the regulatory objectives do not translate directly into objectives that the SRA must achieve. They are matters to which the SRA must have regard when discharging its regulatory functions”
do little to assist anyone as to what the SRA believes it should be achieving.
More problematical still is that statements such as:
“At the very core of the SRA’s regulatory purpose … is the assumption that the benefits to the public, or society as a whole, achieved through regulation outweigh the restrictions and costs necessarily imposed as a result of that regulation.”
seem to be at odds with what the SRA then put forward in their regulation reform consultation documents, whilst statements such as:
“in order to maintain the professional principles and protect consumers the SRA might require very high entry standards and continuing competence requirements. In fact these might be too onerous, again with a negative impact on access, diversity and competition. In both these examples, it is necessary to accept that, on balance, it might be in the public interest and provide a greater overall public benefit to set lower requirements (levels of consumer protection) at the cost of accepting that some individual clients will not be fully protected or compensated in every case”
could be argued to be dangerous since the SRA seems to be providing an excuse for reducing the quality of those who provide legal services and effectively condoning the de-professionalising of the legal sector.
Compensation Arrangements Review
Moving on, therefore, to the actual consultations, the compensation arrangements review is a review by the SRA of the arrangements it has in place to “compensate consumers of legal services when they suffer financial loss due to dishonesty, failure to account or civil liability of uninsured practitioners.”
It aims to identify potentially innovative ways of delivering the optimum level of client protection, and proposes changes to the SRA Compensation Fund Rules 2011 to set out who is eligible to claim on the Compensation Fund.
The main thrust of the proposal is to consider whether compensation arrangements should be open to all consumers, or only to individuals and small entities – thus mirroring the arrangements that apply, for example, to complaints to the Legal Ombudsman.
The proposal in the paper is that there should be a limitation as to those who can claim on the Compensation Fund, that limitation being to
- micro-enterprises – i.e. businesses with a turnover not exceeding £2 million;
- charities with annual income less than £2 million; and
- trustees of trusts with a net asset value less than £2 million.
It is argued that larger organisations are more able to takes steps to protect themselves and tend either to have other avenues of redress available or to have contributed to their own loss.
There does, on the face of it, appear to be a strong argument for restricting the breadth of those able to make claims on the fund. The SRA argue that the introduction of an eligibility criteria will ensure that the interests of those consumers who need support through regulatory arrangements are adequately protected whilst at the same time ensuring the operation of an efficient and effective Compensation Fund. Theoretically, it should also assist solicitors in that it could lead to a reduction in the contributions that need to be made to the compensation fund. In practice it will depend upon whether there is a marked decrease in the number of claims made by larger organisations and indeed whether the profession shoots itself in the foot by decreasing the attractiveness of firms to those in the business sector.
This latter point could especially impact upon smaller practices (those shown by the SRA’s own research to be the ones most likely to lead to claims upon the fund being made). In other words many smaller high street firms might find that commercial clients – in particular institutional clients such as the banks and building societies – may choose to take their work to those firms where the likelihood of a claim needing to be made is less.
The result could be that what those firms save in terms of their contribution to the fund they will lose many times over in terms of a reduction in work.
Here, the focus of the proposal is to rationalise the authorisation and supervision of those firms who provide legal and non-legal services by:
- reducing the regulatory burdens on those that want to be authorised to carry out reserved legal activity;
- removing existing barriers to entry into the legal services market, and
- improving access to justice by supporting legal businesses to widen consumer choice by authorising different structures that can offer legal advice.
This is a proposal which very much follows on from statements in its Regulation Policy, in particular in section 4.7 where it states that its aim is to ensure that:
- solicitors have the freedom to work on their own or within a wide range of businesses, whether regulated by the SRA or not, and that where they do so they are bound by a very clear set of personal obligations based on the LSA professional principles; and
- SRA regulated entities have wide freedom, as permitted by statute, to structure themselves in ways that make sense for their businesses and their clients.
All well and good. However, there is a danger here that without similar relaxations for those “ordinary” firms wishing to undertake a wider range of work, that the playing field is being significantly skewed.
As things stand at the moment, whilst ABS have in reality a growing freedom for elements of their businesses to carry out non-legal activities in a free and unfettered way – something which this proposal would appear to wish to increase – those practising from within traditional practice structures are still bound by the requirements of the separate business rule.
Although there are, it is said, plans for that rule to be addressed, unless this is done at the same time and to the same extent as the relaxation of regulatory requirements for MDP’s then an unfair trading position will be created.
Thus, the question has to be asked whether the proposed “safeguards” being put in place are sufficient to prevent that from arising. The consultation proposes that where an SRA authorised ABS that is an MDP carries out non-reserved legal activities, the SRA may agree that these activities will not be SRA regulated subject to:
- the activity not being carried out or supervised by an authorised person,
- the type of activity being subject to suitable external regulation,
- the ABS having procedures in place to ensure that clients are aware that the activity is not SRA regulated, and
- the activity not being of a type that the SRA defines as integral to the provision of reserved services.
It is arguable that this creates as many problems as it addresses. Many of those seeking ABS status are complex corporate bodies with subsidiaries, holding companies and associated trading bodies. The SRA is hardly in a position now to be able to monitor effectively how those complex bodies operate. How can it expect to do so if it grants those bodies even greater flexibility. Moreover, how is the ordinary client meant to know whether parts of a complex organisation operating an ABS are not SRA regulated or that the work being undertaken by a non-regulated part of the ABS is one which the SRA would define as “integral to the provision of reserved services”.
ABSs are a Pandoras box that, having been opened has been found to contain far more regulatory problems than could have ever been imagined at the time; turning a regulatory blind eye towards them is not going to make them go away, it will simply allow them to be more easily disguised.
Changes to minimum compulsory professional indemnity cover
The professional indemnity insurance (PII) consultation contains five separate proposals. They are to:
- reduce the level of mandatory PI cover to £500,000;
- introduce an aggregate limit on claims;
- require compulsory cover for claims by individuals, small and medium-sized enterprises, trusts and charities;
- reduce run off cover to a minimum of three years; and
- require firms to assess the level of cover appropriate to their firm beyond the minimum.
The view taken by the SRA is that these proposals will assist small law firms by allowing them to take out that cover which they need and should therefore reduce costs for legal services providers and consumers. Consumers will have the ability to check that firms have the correct level of cover whilst there will be nothing to stop firms from taking higher levels of cover should they need it.
The rationale behind the reduction in the level of mandatory cover to £500,000 is that, according to a report by Charles River Associates in 2010, 98% of all claims against solicitors are for less than £500,000 therefore in most cases paying for a higher level of cover is wasted money.
However, the counter argument is that if the majority of the claims are within the £500,000 then presumably the cost of the insurance will be geared mostly around those claims – resulting quite possibly in no appreciable saving to practitioners whatsoever.
A further factor to be borne in mind is that there would no doubt be a knock on effect on top-up cover. If the risk for the next tranche up is no longer being spread across the whole market then presumably that tranche of cover will become more expensive – thus penalising those firms that believe their clients deserve better levels of cover.
So far as the limit on claims aggregation is concerned, the question has again to be asked as to the whether a £5m cap will make any difference to the cost of insurance given the findings in the Charles Rivers survey.
Limiting the range of those entitled to make claims is the next aspect of this proposal and, as with the Compensation Fund proposal, one has to ask whether any savings made by firms will simply be outweighed by loss of work from those who can no longer make a claim.
Next comes reducing the run off cover. It has to be said that one of the major problems experienced by firms who wish to close has been the level of run-off cover that they have been required to pay. With rates running at 2 to 3 times annual premium, the cost for even an average firm can be disproportionately high with many choosing to struggle on – often when they should not have done so.
However, whilst reducing the length of the cover will undoubtedly make some reduction in the level of premiums charged, will that reduction be sufficient to make a real difference to firms who are closing down – many of whom are doing so because they do not have any money with which to carry on. With the majority of claims under run-off cover occurring during the first three years, will the reduction be all that great.
Moreover, what happens to those clients whose claim falls outside of the three year period and who, by reason of the 6 year statute of limitations period, still have a claim? Who will pick up the cost of their claim? The Compensation Fund? If so, is that not going to increase the costs that an earlier proposal was seeking to reduce? Partners of the firm who had believed that they had been paying PII premiums to protect themselves. Surely the losers here are the public without anyone else really being a winner.
Finally under this section is the proposal to require firms to assess the level of cover appropriate to their firm beyond the minimum. Given that the overall cost of the minimum cover may not reduce by a great deal and given that the cost of top-up cover is likely to rise due to the smaller spread of risk, then the likelihood of firms willingly taking anything other than the minimum is fairly remote.
So on balance, the effect of this proposal seems to be that it will make little difference to the insurers, little difference to firms but will deprive the public of a level of protection they currently enjoy and introduce yet another level of uncertainty.
Changes to reporting accounting requirements
Last, but not least, are the planned changes to the reporting accountant’s requirements.
Here, the proposal is to:
- Remove the mandatory requirement that firms must submit an annual accountant’s report to the SRA, and
- Place a duty upon COFAs to sign a declaration they are satisfied that the firm is managing client account in accordance with the SRA Account Rules.
This is one of those proposals which fit within the SRA’s stated desire to reduce unnecessary regulatory burdens upon firms and to reduce the cost to firms of compliance.
It is also, it must be said, prompted by a desire on the part of the SRA to save money – notwithstanding the statement in the regulation policy which we highlighted near the beginning of this article – namely that “benefits to the public, or society as a whole, achieved through regulation outweigh the restrictions and costs necessarily imposed as a result of that regulation.”
Behind this proposal is the belief by the SRA that accountant’s reports do not really perform a valid function – that being between 6 and 18 months out of date they are of questionable public protection value in terms of alerting the authorities to fraud or bad accounting. Much better, the SRA believes, to have a targeted approach that concentrates efforts on those firms about whom the SRA have concerns so that they can engage with them in a measured way.
As with others of these proposals, one has to ask whether they will in reality achieve what they set out to achieve. In other words will there really be a reduction in the regulatory burden for firm and will there be any financial savings – either to the firm or to the SRA?
Whilst many firms will certainly be relieved of the cost of paying for an accountant’s report, this will not in itself be a saving if it simply increases the amount that the COFA (who may be a fee-earner/partner within a firm) has to do to verify that they are “satisfied that the firm is managing client account in accordance with the SRA Account Rules.”
Moreover, is the SRA not going to be inundated with the need to “engage in a measured way” with all those firms who, having lost the useful oversight of their accounts by someone trained to spot financial and accounting problems, have simply lost their way in accounting terms.
Furthermore, what this proposal does not take into account is the long-term safeguard that the accountant’s report provides. Yes, it may be too late after 18 months for a fraud to be prevented – but it may be sufficient of a deterrent to know that the accounts will be looked at to prevent partners from dipping into client’s account to tide them over the bad times.
Taken as a whole, therefore, can we regard the latest proposals as a constructive way forward to easing regulatory burden without prejudicing public protection.
Many of the alleged benefits are quite likely to be illusory whilst many of the losses of protection for the public are only too real.
More logical, less burdensome and more effective regulation is a worthy goal.
The overall aims of the policy – to:
- remove unnecessary regulatory barriers and restrictions and enable increased competition, innovation and growth to better serve the consumers of legal services;
- reduce unnecessary regulatory burdens and cost on regulated firms;
- ensure that regulation is properly targeted and proportionate for all solicitors and regulated businesses, particularly small businesses.
are in themselves worthwhile.
The ways in which the SRA has chosen to achieve those aims is, it has to be said, less so.
The SRA has set a very short timetable for responding to these proposals. Given their recent reluctance to pay heed to the comments (as evidenced in relation to their plans for Continuing Professional Development) they receive then possibly the time scale is irrelevant.
What they should be urged to do, however, is to take a more considered view than they are doing here – and possibly give those who are affected the opportunity for a full and reasoned debate.