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ombudsman news

issue 38

July 2004

banking - standing orders and direct debits

standing order or direct debit-

Many of the complaints we get about regular payments wrongly describe a standing order as a "direct debit", or a direct debit as a "standing order". It's maybe not too surprising that customers get the terms muddled up, because standing orders and direct debits do broadly the same thing, even though they work very differently. It doesn't help, though, when bankers themselves sometimes describe them wrongly. Here's a brief explanation:

standing orders are customers' instructions to their bank to pay a set amount, to a named beneficiary, at regular intervals (say on the 1st of the month) - either for a specific period of time or until cancelled.

direct debits are:

  • customers' authority for beneficiaries to claim payments (variable in amount and frequency) from the customers' accounts; and
  • customers' instructions to their bank to allow the taking of those payments.

A standing order requires the customer's bank to send the money. A direct debit requires the beneficiary to claim the money.

Typically, a standing order might be used to pay a fixed amount to a savings account or to a local club. A direct debit is more likely to be used to make payments that can vary from time to time - such as mortgage instalments or utility bills.

The day-to-day advantage of a direct debit over a standing order is that, as and when the payment amount changes, the beneficiary will claim the new amount automatically - after telling the customer of the change. With a standing order, customers need to give their bank new instructions each time a change is needed.

how the systems work

Standing orders can be simpler than direct debits - mainly because the beneficiary is not involved in claiming payments. At set times, the customer's bank just sends the money to the beneficiary's bank and only the customer can alter the payments. The beneficiary can be anyone.

In contrast, the variable nature of direct debits means that beneficiaries can claim different amounts at different times. This flexibility is the main advantage of the direct debit system - but there is a potential risk that unscrupulous or inefficient beneficiaries might claim money that is not due to them.

To combat this - and to reassure customers - the direct debit system contains two main safeguards:

  • the direct debit guarantee provides for the customer's bank to refund disputed payments without question, pending further investigation. (For fuller information about the direct debit guarantee, see the April 2003 edition of ombudsman news).
  • direct debits can only be set up for payments to beneficiaries that are approved "originators" of direct debits. In order to be approved, these beneficiaries are subjected to careful vetting procedures - and, once approved, they are required to give indemnity guarantees through their banks.

Usually, the customer has to sign a direct debit form, although some particularly trusted originators are authorised to set up direct debits where the customer has given authority over the phone. If that sounds a little risky, remember that the originator must have obtained the bank account details from the customer - and that the customer is protected by the direct debit guarantee.

Payments themselves are made by a system that is in some ways based on the cheque clearing system. This means that the process usually starts two working days before the money is due to reach the beneficiary's bank account.

Direct debits are processed through BACS (Bankers' Automated Clearing Services), as follows:

  • Day 1: BACS receives electronic details of all direct debit payments due on Day 3
  • Day 2: BACS sorts the information between banks and gives each bank a report of all payments due on Day 3
  • Day 3: Payments are made - the beneficiary's bank account is credited, and the customer's bank is debited

Just as with a cheque, a bank can "bounce" a standing order or a direct debit if there's not enough money in the customer's account on Day 3 to cover it. And, in most circumstances, the customer can cancel, or "stop", a standing order or a direct debit up to and during Day 3 - the day of payment.

recent trends and developments

Consumers are making more and more use of standing orders and direct debits. Over the past couple of years, transaction numbers have gone up by about 12%. In fact, standing orders have seen something of a renaissance in recent years - with the increased use of internet banking making it easier not just to set them up, but also to keep them up-to-date.

Since late 2003, BACS has comprised two organisations:

  • BACS Limited - responsible for physically processing payments, and maintaining the payment network; and
  • BACS Payment Systems Limited - governing the rules under which payments are made, and responsible for maintaining and developing the integrity of payment schemes.

It's still too early to tell what effect this division of responsibility will have. But last year saw the beginning of a major upgrade to the system used to make payments - from telecoms-based to internet-based. This is due to be fully operational by 2005.

The principal advantage of an automated "regular payments" system is that, if it all works correctly, the right payments are made at the right times without regular human intervention. But ironically, this is also its biggest potential weakness. If, at the outset, payment information is keyed wrongly into the bank's system, then payments will be made wrongly and will continue to be made wrongly until someone spots the mistake. Often, it will be the customer, not the bank, who discovers the problem - maybe many months afterwards, and sometimes only once the person who was expecting the money has complained that they've not received it.

case studies - banking - standing orders and direct debits

standing order - whether bank responsible for missing payments after failing to change details of account number and then allocating account number to a different customer

When Miss V came to the UK for a one-year post-graduate course, she rented a property close to the university. At the request of her landlord, Mr J, she opened a bank account at the branch where he had his account. Miss V set up a standing order from this new account to pay her monthly rent of £800 into Mr J's account.

Almost a year later, just before Miss V's course finished, Mr J contacted her to complain that she was behind with the rent. Miss V was certain that couldn't be right. She made a point of checking her bank statements every month and knew that all the payments had been made. But Mr J was adamant - so Miss V got in touch with the bank to try to find out what had happened. The bank confirmed what Miss V already knew; the payments had all been properly made from her account. Miss V went back to Mr J with that information. Mr J finally accepted her story, but he then complained to the bank, because he had never received the payments in question. The bank's investigation revealed that Mr J had transferred his bank accounts offshore shortly after Miss V set up the standing order. It was the bank that had suggested he should do this. Mr J was not resident in the UK but had about 50 properties in the UK that he let out. Most of his tenants - like Miss V - had set up accounts with the same bank. And as part of the process of transferring Mr J's accounts offshore, the bank had agreed to alter all the tenants' standing orders so that their rent was paid into one of Mr J's new offshore accounts. Unfortunately, however, it overlooked Miss V's standing order.

The problem was compounded because, within a few weeks of transferring Mr J's accounts offshore, the bank reallocated one of his old account numbers to another customer. This customer had received Miss V's rent payments for nine months, without querying the payments, and had then withdrawn all the money and closed the account.

Mr J asked the bank to pay him a total of £15,000 - comprising the lost rent of £7,200, plus a significant amount for "distress and acute embarrassment of loss of face with my tenant." But the bank offered Mr J only £1,600 - the equivalent of the first two months' rent. It said that, as an experienced landlord, he should have spotted much sooner than he did that he was not getting the rent payments. Dissatisfied with this offer, Mr J brought his complaint to us.

complaint settled
Mr J had not been under any legal obligation to check his bank statements. However, we concluded that he might reasonably have spotted the mistake at an earlier stage. The rent from his properties appeared to be Mr J's main source of income, and although he was not resident in the UK, he made frequent visits and looked after the properties himself - rather than using a managing agent.

It took quite a few phone calls, but we managed to mediate a settlement whereby the bank paid Mr J a sum equivalent to half of the missing rent (£3,600), rounded up to £4,000 to cover lost interest and to provide some allowance for the inconvenience he had experienced.

We later found out from the bank that it had also received a complaint from Miss V for "distress and acute embarrassment of loss of face with my landlord". That dispute was not referred to us, as Miss V accepted the bank's offer of £200 in settlement, somewhat less than the £5,000 she had originally asked for.

standing order - customer intends to make only 10 monthly payments and complains after bank has made 13 payments - bank says it followed her instruction to pay "until further notice"

A teacher, Mrs B, agreed to buy a car from her colleague, Mr M, for a total of £4,000. She gave him £3,000 in cash and arranged to pay the rest of what she owed him in 10 monthly payments of £100. She set up a standing order with her bank to make the payments to Mr M's account.

It was only after the bank had made 13 monthly payments into Mr M's account that Mrs B realised that there was a problem. By that time, she'd fallen out with Mr M, because the car had proved troublesome and costly to repair and she didn't think it had been worth what she'd agreed to pay for it. She asked Mr M to pay her back the extra £300 but he refused.

Mrs B then complained to her bank. She asked it to refund the three payments that she said it had made in error. The bank denied that it had done anything wrong and it rejected her complaint.

It told Mrs B that it had known nothing of the underlying transaction, so had no reason to suspect anything might be amiss. It said it had simply followed her instructions, and it showed her the standing order form she had completed and signed. This said "pay Mr M £100 a month", and she had ticked the option indicating that payments should continue "until further notice".

complaint rejected
When she referred the complaint to us, Mrs B maintained that, because she knew nothing about standing orders, she'd relied on the bank to help her fill in the form. But her bank statements made it clear that she'd set up standing orders before, and there was nothing to show that she'd asked the bank for any help before filling in the form in question. We concluded that she had probably simply made a mistake when filling in the form and was now trying to blame the bank for her own error. We did not uphold her complaint.

direct debit - bank Y takes direct debit payments from customer's account with bank A - bank Y ignores repeated reminders that it is taking the money from the wrong account - customer's repayments go into arrears

Mrs G had two current accounts with bank A. She took out a loan with a different bank - bank Y - and arranged to repay it by direct debit payments from her 'number 1 account' with bank A. To begin with, all went according to plan. But a few months later, Mrs G moved house. She said she wrote to both banks, telling them her new address, and asking that all future loan repayments should come from her 'number 2 account' with bank A. At the time, she believed both banks had received her letter, but bank Y later said that it had never seen it.

When bank Y claimed the next loan repayment, bank A spotted that it had mistakenly claimed the money from Mrs G's number 1 account. Bank A made sure the repayment was taken from the number 2 account, and it wrote to bank Y to remind it of Mrs G's recent instruction.

However, bank Y ignored the letter from bank A and, for the next six months, it continued to claim payments from Mrs G's number 1 account. Every month, bank A corrected the payments, and it kept on asking bank Y to sort matters out at its end.

On the seventh occasion, bank A failed to intervene to ensure that the loan repayment was debited to the number 2 account. And, because Mrs G did not have enough money in her number 1 account to cover the repayment, it was not paid. So Mrs G's loan fell into arrears.

Bank Y wrote to Mrs G about the missed payment. However, it sent the letter to her old address, so she never received it. The problem did not come to light until after bank Y had registered the defaulted loan with the credit reference agencies.

Mrs G then complained to both banks. Bank A, which had tried to help throughout but had overlooked sorting out the seventh wrongly-claimed payment, accepted responsibility for that failure and offered Mrs G £200 in compensation.

But bank Y maintained that it had done nothing wrong. It said it had not known that she had wanted to change her instructions, or that she had moved house. Mrs G then referred her complaint to us.

complaint upheld
When we looked into what had happened, we said that bank A had not been under a primary obligation to keep on sorting out bank Y's mistakes. We told Mrs G that its offer of compensation was generous, and that she should accept it.

However, we thought that bank Y's conduct had been far from satisfactory. Even if it had not received Mrs G's original letter, it was stretching credibility too far for it to say that it had not received any of bank A's repeated reminders.

So, provided that Mrs G made up the missing loan repayments (which she was happy to do), we told bank Y to:

  • refund all charges and the additional interest it had levied on the loan;
  • make sure the adverse credit reference agency entries were removed; and
  • pay Mrs G £400 compensation for the distress and inconvenience caused by its repeated errors.

Bank Y reluctantly agreed. But then it mistakenly paid her the £400 twice - once to her number 1 account and once to her number 2 account. It was Mrs G who spotted the double payment, not the bank. She asked if it wanted the surplus £400 back - but by that stage, it seemed that bank Y was rather embarrassed by the whole affair, so it told her she could keep it.

direct debit - when customer complains, bank causes confusion by telling him the direct debit is a standing order

Mr K was the treasurer of a small charity. He set up a direct debit to pay the service charge for the charity's office premises. The annual amount was £376.49, payable quarterly in advance by means of three payments of £94.12, and one of £94.13.

A few months later, after the landlord had claimed the higher payment as the first of the quarterly instalments, Mr K complained to the bank. He said he had expected the higher payment to be claimed last, and that "although the variation is only 1p, it is nonetheless of considerable inconvenience to me because of book-keeping corrections."

It later became clear that the landlord had explained to the charity exactly what payments would be taken when. So the bank had not done anything wrong.

However, in trying to deal with the complaint, the bank told Mr K that the payment instruction was a standing order (not a direct debit) and that the fault was all his. It took the bank three attempts, and as many weeks, to give Mr K a reasonable explanation - which, because of the earlier confusion, he then either didn't understand or didn't accept.

complaint rejected
After we got involved, we spent some time explaining the system to Mr K. But we also told the bank that because of its basic misunderstanding at the outset, and its ineptitude in trying to deal with such a simple matter, it should pay the charity some compensation. It agreed to do so.

Walter Merricks, chief ombudsman

ombudsman news gives general information on the position at the date of publication. It is not a definitive statement of the law, our approach or our procedure.

The illustrative case studies are based broadly on real-life cases, but are not precedents. Individual cases are decided on their own facts.