* Banks paid out 2 mln stg so far
* Banks have set aside 3 bln stg for compensation costs
* Regulator says payouts slower than expected
* Regulator says banks told to make offers by end of year
* 1,000 offers expected to be made in October
British banks have paid out only a fraction of the 3 billion pounds ($4.85 billion) they set aside to compensate small firms mis-sold complex hedging products, drawing criticism from businesses and the financial watchdog.
The country's biggest banks have run into trouble with the regulator over the mis-selling of these products and they have also had to set aside more than 16 billion pounds ($26 billion) to compensate retail customers mis-sold loan insurance.
"Progress to this point has been slower than expected. Many customers have been waiting too long to find out if they were mis-sold, some for more than six months," the Financial Conduct Authority said on Friday.
The interest rate swaps were designed to protect smaller companies against rising interest rates but when rates fell, they had make large payouts running to tens of thousands of pounds.
The review of interest rate swap mis-selling, set up by the FCA, formally began in May after a pilot scheme. The regulator had said firms would be compensated within 6 to 12 months but the process is now expected to drag out for longer even though banks have taken on more than 2,800 staff to handle the cases.
The banks paid 1.5 million pounds in compensation in September with 22 offers being accepted by customers, the FCA said. This brings the total the banks have paid out to just 2 million pounds since the regulator ordered a review of nearly 30,000 cases last year.
The lack of progress has angered small businesses, many of which face crippling monthly repayments and hefty break-up fees to disentangle themselves from the arrangements.
"The fact that only 22 SMEs accepted offers last month shows the unacceptably slow performance of the banks providing satisfactory redress to those mis-sold," said Abhishek Sachdev, managing director of Vedanta Hedging, which advises companies on the products. "We are aware of some SMEs that have been waiting for 12 months since their review meeting with the bank."
Raj Bilakhia, a 59 year-old property investor from London, told Reuters he had been waiting to be paid for nearly a year after meeting with Royal Bank of Scotland to discuss his case last November.
"It is painful. The process is too slow," he said. "As well as that, we cannot sell any of our properties. The price is right now where we could make a profit but we can't sell because these instruments give a penalty for breakage costs and the penalties are quite horrendous," he said.
RBS declined to comment on the specific case. The bank said it "remained committed to delivering outcomes for customers within the timelines set by the regulator."
The FCA expects the rate of progress to accelerate rapidly in the next few months. It said banks are aiming to send out more than 1,000 offers of compensation in October and that number will continue to increase each month.
The regulator has told banks it expects most customers to have been informed of a decision and to receive an initial compensation offer, if applicable, by the end of the year.
Much of the work so far has focused on determining whether borrowers were regarded as 'sophisticated' or not. Only 'non-sophisticated' companies can claim under the scheme.
The regulator regards a business as sophisticated if it has annual sales of more than 6.5 million pounds, assets worth more than 3.3 million pounds and more than 50 employees.
Data from the FCA showed differing rates of progress in dealing with cases at Britain's biggest four banks. Barclays has reached the redress offer and acceptance stage for 159 sales, with 194 at HSBC, 32 at Lloyds and 21 at Royal Bank of Scotland.
The FCA data showed majority state-owned RBS to have more claims under review than Lloyds, Barclays and HSBC combined. RBS is assessing 9,713 cases, compared with 3,412 at Barclays, 3,315 at HSBC and 1,905 at Lloyds.
RBS has set aside 750 million pounds for compensation so far - far less than Barclays' 1.5 billion pounds, while Lloyds and HSBC have each set aside 400 million pounds.