Why compensatory interest matters in motor finance claims

Compensatory interest is one of the most important parts of the Financial Conduct Authority’s (FCA) motor finance redress scheme. It is also one of the issues in Consumer Voice’s challenge to the scheme, which asks the Upper Tribunal to examine aspects of the FCA’s redress calculation methodology, including the compensatory interest rate and the regulator’s treatment of consumers’ actual losses.

Discussions about car finance compensation often focus on the overpayment itself. However, although the FCA’s estimated average compensation figure of £829 per eligible agreement includes compensatory interest, interest is a separate part of the redress calculation. It is intended to recognise that you were deprived of money that should have been available to you at the time.

The FCA’s final redress rules, set out in Policy Statement PS26/3, confirmed that simple interest would be added to compensation based on the annual average Bank of England base rate plus one percentage point, with a minimum rate of 3% in any year. The regulator also confirmed, in a change to the proposals in Consultation Paper CP25/27, that consumers will not be able to challenge the rate of compensatory interest rate they receive under the scheme.

Why is compensatory interest paid?

Compensatory interest exists because financial loss does not end on the day an overpayment is made.

If you paid more than you should have because of the inadequate disclosure of commission arrangements or contractual ties, you did not only lose the amount you overpaid. You also lost the use of that money. You could have spent it, saved it, reduced other borrowing, avoided charges elsewhere, or kept it as part of your household budget. At scale, this is also why motor finance mis-selling may have had consequences beyond individual agreements, by diverting money from household budgets for many years.

The Financial Ombudsman Service (FOS) explains this concept as compensation for being deprived of money and not having it available to use. It is paid in addition to the actual money lost, to put the consumer back in the position they would have been in had the firm not got things wrong, as the FOS puts it.

This is relevant to motor finance claims because affected agreements date back to April 2007. If you overpaid on an older agreement, you may have been without that money for many years, with the practical effect depending on your financial circumstances at the time.

Why compensatory interest became controversial in motor finance claims

The compensatory interest debate matters because the rate chosen can materially affect the size of redress payments.

Before the FCA published its final rules, some consumer representatives and groups, including Consumer Voice, argued that the proposed rate in CP25/27 was too low. Their concern was that, where lender misconduct deprived consumers of money for many years, a low compensatory interest rate may not properly reflect the real-world effect of not having access to that money.

This concern is particularly acute because the scheme covers agreements entered into between 6 April 2007 and 1 November 2024. During much of that period, the Bank of England base rate was very low, not exceeding 1% from 5 February 2009 until 16 June 2022. However, many consumers’ actual borrowing costs were far higher.

That is the central tension. A base-rate-linked approach is objective and administratively workable, but it may underestimate the real cost of being deprived of money. And it does nothing to correct the central unfairness which is that the lenders will have used consumer’s money to lend it out at significantly higher rates than the compensatory interest.

What did the FCA propose in CP25/27?

On pages 100 and 101 of Consumer Redress Scheme for Motor Finance, Technical Annex 1: Data, Analysis of Loss and Liability and Cost Methodologies, published on 7 October 2025 to accompany CP25/27, the FCA proposed that compensatory interest be calculated using a set rate of simple interest for each year covered by the scheme, based on the annual average of the daily Bank of England base rate plus one percentage point, rounded up to the nearest quarter percentage point. 

Under the initial redress proposals, consumers would also have been able to challenge the presumed compensatory interest rate and amount if they could provide evidence that the base rate plus one percentage point did not adequately compensate them. The proposals referred, for example, to situations in which consumers could demonstrate that being deprived of money forced them to rely on higher-cost credit. That was an important feature of the scheme consultation, as it recognised that some consumers’ individual circumstances might justify a higher rate.

However, this proposal also raised practical concerns, as consumers would have had to:

• identify the relevant issue;
• understand the basis of the compensatory interest calculation;
• gather evidence; and
• present a persuasive challenge within the scheme process.

For many unrepresented consumers, that would have been difficult.

Consumer Voice’s response to CP25/27

Consumer Voice was among the organisations most critical of the FCA’s original approach to compensatory interest. Before the final rules were published, Consumer Voice and other consumer advocates argued that the proposed rate could leave consumers materially under-compensated, particularly when compared with an 8% simple interest approach. 

The Guardian reported in November 2025 that Consumer Voice co-founder Alex Neill described the proposed rate as ‘unacceptable’ and said that asking those hit hardest to negotiate for a fair rate themselves was unworkable. Consumer Voice repeated its criticism in its December 2025 report, titled Consultation response, which addressed a broader range of issues it had identified in CP25/27.

This criticism reflects a broader concern about the redress scheme. The regulator has sought to design a process that is consistent, efficient and scalable across millions of agreements. However, that standardisation may reduce the compensation received by some individual consumers.

The FOS compensatory interest change

The FCA’s approach should also be viewed in the context of the FOS changing its own default approach to compensatory interest from 1 January 2026. For cases referred to the Ombudsman on or after that date, the FOS now generally uses a time-weighted average of the Bank of England base rate plus one percentage point for compensatory interest. The FOS’s default rate remains 8% simple interest per year for complaints referred before 1 January 2026.

In its announcement confirming the change, which followed a consultation during the summer of 2025, the FOS said the new rate would ‘better reflect actual economic conditions and the cost to consumers’. It also confirmed that it can still direct a business to pay 8% simple interest if a compensation award is not paid on time.

While the FOS’s consultation and subsequent update gave lenders and the regulator a clear reference point, its approach still differs from the FCA scheme. The FOS applies a daily, time-weighted average, while the redress scheme uses annual rates, partly to reduce complexity.

What the FCA put in the final rules

The regulator’s final rules made three important changes to its consultation position on compensatory interest.

1. The introduction of a 3% floor, meaning that, even in years where the Bank of England base rate plus one percentage point would have produced a lower rate, consumers will receive at least 3% compensatory interest for that year.
2. The removal of rounding. Had the FCA kept its consultation proposal, the annual average of base rate plus one percentage point would have been rounded up to the nearest quarter percentage point. In the final rules, where the 3% floor does not apply, consumers will receive the actual annual average base rate plus one percentage point, without that rounding.
3. Specifying compensatory interest rates for future years in advance, with the final rules outlining rates of 4.49% for 2026, 4.4% for 2027, and 4.6% for 2028. The regulator said this would provide clarity for firms and consumers and avoid inconsistent outcomes or further operational complexity.

The 3% floor improved the scheme for consumers. However, the final rules also removed the proposed ability to argue for a higher compensatory interest rate based on individual circumstances. The FCA said it made this change because the challenge process would be difficult for consumers to use and disproportionate for firms to operate. In practice, this is bad for some consumers because many will inevitably have had to take out additional borrowing at a higher rate as a result of having been overcharged for their motor finance.

Why the 3% floor matters

The 3% floor directly affects older agreements entered into during years when base rates were very low. It is not a minor technical adjustment. The FCA acknowledged that base rates were not closely linked to consumer borrowing costs during much of the period covered by the scheme. It also recognised that many consumers who had to borrow because they had overpaid on a motor finance agreement would likely have faced borrowing costs higher than base rate plus one percentage point.

The 3% floor appears to be an attempt to address that problem while preserving a standardised, scheme-wide approach. The regulator said the floor reflects: 

• likely consumer borrowing costs;
• the range of interest rates that may be awarded in court; and 
• the collective impact of redress liabilities on the future motor finance market.

This means many consumers, particularly those with older agreements, will receive more compensatory interest than they would have received under the FCA’s initial proposals.

Why the compensatory interest debate has not gone away

Although the final rules improved the proposed compensatory interest position in some respects, they did not resolve the underlying dispute.

• The consumer argument is that compensatory interest should reflect the real effect of being deprived of money, especially for consumers who borrowed elsewhere or suffered financial pressure because their car finance payments were higher than they should have been. From that perspective, a standardised rate may still fail to capture the lived financial impact of motor finance mis-selling. 
• The lender argument is that an 8% rate, particularly across a period when base rates were often below 1%, may overcompensate consumers and impose disproportionate redress costs. The lenders of course do not discuss the fact that they lend out money at a significantly higher rate. The FCA noted in PS26/3 that firms were ‘largely supportive’ of its base-rate-linked approach. 

Both arguments explain why compensatory interest has become central to the redress debate. It is not a side issue. It can make a substantial difference to the amount consumers receive, particularly where agreements are old or the underlying compensation award is significant.

Consumer Voice’s legal challenge to the redress scheme

The issue remained central after the final rules were published on 30 March 2026. In its statement confirming its challenge to the redress scheme, Consumer Voice wrote: ‘We believe the FCA has designed the scheme with greater regard to the impact on lenders than to what is fair and reflective of what consumers actually lost.’

Consumer Voice also argued that the FCA's approach to compensatory interest could mean billions less being returned to consumers than under an 8% interest approach, and that for many consumers, the calculation may not reflect the financial strain they experienced.

The outcome of Consumer Voice’s challenge may affect the scheme’s timing, methodology, or both. However, you should not assume that the challenge will necessarily increase compensation or that the scheme will proceed unchanged.

Our view on compensatory interest

Compensatory interest should not be treated as an accounting afterthought.

Where a consumer paid more than they should have for motor finance, the loss extended beyond the overpayment itself. The consumer also lost the ability to use that money at the time. In many cases, that may have meant: 

• less available cash for household bills;
• more reliance on other, potentially more expensive credit;
• a reduced ability to save; 
• the need to use existing savings; or 
• greater financial stress.

The FCA deserves credit for recognising that base rate plus one percentage point would have been too low in many years and would not have reflected many consumers’ real borrowing costs. The introduction of the 3% floor was a meaningful improvement on the proposals in CP25/27, because consumers’ borrowing costs were often significantly higher than the Bank of England base rate.

However, the final rules still involve compromise. A redress scheme designed to deliver compensation at scale, rather than address every consumer's individual circumstances, is understandable from an operational perspective. It also means that some consumers may receive less compensatory interest than reflects the real cost of being deprived of money.

It is significant that the final rules do not include the ability, originally proposed in CP25/27, for consumers to argue for a higher rate of compensatory interest based on their own evidence. That decision may make the scheme easier to operate. However, it also removes a route that could have helped consumers whose financial circumstances were materially worse than the standard calculation assumes.

This is why compensatory interest should be considered alongside the broader question of whether the FCA scheme captures the full extent of a consumer’s loss. For many people, the scheme may provide an efficient and cost-free route to compensation. For others, particularly those who suffered consequential loss, unaffordable lending, or other issues outside the scheme, the standard compensatory interest calculation may not tell the whole story.

What this means for your motor finance claim

If you receive a redress offer under the FCA scheme, you should not look only at the headline compensation figure. You should also understand how your lender calculated compensatory interest, how much it adds to your award, and the period over which it was applied.

Identifying issues with the calculation does not mean you should reject or challenge a compensation offer or pursue litigation. The redress scheme may still be the best and most practical option. However, understanding the compensatory interest element is essential when deciding whether any offer properly reflects your position.

Register your motor finance claim with Harcus Parker

The FCA’s final rules mean that you may be able to bring a motor finance complaint yourself and receive compensation at no cost. However, compensatory interest remains one of the most important areas to understand when assessing whether a lender’s offer is correct, and it may be difficult to verify that calculation without support.

Harcus Parker can help:

• identify your historical motor finance agreements;
• contact your lenders;
• manage your complaint;
• review lender responses and, where appropriate, verify or challenge compensation offers;
• advise on the appropriate route for your complaint; and
• investigate whether you have grounds to bring further claims outside the FCA redress scheme.

If you have not yet made a motor finance complaint and would like professional representation, you can register your claim with Harcus Parker here.