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Contributed by Adrian Brown and Sam Robinson, Nabarro LLP
Under the proposed reforms to the UK financial services sector, the current regulator, the Financial Services Authority (FSA), will be replaced with a new "twin peaks" system of regulation, which is currently planned for the end of 2012. This article outlines the impact of the current proposals on firms that will be dual-regulated by both the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA).1
Which Firms Will be Dual-regulated?
In summary, the current proposals provide that banks, building societies, insurers and the larger, more complex investment firms will be dual-regulated. The PRA will be responsible for the prudential regulation of these firms. The FCA will, in contrast, supervise all other aspects of these firm's business, including conduct in the retail and wholesale markets, and will generally carry on all other activities that were previously undertaken by the FSA that have not transferred to the PRA. Clearly the success of this arrangement will depend, to a great extent, on the relationship between the PRA and the FCA and how both co-ordinate and work together in practice.
Co-ordination Between the FCA & the PRA
Following various comments during the consultation process relating to the new UK regulatory regime,2 the Financial Services and Markets Act 2000 (FSMA) will be amended to include some general duties relating to co-ordination between the PRA and the FCA.3 These include a statutory duty to co-ordinate the exercise of their functions ensuring, in summary, that each regulator consults the other where:
To support this co-ordinated approach, the PRA and the FSA are required to enter into a Memorandum of Understanding (MoU), which would outline the roles of each regulator in relation to exercising their functions. In particular, the MoU should include the position of the PRA and the FCA in relation to (amongst others) authorisation applications, variation of permission applications, disclosure of information, the controller regime, relations with overseas regulators, and fees. The MoU must be reviewed on an annual basis, a copy provided to HM Treasury and Parliament (including any revisions), and be made publicly available. To allow for co-ordination at the highest level, FSMA will provide that the chief executive of the PRA will sit on the board of the FCA, and vice versa (although they will not be permitted to vote on certain issues). The FCA and the PRA could also have other board members in common, although more will be known in this respect in due course. FSMA also provides for a "PRA veto." This allows the PRA to give a direction requiring the FCA not to act in a specified manner where, in the PRA's view, this would threaten the stability of the UK financial system or result in the failure of a PRA-authorised firm in a way that would adversely affect the UK financial system. The Government has stated that there will be a high threshold for the use of this veto. There will also be information gateways between the PRA and the FCA and the establishment of supervisory colleges, where staff from both the PRA and the FCA can share their views and discuss regulatory matters. In this respect, it seems that the Government has included a number of mechanisms to allow for co-ordination between the regulators under the new regulatory regime. While these higher-level mechanisms should assist those firms that are dual-regulated, it is useful to consider what the day-to-day impact on a dual-regulated firm is likely to be under the proposed regime.
Authorisation & Variation of Permission
In relation to authorisation applications, FSMA will provide that firms that would become dual-regulated should submit their authorisation application to the PRA, while all other firms should submit authorisation applications to the FCA. This is another reason why it is important for firms to determine whether they are regulated by the FCA or the PRA at an early stage in the authorisation process. While it seems the PRA will lead on an authorisation application to become a dual-regulated firm, the consent of the FCA is then required before the PRA can give its approval to a new application. This is sensible as, once authorised, the FCA would regulate the authorised firm in relation to certain aspects of its business (whereas FCA-only regulated firms would not fall within the PRA's scope, so there is no need for a similar requirement relating to FCA regulated firms). Similarly, in relation to variations of permission, the application will be made to the PRA which must then consult with the FCA before agreeing to any variation. A firm that is currently only FCA-regulated, that wishes to add an activity to its scope or permission that would fall within the PRA's regulatory scope, would need to submit an application to the PRA. The PRA and the FCA are also both required to consult each other before exercising any powers to vary a dual-regulated firm's permission at their own initiative. The FCA would receive authorisation, variation and cancellation of permission applications from firms that are only regulated by the FCA. However, if the relevant firm is part of a group that also contains a PRA-regulated firm, then the FCA is required to consult with the PRA before determining the application.
Imposing Requirements on Dual-regulated Firms
While either the PRA or the FCA may take steps to impose requirements on dual-regulated firms, each must consult the other before imposing or varying a requirement.
The amended legislation provides for the roles carried on by approved persons to be separated into two functions, outlined in the table below.
|Significant influence function (SIF)||Exercising a significant influence over the conduct of the authorised firm's affairs|
|Customer dealing function||Dealing with customers of the authorised firm, or the property of customers of the authorised firm|
In practice, SIFs are likely to include those controlled functions (CFs) that are considered to be SIFs under the current FSA rules4 (e.g., chief executive, directors, non-executive directors, partners and the compliance oversight function). The customer functions are also likely to include those individuals that are currently approved for the customer function (CF30). There is a similar division in responsibilities between the PRA and the FCA in relation to approved persons. The PRA will lead on approvals for individuals that wish to perform a SIF at dual-regulated firms. The FCA will lead on applications from dual-regulated firms relating to the customer-dealing function. The legislation also provides that both the PRA and the FCA can produce statements and codes that relate to the conduct expected of approved persons. While those issued by the FCA apply to all approved persons (both customer dealing functions and SIFs), those issued by the PRA only apply to persons approved by the PRA or the FCA in relation to a SIF performed by a PRA-authorised firm. As you would expect, the PRA and the FCA are required to consult each other when drafting any such statements or codes.
The PRA & FCA Rulebooks
Dual-regulated firms will need to comply with the rulebooks produced by both the PRA and the FCA, and approach the relevant regulator when seeking a waiver or modification from these rules. Each regulator must then consult the other regulator before approving such waiver or modification for a dual regulated firm.
Change in Control
Dual-regulated firms would need to approach the PRA in relation to any change in control applications. Similarly, the PRA would then consult with the FCA while assessing the application.
Diversities Within Groups of Companies
While the majority of this article relates to the arrangements that will be put in place for dual-regulated firms, a number of these measures also apply when an FCA-regulated firm has one or more firms within its "immediate group" that is dual-regulated. For example, the FCA may receive a change of control application in relation to a firm that is only regulated by the FCA. While usually this would be a matter solely for the FCA, the relevant firm may have another firm within its immediate group which is dual-regulated. In these circumstances, the FCA would be required to consult with the PRA in relation to the change in control application. For these purposes, a firm's immediate group would include the firm's parent undertakings, the firm's subsidiary undertakings, subsidiary undertakings of the firm's parent undertakings and parent undertakings of the firm's subsidiary undertakings.
A number of systems are to be put in place with the aim of enhancing co-ordination between the PRA and the FCA. From a high-level perspective there will, for example, be representatives of each regulator on the board of the other regulator. Also, in relation to the day-to-day operations, there is clearly a significant amount of consultation required between the PRA and the FCA over decisions that relate to dual-regulated firms (and groups which contain one or more dual regulated firm). However, as a final thought, it is worth noting that the PRA will ultimately be able to use its veto power in certain circumstances.
Adrian Brown is a partner and head of the financial services regulatory practice at Nabarro LLP. He advises investment banks, broker dealers, fund managers and corporate finance houses on all aspects of financial services regulation. Telephone: +44 (0) 20 7524 6400; E-mail: firstname.lastname@example.org. Sam Robinson is a senior associate in the financial services regulatory practice at Nabarro LLP. Sam has advised a number of clients including banks, stockbrokers, fund managers and investment advisers on all aspects of financial services regulation. Prior to working in private practice Sam worked for seven years at the FSA, the majority of that time in the FSA's General Counsel's Division. Telephone: +44 (0) 20 7524 6836; E-mail: email@example.com.
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