Bank of Scotland, Lloyds Banking Group PLC's (LYG) main banking unit in Scotland, said Wednesday that it will pay customers around GBP17 million as compensation for not properly handling complaints over the bank's sale of several retail investment products.

The compensation comes after the Financial Services Authority conducted its own investigation and fined the bank GBP3.5 million for the mishandling of complaints, underscoring the regulator's increasing effort to protect customers from poor banking practices.

The fine comes after Lloyds earlier this month took a GBP3.2 billion provision to compensate customers who were sold payment-protection insurance products. The FSA last year ordered banks to review their records and consider reimbursing customers after widespread complaints about the policies failing to pay out or having been inadequately explained.

The fine against Bank of Scotland is higher than the GBP2.8 million total fine imposed in January on Royal Bank of Scotland Group PLC (RBS) and its National Westminster Bank PLC (NWBD.LN)--also due to failings in the way they handled customers' complaints.

The FSA said Wednesday that Bank of Scotland received 2,592 complaints between July 30, 2007, and Oct 31, 2009.

The complaints, many from older customers with little or no experience of investment products, were about the bank's sales of various investment plans, including its Collective Investment Plan, Personal Investment Plan, Guaranteed Growth Bond, ISA Investor and Guaranteed Investment Plan.

The FSA said Bank of Scotland "wrongly rejected a significant number of these complaints."

An internal review by the bank on a sample of rejected complaints revealed that as many as 45% of the complaints it had handled "should have been upheld rather than rejected."

The FSA's own investigation found that the bank's complaint handlers were failing to note relevant customer information. It said "poor decisions were made on whether the investments were suitable for customers who complained."

It said complaint handlers were "not always aware of emerging issues" and that the bank failed to effectively analyze the causes of the complaints it received.

"Had Bank of Scotland done so, it would have identified sooner than it did ways to improve its processes," the FSA said.

It said Bank of Scotland was alerted about its handling of complaints because the Financial Ombudsman Service was overturning around 46% of the bank's decisions to reject complaints.

In reaction, Ray Milne, risk director at Bank of Scotland, said: "We recognize that on this occasion we have fallen short of the high standards of service our customers should be able to expect of us and we apologize to them for this."

"We are committed to putting this right and have co-operated fully with the FSA to determine the proper course of action for these customers," Milne said.

The bank said it has agreed to pay the fine and "expects to pay compensation of around GBP17 million to customers whose complaints are upheld" after a review to be completed by end-July.

- By Vladimir Guevarra, Dow Jones Newswires. Tel. +44 (0) 2078429486, vladimir.guevarra@dowjones.com

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