Appointed Representatives: FCA confirms changes to increase responsibilities of principal firms

Hogan Lovells

Hogan Lovells

The FCA has published a policy statement and final rules aimed at improving the appointed representatives (ARs) regime. Previous FCA data analysis had shown that there are more issues arising from principals and ARs than from other directly authorised firms. The new rules, which come into force in December this year, are therefore aimed at enhancing and clarifying both the FCA’s expectations of principals and their responsibilities. There is also an emphasis on increasing the information and notification requirements on principals.  According to the FCA, the new Consumer Duty and the AR regime changes ‘go hand in hand and reinforce one another in increasing protection for consumers dealing with ARs’. This means that principal firms will need to consider any changes they need to make to meet the requirements of the Consumer Duty alongside the changes to the AR regime.

Why is the FCA making changes to the current AR regime?

The AR regime came under scrutiny as part of the Greensill Capital inquiry. One of the recommendations from the July 2021 House of Commons Treasury Committee's report was to consider reforming the regime.

The FCA  consulted on changes to the AR regime in December 2021 as it was seeing a wide range of harm across all the sectors where firms have ARs. As explained by the FCA in the consultation paper, this harm often occurs because principals do not perform enough due diligence before appointing an AR, or from inadequate oversight and control after an AR has been appointed. FCA data analysis found that, on average, principals generate 50 to 400% more complaints and supervisory cases than non-principals across all sectors where this model operates.

What did the FCA consult on and what’s changed in the final rules?

The FCA consulted on two main areas of change affecting its Supervision manual (SUP): firstly requiring principals to provide additional information on ARs and imposing additional notification requirements for principals and secondly enhancing and clarifying the FCA's expectations of principals and their responsibilities

Although the FCA is not proceeding with all of the changes it consulted on, there are a number of significant changes to the regime.

Information and notification requirements
  • Principals will need to notify the FCA of future AR appointments 30 days before the appointment takes effect.
  • Principals must provide information on their existing ARs. The FCA will collect the data via a Section 165 data request. Principals will have 60 days to submit the data . The FCA thinks that the period between publishing the policy statement and firms having to submit the data to it gives principals enough time to compile and submit the information.
  • Principals will need to provide information about the  financial non-regulated activities of ARs as well as the  anticipated revenue of the AR from regulated and non-regulated activity during the first year of appointment within specified revenue bands.
  • Principals must provide annual complaints data and revenue information for ARs within 60 business days of the principal's accounting reference date. Revenue bands for annually reporting AR revenue from non-financial non-regulated activities are also being introduced.
  • Principals will need to notify the FCA as to whether they provide currently, or intend to provide, regulatory hosting services.  The FCA makes it clear that the only effect of firms’ business models coming into scope of the definition of ‘regulatory hosting’ is that these firms will need to notify it of their intention to provide such service in advance. The FCA confirms that no additional rules or restrictions on firms which provide such services will be imposed at this time.

As proposed, the majority of the new requirements will apply to both ARs and introducer appointed representatives (IARs), ie ARs who can only undertake limited activities (effecting introductions and distributing financial promotions) on behalf of the principal.

Enhancing and clarifying the FCA's expectations of principals and their responsibilities

Some of the key FCA proposals included that principals:

  • Apply enhanced oversight of their ARs, including ensuring adequacy of systems and controls, sufficiency of resources and monitoring AR growth;
  • Take more effective responsibility for their ARs, including by monitoring and assessing the risk of harm to consumers and market integrity and overseeing ARs to a comparable standard as if they were employees of the principal;
  • Have clarity on the circumstances where they should terminate an AR relationship and assist ARs with an orderly wind down; and
  • Annually review information on ARs’ activities, business and senior management. Principals would also need to prepare a self‑assessment document at least once a year, covering how they meet the requirements of the policy.

These proposals are being implemented with a few clarifications. The  annual review requirements can be met by principals integrating them into existing internal reporting processes, as long as they continue to meet the standards set out in the rules and guidance. In addition, the annual reviews can be conducted by responsible individuals with a suitable degree of knowledge and authority below the governing body’s level, with significant issues identified at specific ARs escalated to the governing body.

On the self-assessment, the FCA explains that it should focus on how the principal itself is meeting its responsibilities in relation to all of its ARs. It is a single document designed to identify any risks and gaps in compliance with the firm’s obligations as a principal, and must be reviewed and signed off by the principal’s governing body, at least every 12 months.

In addition, some of the proposed rules have been changed to guidance instead.

Again, as consulted on most of the policy changes here will also apply to principals with IARs.

Interaction with the Consumer Duty

In its policy statement, the FCA states that it considers the key outcomes of both the AR changes and the Consumer Duty to be aligned and not duplicative. It points out that while the Consumer Duty will apply to all directly authorised firms, the AR changes ensure good consumer outcomes but with some specificity to the AR regime and its business models.

In the FCA’s view, both policies ‘aim to ensure firms focus on the outcomes experienced by consumers, and act in a way that reflects how consumers actually behave and transact in the real world.’ Principals will need to consider any changes they need to make to meet the requirements of the Duty alongside the changes to the AR regime.

When do the changes come into force?

With the exception of a couple of amendments to SUP 12 forms in relation to the newly regulated funeral plan market that are coming into force now, firms will have a four month implementation period before the changes come into force on 8 December 2022.

Are there any transitional arrangements?

The FCA has put in place transitional arrangements to give firms more time to comply with some of the new rules, particularly those requiring them to submit information on an on-going basis and to review their ARs and self-assess annually. These include the following:

  • For the self-assessment document, principals will be able to prepare their initial assessment and seek approval from their governing body up to a year after the rules come into force.
  • Existing principals won’t be required to confirm the details of their ARs in the first year following the rules coming into force. Principals will have to verify the details on their ARs for the first time, on the first accounting reference date after 12 months have passed from the rules coming into force.

Watch this space: more to come

The FCA says that it will continue to monitor how the regime evolves over time and whether additional changes are needed.

In its consultation, the FCA had also sought views on the wider risk posed by some of the business models operated by principal firms, and whether setting limits on such arrangements may help to reduce potential harm. It will now be considering the next steps on these discussion topics and plans to publish its response to the related feedback received (which is summarised in the policy statement) separately in 2023.

HM Treasury Call for Evidence

As the AR model is established by primary legislation, the FCA has also been working with HM Treasury (HMT) to explore whether legislative change is needed. To inform this, the FCA collaborated with HMT on its Call for Evidence which was published at the same time as the December 2021 FCA consultation. HMT was looking to gather information on how market participants use the regime, how effectively it works in practice and possible future reforms, namely:

  • changes to the scope of the section 39 FSMA exemption for ARs;
  • the FCA having greater ability to prevent poor oversight of ARs through introduction of a ‘principal permission’;
  • applying more regulatory requirements (eg the SMCR) directly to ARs; and
  • extending the ability of the Financial Ombudsman Service (FOS) to investigate complaints involving the activity of ARs.

The FCA states that it is continuing to work with HMT to explore if further changes are needed to the AR regime, which would require future legislative change. According to the FCA, HMT is currently analysing the responses to its Call for Evidence and will set out next steps on its review of the regime ‘in due course’.

The broader picture: increased scrutiny and supervision of existing principals and new applicants

In its latest Business Plan and Strategy 2022-2025, the FCA committed to a new and extensive programme of work on the AR regime, including:

  • greater engagement with, and scrutiny of, firms as they appoint ARs, both for new applicants and firms already authorised;
  • targeted supervision of principal firms across the whole financial services sector, using improved data and analytical tools to focus its work;
  • introducing a new fee that principals must pay for each of their ARs to help fund the FCA’s work in this area.

Its latest Annual Report sets out the steps it has already taken in its supervision of principals and when it reviews applications for firms’ authorisation to better identify risky business models and high-risk principals. Over time, the FCA expects that its increased scrutiny at the authorisation stage will mean that firms with unmanageable risks cannot enter the regulated financial services sector.

The FCA is also using the data it collected on firms and ARs across different financial markets in an October 2021 survey of about half the total population of principals and ARs to better identify potential risks and target interventions as part of its work. It has identified over 60 principal firms across a wide range of sectors for further analysis, with action being taken where it detects harm.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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