In the wake of some large payouts, the UK Financial Services Authority is proposing changes to the funding of the financial industry contingency fund, known as the Financial Services Compensation Scheme (FSCS).

The FSA Wednesday launched a consultation on possible changes to the funding of the FSCS. It notes that the current funding model has been in place since April 2008, and that since then, there have been significant payouts, resulting in sizable levies for certain sorts of firms.

Currently, firms pay into the scheme based on their membership in five broad classes of the industry: deposits, investments, life and pensions, general insurance and home finance, which are further divided into manufacturers and distributors. Each of these classes has a limit on the amount it could be required to contribute to compensation claims in each year, but if this threshold is breached, the other classes can be required to contribute.

The FSA notes that there have been significant calls on the fund over the last few years, including £20 billion in 2008/2009 to cover five bank failures, the failure of several significant investment firms, and the bankruptcy of firms with claims against them for insurance miss-selling. This has led to higher levies on the industry, and for calls to review the current model, including how costs are allocated, the affordability and unpredictability of levies, and the use of cross-subsidies.

The proposed changes to the funding model aim to continue providing coverage, but to also reduce the likelihood of interim levies and offer firms more certainty in the level of fees they pay.

It proposes two separate approaches for funding the FSCS, based around the two new regulatory authorities that are to be created out of the FSA in 2013: one for activities that will be subject to the new Prudential Regulation Authority, such as deposit takers and insurance providers; and one for the other activities that will be subject to the new Financial Conduct Authority’s (FCA) funding rules. There would be no cross-subsidy between the two.

It also proposes to revise annual thresholds, based on assessments of affordability, and; to consider potential compensation costs expected in the 36 months following the levy instead of 12 months, as is currently the case, in order to smooth the impact of levies.

“A viable compensation scheme is essential to financial services – investors and savers need to have confidence. The industry can agree on that, but as soon as it comes to discussions about funding, all such agreement immediately breaks down,” notes Sheila Nicoll, FSA director of conduct policy.

“Compensation funding inevitably means that different sectors have competing interests. Our role has been to walk the middle ground and produce a workable solution that we believe the entire industry can afford and live with,” she added.

The consultation will run until October 25.