ABOUT FINANCIAL SERVICES REGULATION. BE AFRAID! BE VERY AFRAID!
Actually, there’s nothing to be afraid of. If you are getting the right advice about the new changes to UK financial services regulation, you should be by now, embracing that change. This is because that change, not only benefits consumers but the market as a whole, which of course includes you. So here we are, just about 6 months in and the new and improved FCA, the love child of the FSA, now permanently dismantled, is the new sheriff in town. What can regulated firms expect, especially those firms with offshore interests? Especially those firms with subsidiaries and businesses in jurisdictions that offer up a different regulatory landscape to that which is expected by the new and improved FCA? I have chosen to write this article because many of our clients, especially those who are themselves regulated, are interested to know how their offshore businesses are affected by the new FCA regulatory obligations and whether their onshore businesses are up to the task of meeting these new obligations.
Let me start first by saying, the FCA and the regulatory framework that comes with it, is not designed to stifle businesses. It is not designed to penalize companies for being innovative and seeking out solutions to the difficulties faced in a global financial services market. In fact, and to the contrary, one of the FCA’s underlying mandates is the promotion of a fair market and fair competition in the context of consumer protection. I’m paraphrasing, but this is the essence of what the FCA hopes to achieve in this new era of regulation.
Many of our clients are non-domiciled companies and directors seeking to gain a foothold in the UK market. In order to do this it is important to first understand the regulatory climate that exists here. The first step in achieving this is to understand the minimum “threshold” conditions that must be met in order to qualify for permission to provide regulated services to the public. These conditions can be viewed in the FCA handbook http://fshandbook.info/FS/index.jsp under the heading Threshold Conditions. The minimum conditions to be met are in short:
1. Location of Offices: Essentially depending where the company is incorporated (UK or offshore) and depending on where your head offices are located, then certain requirements will apply. Generally if the company is incorporated in the UK then it’s head office and its registered office must be in the UK.
2. Effective Supervision: The FCA must be able to effectively supervise your company, regardless of how complex your company structure is and where your subsidiaries are domiciled.
3. Appropriate Resources: Your company must have the appropriate resources to provide the type of regulated services it wants to provide. These include not only financial resources, but also key personnel who are properly trained, and infrastructural resources such as IT etc must be up to the standard required to provide the regulated services you intend to provide.
4. Suitability. This condition primarily related to the integrity of the persons involved your company, their financial and fiscal aptitude, and their overall eligibility to run your company and service your clients.
5. Business Model. Your business model must be sufficiently laid out and withstand scrutiny in the context of the complexity and scope of your company and the services you provide.
So which conditions are most important to you? Well all of them are. In fact the FCA must apply all of these conditions in every case and each case is dealt with differently. In other words, the FCA will look at all of the circumstances surrounding your application for permission to provide regulated services, and no one company is considered to be a litmus test for another. What this really means is that you must look at your company and ensure that all of the services you intend to provide are rigorously tested by all 5 conditions above.
Apart from these threshold conditions, there are various source books which apply specifically to certain aspects of your business. One of the most important of these is the Senior Management Arrangement Systems and Controls Source Book or SYSC for short. The reason I have cited this as a important, is because the FCA will, in all cases, expect your company to demonstrate a clear arrangement of your key functions staff. This also goes without saying that you must indeed be able to demonstrate that you in fact have individuals within your company, who have designated key functions to cover all of the areas within your business. These will be areas the FCA considers most susceptible to being in default of either the threshold conditions or other high level standards including the Statements of Principle and Code of Conduct of Approved persons (APER), The Principles for Businesses (PRIN) and the Fit and proper test for approved persons.
I will not go into these in detail, but the point to be made here is that, if you do not define clear roles for functions such as Anti Money Laundering (MLRO), Risk, Audit and Accounting, Due Diligence, Regulatory monitoring, then you will likely be subject to an FCA notice or subject to review. There must be clear reporting lines, and each of these high level functions must be accountable, so that their own work is subject to review and supervision. Depending on the size and complexity of your business, these functions may need more resources injected into them, in order to meet the high level standards described above.
But even if you have all of these high level standards covered, you still need to understand how the FCA will supervise you. The Supervision section of the FCA handbook gives a clear understanding of how firms are supervised. Firstly the FCA’s approach to supervision is forward thinking and interventionist. What does this mean? Well it means the FCA will not wait for firms to make mistakes or get things wrong. The FCA will proactively identify themes it believes should be the subject of review and choose companies they think would benefit from a review of their businesses in the context of those themes. So the FCA may well simply send you a notice indicating your firm is subject to review and conduct that review at anytime.
This means you must always be prepared and indeed proactively conduct your own thematic reviews, but more importantly it means you must constantly be thinking about the services you offer and how you can offer these services better. Are you managing your risk? Are you applying appropriate resources to your high level functions? Are you complying with the guidelines in every case? Your own internal regulation should be dynamic and ever changing, improving to suit your company’s growth and should be reactive to compensate for any changes in the market or your customers demands.
Other aspects of the FCA’s approach to supervision include its consumer centric approach. Your company must be thinking about its customers and whether you are dealing with them in a fair and open manner. Your customers must come first not just because this is the basis of good business practice, but also because it also happens to be the basis of meeting your regulatory obligations. The FCA will focus on big issues and act robustly when things go wrong. The FCA will also be oriented towards firms doing the right thing and encourage firms in that regard.
What all of this means is a much more interactive approach to supervision, with the FCA being much more active in the market and much more involved with the firms it regulates. This approach seeks to be preventative in its effect, rather than reactionary. The FCA wants to stop things from happening before they happen! And the FCA certainly means business in that regard. If you visit the Canary Wharf headquarters on any given day, all of the conference rooms are filled, and for a reason, firms are being interviewed constantly and thematic reviews are being assessed. It’s in your face evidence that the new FSA, that is now the FCA, is certainly up to the task in following through on its mandate.
So what do we advise our clients who are operating global businesses? You must ensure your offshore structures are visible, and regulated themselves to a standard similar to the FCA. You must ensure you have chosen an offshore jurisdiction that regulates its market at a high standard and you must position your offshore structures so that they are clearly accountable to their onshore counterparts in terms of the overall operation of your business. So everything must be run as one entity, fully integrated and internally regulated. For me, as a rule of thumb, I apply the FCA high level standards across the board, regardless of the jurisdiction the firm is operating in. This ensures uniformity and makes for a stronger case to pass the “effective supervision” threshold. If the FCA feels it can’t reasonably supervise your offshore structure, then this becomes problematic. The idea here is to show that everything is being run at a standard similar to that which is expected by the FCA. Across the board!
At Fortgate, our approach to dealing with our clients who either already provide regulated services in the UK or those who are seeking to apply for permission, is to adopt a bottom up approach to ensure you meet the new standards that are in place. Many of our clients have close links to offshore companies, either funds or other asset management structures, and ask us about how these structures will be integrated with their UK financial services business. We always start by looking at your business’ foundation. The core of what your business involves and move upwards from there. This is a strip down approach, where we strip your business to its bare essentials and build on those essentials. We believe with a strong foundation and all of the essentials in place, your business will stand up to FCA scrutiny in all cases.
To do this we apply our tried and true understanding of how the FCA handbook is applied and our precise interpretation of the conditions and high level standards. Our expert opinion comes from our own involvement in the UK financial services market and also our constant monitoring of the supervisory outcomes the FCA deploys, where firms do not act within the parameters of the Financial Services and Markets Act. To know what action the FCA has taken is only half of the solution, knowing why the FCA has taken the action it takes completes the puzzle. So far so good. I think 2015 will be an exciting year, both for firms and for consumers.
Author -Tonjaka E. Hinkson B.A. (Ont.) L.L.B. (Lond) BVC(Lond)-Barrister at Law