When Gary Hill took out a £12,500 loan to pay for a new family vehicle in late 2014, he had no idea that the north London dealership he had travelled to from his home in Bedfordshire could have sway over his monthly payments.

But the 45-year-old was in a bind, having started a new job that no longer gave him access to a company car. Hill agreed to pay £335 a month over more than five years to take home a Nissan Qashqai, piling costs on to a household budget already supporting three children and the up-keep of his family home.

At the time, lenders gave car dealerships and brokers the power to set interest rates on car loans, and earn higher commission as that number grew. The practice – known as discretionary commission arrangements (DCAs) – was eventually banned by the Financial Conduct Authority (FCA) in 2021, amid concerns it was incentivising dealers and brokers to charge higher interest rates.

But a recent influx of complaints – with nearly 10,000 referred to the Financial Ombudsman as of December 2023 – led the regulator to launch an investigation in January to see whether the historic practice resulted in customers like Hill paying more than they ought to. The FCA will decide whether to take any further action, which could include launching a customer compensation scheme funded by the lenders that sat behind the arrangement, in late September.

“It is a bit galling to think that individuals feel as if they can fleece the man off the street,” said Hill.

He is now among millions of borrowers filing claims against their lenders to see if they are eligible for a slice of a compensation bill that the consumer champion, Martin Lewis, says could be the largest since the infamous PPI scandal, which cost banks over £50bn.

Hill’s lender MotoNovo, the car financing arm of specialist lender Aldermore Bank, which provided the loan that he agreed to at the dealership, said they would not comment on specific customers but added: “We’re working collaboratively with the FCA on any investigations they undertake. We won’t be commenting further at this stage whilst the FCA’s review is still in progress.”

The FCA in April warned car lenders to hold back cash for potential payouts, which some analysts believe could collectively cost the industry £8bn-£13bn.

That could impact big banks and specialist lenders alike. Lloyds Banking Group – which is the most exposed among UK high street banks – has already put aside £450m for potential fines, while Close Brothers has scrapped its dividend and announced plans to strengthen its balance sheet by £400m. Ford’s financing arm, FCE Bank, said in its latest financial filings that there was a “reasonable possible risk of economic outflow related to customer claims” but that it was too early to make provisions.

Fears over a hefty bill have spurred industry lobby groups such as the Finance and Leasing Association (FLA), which represents car lenders ranging from big high street banks such as Barclays to the finance arms of manufacturers such as Ford and Volkswagen, into action. And their efforts have not gone unnoticed.

In early May, the FCA’s chief executive, Nikhil Rathi, told MPs on the parliamentary Treasury select committee that “the trade associations representing banks and motor finance companies are making very strong representations to us and I’m aware they’re making presentations to this committee as well and, likewise, consumer groups.”

The FLA’s key warning: UK borrowers will suffer if firms are forced to pay out. “The higher the bill, the higher the interest rate will be for the customer, and then fewer customers will get access to finance for their vehicle,” the FLA’s director of motor finance, Adrian Dally, said. “That’s how it works. And it’s really simple as that.”

However, whether that is a credible threat remains to be seen, according to Lewis, the founder of MoneySavingExpert.com. “I don’t remember any form of mis-selling or reclaim campaign – and I have been involved in many – where the industry hasn’t always argued, ‘well, it’s gonna cause problems and make it more difficult in the future because we’ll be making less profit’. That’s just the obvious step in the dance.”

But motor lenders – which lent £16.9bn to UK car owners last year – argue DCAs also allowed dealerships to charge lower interest to customers at times when they needed to clinch a sale.

The FLA fears that the regulator could ultimately side with the Financial Ombudsman Service, which the lobby group has accused of being “overzealous” in its interpretation of responsible lending rules.

They are concerned about two cases which the Financial Ombudsman upheld earlier this year against Lloyds and Barclays, which caused the FCA investigation. In those cases, the ombudsman found the lenders would have accepted much lower rates than those set by the dealership, meaning there may have been a conflict of interest that potentially harmed consumers.

But Dally argues consumer harm should be balanced against a host of other factors, including potential disruption to the industry. “Seven million households have a motor finance agreement,” he said. “And market integrity, which is a statutory obligation for FCA, means that the UK needs those 7m households to continue having access to motor finance after this work – and at a good price.”

He also noted there could be ripple effects for the “willingness of international manufacturers to supply cars to the UK”. While the FCA does not directly regulate carmakers, there are questions about how this could affect the UK’s relationships with foreign car manufacturers already feeling burned by Brexit.

Foreign investors have already been raising concerns about the FCA investigation with firms that have no exposure to the motor finance industry, according to one senior banker. Those investors are concerned that lawful behaviour by firms they decide to back today could end up costing billions in fines in the future.

All of that is to say that the car financing review could prove to be one of the first significant tests of the FCA’s so-called secondary objective, which since last summer forces City regulators to consider how their decisions impact international competitiveness and UK economic growth.

Lewis said it had put the FCA in a “very interesting position”.

“I certainly think there is a potential battle within the FCA between, let’s say, the consumer championing elements and maybe the competitiveness elements. And it would not surprise me that that is something that is yet to play out. And we will see where it goes,” Lewis said.

Where the FLA and Lewis do agree is that a swift resolution is key, given the flood of complaints hitting lenders, including from notorious claims management companies, which offer free services upfront but can charge up to 25% of any successful claim.

An FCA spokesperson said: “In deciding next steps, we will be informed by our primary statutory objectives to protect consumers, ensure market integrity and promote competition in the interests of consumers.

“If we find there has been widespread misconduct we will identify how best to make sure people who are owed compensation receive an appropriate settlement in an orderly, consistent and efficient way.”

The Treasury declined to comment.