Oct. 7 (Bloomberg) -- Alliance & Leicester Plc, the U.K. lender being taken over by Banco Santander SA, will pay a record 7 million-pound ($12.2 million) fine for improperly selling payment-protection insurance.

Alliance & Leicester failed to tell customers the real cost of PPI insurance, which is sold to cover loan payments in case of illness or unemployment, the Financial Services Authoritysaid in a statement today. It's the FSA's biggest fine over PPI sales.

The problems with the company's PPI sales ``are the most serious we have found,'' Margaret Cole, the London regulator's director of enforcement, said in the statement. ``It is particularly unacceptable for a firm to train its advisers to put pressure on customers when recommending insurance cover which they have not asked for and may not need.''

U.K. financial and antitrust regulators are focusing on how lenders sell PPI at a time when the banking and financial- services industry is in crisis. The FSA said last week that it would increase scrutiny of the PPI market and ``use a range of regulatory powers at its disposal'' if it found problems.

In June, the Competition Commission found that banks and retailers overcharge by as much as 1.4 billion pounds a year because consumers aren't advised they can choose other providers.

`Put Right'

Alliance & Leicester sold 210,000 PPI policies between January 2005 and December 2007 at an average cost of 1,265 pounds, according to the FSA. The company didn't explain during telephone sales that PPI was optional and pressured customers who questioned its inclusion with the loan, the FSA said.

``PPI tends to be sold as a `single premium' policy,'' consumer association Which? said on its Web Site. ``A lump sum representing the cost of the insurance is added to the amount you've borrowed, so you end up paying interest on both the insurance premium and your loan.''

Alliance & Leicester Group Chief Executive Officer David Bennett said in a statement that the company ``sincerely'' apologizes for its shortcomings. The Leicester, England-based company cooperated with the regulator and qualified for a 30 percent discount on the fine, the FSA said.

``We will be writing to every customer concerned and will be working with independent accountants and the FSA to ensure that we put right any disadvantage,'' said Bennett.

Telephone Sales

The FSA has fined 18 companies for PPI problems, including furniture retailer Land of Leather Holdings Plc and its CEO, Paul Briant, in May.

``For so many people to get it so wrong, there has to be a question of whether standards were being made clear enough,'' said Martyn Hopper, a former FSA lawyer and now a regulatory specialist at London-based Herbert Smith. ``There is an underlying policy issue.''

The fine comes the same day that a London judge said he will approve Banco Santander's 1.3 billion pound takeover of Alliance & Leicester. The deal combines Alliance & Leicester, hurt by the U.K. housing slump and the collapse of the U.S. subprime mortgage market, with subsidiary Abbey National, purchased by Santander for 9.2 billion pounds in 2004.

Alliance & Leicester used to be a building society, owned by its customers, before it started publicly trading its shares in 1997. The last of Britain's former building societies that went public disappeared when Bradford & Bingley Plc was nationalized last month. Its retail deposits and branches were also sold to Santander of Spain.

To contact the reporters on this story: Caroline Binham in London at cbinham@bloomberg.net.

Last Updated: October 7, 2008 09:03 EDT