Victory for bank customers as Lloyds concedes £3.2bn defeat

Lloyds Banking Group, Britain's biggest provider of payment protection insurance, is setting aside £3.2bn to settle hundreds of thousands of cases of mis-selling of the heavily criticised policies. In a victory for financial campaigners, the Government-controlled bank hoisted the white flag in the long-running PPI scandal and announced it was pulling out of a court challenge against a regulatory crackdown and would pay out in cases of mis-selling.

Rivals RBS, Barclays and HSBC are thought to be considering whether they too should admit defeat and start settling hundreds of thousands of claims.

Lloyds' statement shocked the City because it greatly increased its liabilities from PPI and indicated the final compensation bill for the industry could hit £8bn, almost double the £4.5bn originally estimated by the Financial Services Authority (FSA). The write-off plunged Lloyds into a £3.47bn loss and wiped 8 per cent off its shares.

Last month, the High Court rejected a judicial review by the British Bankers' Association against new FSA rules which would have forced banks to identify more mis-selling victims. PPI policies are supposed to cover borrowers for loan repayments in the event of illness or redundancy, but are riddled with exemptions, which can rule out claims for back complaints or pre-existing medical conditions. Many people were pressured into taking out policies or were unaware they had been sold them. The Independent warned of the scandal three years ago in a front-page story headlined, "The banks' £4bn protection racket".

Lloyds, which sold the policies under its Lloyds TSB, Halifax and Bank of Scotland brands, said people who had already made a complaint did not need to do anything, but other customers may contact it by phone or through a dedicated area on its website. Lloyds' new chief executive Antonio Horta-Osorio, who took over in March from Santander – which was not involved in the BBA judicial review – was thought to have been keen to draw a line under the saga ahead of the publication of his strategy update next month.

The BBA still has until next Tuesday to decide if it wants to appeal against the ruling, while other banks have not yet said whether they plan to follow Lloyds. Richard Lloyd, executive director of Which?, said: "This is great news for millions of Lloyds customers who have been mis-sold PPI. It's refreshing to see a bank break ranks from its peers and do the right thing by its customers. The rest of the UK's banks must now follow suit and draw a line under the great PPI mis-selling scandal by withdrawing their legal challenge and proactively reimbursing millions of customers."

* It also came to light yesterday that 150,000 mortgage-holders with Lloyds are in negative equity.

PPI hotlines: Lloyds TSB 08453 005599, Halifax 08457 253519, Bank of Scotland 08457 253519