On 20 July 2020, HM Treasury (HMT) launched a consultation proposing to reform the regulatory framework for approval of financial promotions. HMT’s proposals are potentially far-reaching and may have important implications for the way that certain firms conduct business. We explore key points for firms below.

Why are these changes being proposed?

Compliance with regulatory requirements regarding the approval of financial promotions has been a recent supervisory concern for the FCA, especially in circumstances where the products being marketed are complex and targeted at the retail market, and the FCA has issued a number of letters and publications setting out concerns and guidance for authorised firms approving financial promotions.  In January 2019, the FCA reminded firms that, before they approve a financial promotion for communication by an unauthorised person, they must confirm that it complies with the rules on financial promotions. The FCA expressed its frustration with the industry three months later in a further Dear CEO letter reminding firms of their responsibilities, noting that “despite our letter of 9 January, we have identified a number of examples where it appears the due diligence carried out on a financial promotion may have fallen well short of the standard we expect“. Following its programme of work to tackle the risks for investors from mini-bonds, in November 2019 the FCA announced a ban on the promotion of speculative mini-bonds to retail investors and issued guidance for firms on approving financial promotions, expressing further concern about the approval of financial promotions without adequate due diligence or sufficient understanding of the products being marketed.

In HMT’s view, the regime needs additional safeguards to ensure that approval by an authorised person is a genuinely effective means of ensuring that consumers are protected from deficient or potentially harmful financial promotions.

What are the proposed changes?

In order to strengthen the FCA’s ability to ensure the approval of financial promotions operates effectively, HMT proposes to establish a regulatory ‘gateway’ which a firm must pass through before it is able to approve the financial promotions of unauthorised firms. To achieve this, HMT proposes to amend the Financial Services and Markets Act 2000 so that the general ability of authorised firms to approve financial promotions of unauthorised firms is removed, establishing a new regulatory consent framework in its place.

Under the changes proposed by HMT, firms wishing to approve financial services of unauthorised firms would need to first obtain the consent of the FCA. The FCA would be empowered to impose a universal requirement on all existing authorised persons preventing them from approving the financial promotions of unauthorised persons. An existing authorised person wishing to undertake approval of financial promotions would then need to apply to the FCA to have this requirement varied or cancelled. A firm applying for a new permission to carry on a regulated activity would be able to request that such permission includes FCA consent to approve the financial promotions of unauthorised firms. Unauthorised persons will only be able to communicate financial promotions which have been approved by a firm which has obtained consent from the FCA.

Importantly, HMT proposes that the FCA’s consent to approve financial promotions would be obtained by a firm only upon the FCA’s assessment that the firm is “suitable and competent to provide such approval”. This would allow the FCA to prevent unsuitable firms from approving financial promotions, as well as allowing the FCA to withdraw consent for an approver firm, in appropriate circumstances. HMT also suggests that consent could be linked to products or services within the firm’s area of expertise. The details of this new assessment framework are not set out in the consultation; HMT notes that it will consider what legislative measures may be necessary to provide the FCA with flexibility when giving its consent.

What is NOT changing?

HMT’s proposals would not affect the way authorised firms communicate their own financial promotions, approve their own promotions for communication by unauthorised persons, or approve the promotions of unauthorised persons within the same corporate group.

In a nod to the mini-bonds matter, HMT also confirms that consumers who invest in a product issued by an unauthorised person on the basis of a financial promotion communicated by that person would continue not to be covered by the Financial Services Compensation Scheme purely as a result of the failure of the issuer.

Next steps and considerations for firms

HMT’s consultation closes on 25 October 2020. No target date is given for the introduction of legislative changes.

HMT’s proposals have potentially far-reaching consequences across the financial services industry, especially for sectors which more heavily rely on the “regulatory umbrella” model – for example, certain host alternative investment fund manager (AIFM) arrangements, investment advisors, corporate finance advisory firms and certain businesses in the consumer credit space operating as appointed representatives (ARs) operating under the oversight of an authorised firm acting as principal. The key direct impact on regulatory umbrella arrangements is that principal firms will need to apply for this new consent from the FCA.  However, the substance of HMT’s proposed suitability assessment for approving financial promotions remains unclear. It is possible that firms may be required to demonstrate to the FCA that their internal systems and controls reflect the standards set out in the FCA Handbook regarding approval of financial promotions; in other words, the FCA will need to have confidence that the firm is able to demonstrate that financial promotions issued by its ARs are “fair, clear and not misleading”.  Although one component of these controls will be reviewing the presentation of the promotion, the other will be reviewing the substance of the promotion (e.g. the fairness and veracity of claims made and whether these can be substantiated).  For that reason, ARs can likely expect greater levels of due diligence around financial promotions from their service providers. 

Further, the FCA has long had concerns about principals’ compliance with their supervisory and oversight obligations in relation to ARs, identifying “significant shortcomings in principal firms’ understanding of their regulatory responsibilities for their ARs” and that “most principals had not put in place appropriate controls to monitor the activities of their ARs” in their latest review from May 2019. It is quite possible that the FCA could look to use these new discretionary powers to exert more supervisory oversight of principal-AR arrangements in general and ensure that their expectations are being met before providing consent to approve financial promotions – potentially changing the nature of regulatory umbrella arrangements themselves.

Author

Mark Simpson is a partner in Baker McKenzie's Financial Services Group in London, specializing in advising financial institutions on regulatory and compliance matters.

Author

Caitlin McErlane advises asset managers, banks, major corporates, exchanges, clearing houses and payment institutions on navigating UK and EU financial services regulation. She has particular experience in advising clients on operating in compliance with ongoing regulatory developments, including MiFID II, EMIR, the Investment Firms Regulation, ESG reforms, AIFMD and the Market Abuse Regulation.

Author

Kim is a Knowledge Lawyer within the Financial Services Regulatory group at Baker McKenzie. Her expertise covers both contentious and non-contentious regulatory matters across a wide range of sectors. She is particularly interested in issues relating to investigations and enforcement, vulnerable customers, regulatory reform and change, and the impact of Brexit on financial services regulation.