Background
On 3 August 2022, the Financial Conduct Authority (FCA) issued PS22/11 (Improvements to the Appointed Representatives Regime) which imposes enhanced monitoring and reporting obligations in relation to regulatory hosting arrangements between principal firms (Principal) and appointed representatives (AR).
We note that although this policy statement is presented as final, the FCA is leaving room for future guidance or rules, especially when HM Treasury releases additional guidance or findings following its Call for Evidence on the AR regime.
The policy statement will affect about 3,400 Principals and more than 37,000 ARs. The FCA has justified its new policy statement with the purpose of strengthening principal firms’ engagement with ARs and improving data collection across the financial services sector, all in the interest of market stability.
Amongst other numbers, the FCA has found that from 2018 to the first half of 2019, ARs accounted for 61 percent of FSCS claims in terms of amount recovered. On average, firms that act as Principals are likely to generate up to 400 percent more complaints than other regulated firms.
Within this context, the policy statement emphasises on two sets of obligations:
- Notification requirements regarding AR business
- New responsibilities and expectations of Principals
The rules are expected to come into effect on 8 December 2022, with a four month implementation period.
Information and notification requirements
Regulatory hosting as an activity
Following feedback from its previous consultation paper, the FCA has refined the definition of a ‘regulatory host’.
In the Amended Glossary, a regulatory host refers to a firm that meets two conditions:
- The Principal offers or provides a service by which unauthorised persons, whether or not in the same group as the firm, may become ARs of the Principal for remuneration with a view to profit; and
- The regulated activities undertaken by the ARs are distinct from the activities of the Principal in that either:
(a) the Principal does not carry on any regulated activities other than through its ARs; or
(b) the regulated activities carried on by one or more of the ARs are not connected to any regulated activity undertaken by the Principal itself other than through its ARs
Under the new rules, firms that intend to offer regulatory hosting as a business line must notify the FCA at least sixty calendar days before debuting such offering. The final policy statement confirms that the FCA will not add any substantive obligations for the Principals.
Explain the AR’s business model
Substantive obligations
As part of the enhanced supervision, principal firms must henceforth be in a position to report on the following:
- the primary reason for appointing the AR
- the nature of the regulated activities undertaken by the AR
- whether the AR conducts non-regulated activities
- any financial non-regulated activity undertaken by the AR
- whether the AR provides services to retail clients
- the reason for moving to the current Principal, where the AR was previously appointed by another principal firm
- the name of the parent undertakings where the AR is part of a group
- any arrangements whereby the AR supplies/seconds individuals to the Principal to carry out portfolio management or dealing activities and the reason for such entering into such arrangement
- estimated revenue from regulated and non-regulated activities in the first year following the appointment, using revenue bands
- the nature of financial arrangements between the AR and the Principal
Timeframe
From the effective date, Principals will have to notify the FCA at least thirty calendar days before each new appointment through Connect.
Information on existing ARs will be requested via an s165 request. Principals with more than ten ARs will be able to send the information in bulk, as spreadsheets.
Any changes to the types of regulated activities must be notified at least ten calendar days before taking effect.
Whenever the details concerning an AR change, the Principal must notify the FCA of these changes within ten days.
Data collection from ARs
Data collection from ARs remain mostly standard. In addition to confirming that AR’s information published on the FCA Register is still accurate and up to date, Principals will need to report all complaints as well as each AR’s financial revenues on an annual basis.
Financial revenues concern both regulated and non-regulated activities. For financial non-regulated activities, the FCA prescribes that Principals must provide data to the nearest £5,000. As for non-financial non-regulated activities, such revenues must be reported in bands.
Principals who currently have active ARs will be expected to report the above data using the new SUP 12 Annex 6R (Ongoing reporting by principal firms on their appointed representatives form). The form must be submitted annually within sixty days of the Principal’s accounting reference date.
Responsibilities of Principals
Appointment safeguards
The policy statement reiterates the FCA’s expectation that Principals must maintain appropriate safeguards in appointing ARs. A cross-cutting rule requires Principals to take reasonable steps to monitor all of their ARs’ activities including those outside of the scope of their appointment.
Within the scope of each AR’s appointment, the Principal must document any functions and tasks outsourced or delegated to an AR (e.g., compliance, HR, payroll). It will further need to conduct annual fitness and propriety assessments for all individuals who effectively run each AR. The FCA has clarified that they will not seek to extend the purview of SM&CR but will expect Principals to ensure that approved persons possess sufficient knowledge, experience, and competence.
Outside the scope of appointment, the FCA opines that degree of monitoring should be proportionate. The underlying purpose is to align the dynamic between Principals and ARs with the new Consumer Duty. Principals are expected to consider and determine whether the activities carried out by the AR generate positive outcome for the consumer market, which also includes non-regulated business.
As for the Principal’s liability for the AR’s non-regulated business, the policy statement remains silent, deferring the matter to the HM Treasury.
Effective oversight of ARs
Activity monitoring
Another reiteration is the obligation for Principals to allocate sufficient resources to effectively monitor and oversee the regulated activities of their ARs.
In addition, Principals will need to review their systems and controls whenever any of the trigger events below occur:
- significant increase of complaints received about the AR
- change in the AR’s target market
- change to the AR’s scope of appointment (within the permission profile of the Principal)
Overall, as it relates to consumer protection, Principals must ensure that their AR’s businesses do not cause avoidable harm to retail investors or, otherwise, expose the consumer market to undue levels of risk. It is worth noting that the new Consumer Duty has a wider purview than Principles 6 and 7, as it concerns any regulated firm which activities could have a material influence over the consumer market.
Staff supervision
The final policy statement confirms that principal firms ought to supervise and control AR individuals as if they were internal staff members. However, the FCA specifies that this obligation should also be approached proportionately.
Irrespective of the regulatory requirement, the FCA has no intention to novate or change the legal relationship between the approved persons and principal firms. Principals should be mindful in their supervision such as not to become, under employment law, the requalified employer of any approved persons.
Annual Health Check
The FCA expects Principal to conduct, at the very least, an annual health check for each AR whereby they review the AR’s activities and business. This will help to ensure that Principals are aware of their AR’s activities and are in a position to report to the FCA and prevent any avoidable harm to the market.
To minimise the burden upon Principals, the FCA only requires one annual review during which principal firms may carry out the health check, the financial position review, the review of resources, the activity monitoring, and the fitness and propriety assessment.
Although the governing body of the Principals do not need to review and approve each annual health check, the FCA still mandates that Principals’ knowledgeable personnel to complete each annual review.
Principals will have one calendar year before conducting their AR health checks.
Termination and Winding Down
The FCA expects Principals to proactively discuss winding down procedures with their ARs whenever Prinicpals identify (a) potential undue risks to the consumer market, (b) unstable or high turnover within the AR’s senior management, (c) a lack of resources to establish effective ongoing monitoring, (d) a deficiency in terms of fitness and propriety of the approved persons, or (e) any issues in relation to the AR’s appointment within the Principal’s permission profile.
Please bear in mind that the list of situations warranting for winding down a business is not exhaustive.
Although the Principal will cease to be responsible for the AR’s activity after giving notice of termination, the FCA deems the former to be responsible for assisting the AR in winding down its business in an orderly fashion.
Annual Self-Assessment
The annual health checks/reviews concern each AR whereas the annual self-assessment focuses on the Principal itself. At least every twelve months, principal firms must generate a self-assessment, evaluating the adequacy of its own systems and controls to manage and oversee their ARs. In particular, it should address the following:
- ability to monitor and supervise each AR on an ongoing basis
- record any identified risk
- overview of all AR arrangements
- compliance gaps and failure to satisfy any obligations
- any remediation plan or list of tasks to address any weaknesses
This report should be partly based upon the findings of each annual review.
Unlike the AR annual review, the self-assessment must be reviewed and signed off by the Principal’s governing body. It must be kept for a minimum of six years and readily available to the FCA upon request.
