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Ever wonder what the fuss over Payment Protection Insurance (PPI) is all about?

You've come to the right place. This is our full guide to how PPI works, how the crisis in the way the product was sold unfolded and what the banks will do next.

What is Payment Protection Insurance (PPI)?

PPI is designed to protect borrowers' payments.

The idea is that, just as car insurance protects holders from bumps on the road, PPI protects borrowers from financial scrapes.

If the borrower loses their job, has to take maternity leave or otherwise suffers a loss of income so severe that they can't continue to make repayments on their financial commitment, the insurance promises to cover the payments until the policyholder gets back on their feet.

Defaulting on any form of borrowing has far-reaching consequences. In the short-term it means a fine for missing the payment.

In the medium to long-term the default will appear on credit records visible to future potential lenders and missing payments, especially at a vulnerable time, could lead to the debt mounting even further.

Do I need PPI?

The fact that PPI was mis-sold for so many years doesn't mean that, when it's sold well and appropriately, it can't offer consumers some useful protection.

However, PPI has become so infamous precisely because, over many years, it was sold neither well nor appropriately.

For example, many of those who ended up with PPI policies could never have claimed on their policy. Many policies stipulated that those who were self-employed couldn't claim, for example, yet millions paid out for their policies in any case.

All in all, then, PPI can still be worthwhile but only when borrowers check the following:

• Policy small print: would you ever be able to claim? Check the eligibility requirements and any exclusions
• Overlapping cover: could workplace benefits, savings or another insurance policy you already hold cover repayments for 12 months? If so, PPI is likely to be superfluous
• Shop around: look at different providers to find the best deal before signing up, a deal straight from the loan or credit card provider will often be far more expensive than competitors

PPI mis-selling: a short history

PPI grew into the biggest personal finance story of the last five years through a groundswell of consumer complaints that slowly turned into a torrent that has cost the UK's biggest banks millions of pounds.

Consumer groups started to raise concerns about the product as early as 1998, in much the same way as we talk about products such as ID theft insurance now.

However, solid action wasn't taken until 2005 when the Financial Service Authority (FSA) took over regulation of the general insurance market and issued its first report on mis-selling which concluded that, "the sale of PPI poses a high risk to our consumer protection objective."

In the same year, Citizens Advice issued a supercomplaint about PPI to the Office of Fair Trading (OFT).

That complaint included evidence of:

• Excessively high prices
• Only partial protection, with many exclusions which prevent many seemingly reasonable claims
• Mis-selling, including high pressures sales tactics
• A slow and often unfair claims process when consumers are eligible to claim

Opposition to PPI was beginning to grow. In September 2006 through to January 2008, the very fines for PPI mis-selling were levied against some smaller financial providers by the FSA.

In January 2009, a year after the OFT handed its investigation over to them, the Competition Commission recommended that sales of PPI be banned alongside lending products such as credit cards and loans.

Barclays, with the support of Lloyds group, took the Competition Commission ruling to court.

In May 2010, the Competition Commission won out against Barclays' appeal and could stop the sale of PPI at point of sale.

The rules weren't actually implemented until October 2011, however, so although some stopped PPI sales in any case the real PPI story became the FSA.

In August 2010, the FSA published its PPI consultation paper which recommended that banks who had engaged in mis-selling should compensate all the customers who had been sold products using the same methods.

The British Banking Association (BBA), a trade body for all UK banks, appealed against the FSA rules by seeking a judicial review to have them annulled or curtailed.

Meanwhile, consumer groups were continuing to encourage millions of people to claim for PPI premiums, often totaling thousands of pounds over the course of the borrowing period.

By May 2010, 30% of all cases coming in to the Financial Ombudsman Service, the body which adjudicates when a consumer doesn't accept a complaint they've made through a bank's internal complaints procedure, concerned PPI. The largest complaints group by far for any single product.

However, the BBA's decision to take the FSA decision to a judicial review stopped the reclaiming process in its tracks: every High Street bank except for Santander stopped processing PPI claims.

The real breakthrough for consumers came in April 2011, then, when the banks lost their PPI case and the freeze on claims ended. A month later, the BBA confirmed that they wouldn't take the decision to appeal.

Once that happened, the floodgates for claims were opened: banks apologised and started working through the backlog of complaints, much to the relief of the FOS.

However, the story is far from over. In October 2011, banks admitted they were falling behind on refunds and many claims aren't expected to be settled until 2012.

Furthermore, having taken the a hit of billions in repayments banks are widely expected to capitalise on similar products in the same way in the future (see 'new PPI' below).

A short history of... fines for PPI mis-selling

Date	Firm	Fine/settlement
September 2006	Regency mortgage corp ltd	£56,000
October 2006	Loans.co.uk	£455,000
December 2006	Redcats	£270,000
January 2007	GE capital bank	£610,000
February 2007	Capital One	£175,000
January 2008	HFG Bank	£1,085,000
January - September 2011	16 firms, 92% market	£776 million (£102m in May/June 2011)

PPI now

Under new rules for its sale and with the cloud of the mis-selling scandal still far from clear, it seems unlikely that PPI will ever be sold as widely as it once was.

As we've noted above, the product is still available through a number of providers and claims for mis-sold policies are still rolling in so it's still a large part of the personal finance landscape.

However, claims management firms 'selling' reclaimed PPI cash and similar products which many fear will replace PPI as banks' money-making product of choice are now just as large a cause for concern.

Claims management firms

As soon as the scale of the PPI scandal emerged so did a number of commercial businesses which aimed to profit from it, despite the fact that claiming through the FOS is free and requires no legal knowledge.

The average PPI payout for a mis-sold policy is £2,750 so, assuming that the claims management firm takes its usual 25% fee, consumers who use a claims management firm must pay out £825 of their rebate as soon as they get it.

35% of people applying to FOS between the ages of 25 and 54 do so through private claims management firms and those in the social-economic group DE (unskilled workers) are twice as likely to do so, compared to those in the ABC groups.

The youngest (under 25) and oldest groups (over 65) were far more likely to bring a claim themselves.

The 'new PPI'

Finally, consumers have been warned that, even in the wake of the PPI crisis, there may be a significant increase in the selling of PPI-like products, also often sold alongside borrowing and also potentially difficult to claim on or otherwise unsuitable for the consumers who purchase them.

In November 2011, the FSA issued a warning to firms about such products and said that it would take cases of mis-selling very seriously.

However, many consumer groups and other interested particles continue to contend that financial providers are following the letter, rather than the spirit, of such guidelines.

The trend seems to be towards insurance products which are either linked far less directly to a single borrowing product such as a credit card or loan, thereby bypassing rules surrounding the sale of such products alongside the opportunity for borrowing or, in exactly the opposite direction, reside so far within the terms of product as to be indistinguishable from it.

For example, it was recently revealed that Vanquis makes a large proportion of its profits through selling Repayment Option Plans (ROP), a good example of the second form of 'new PPI'-style product.

Like PPI, ROP policies require a single monthly repayment, often as a proportion of the amount borrowed, and claim to offer borrowers protection if they suffer financial difficulty through a change in circumstances.

Unlike PPI, however, the cover takes the form of either a repayment freeze until the end of the difficulties or a payment holiday so that cardholders can skip some repayments without penalty.

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