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With its increased focus on enforcement, the Financial Services Authority (FSA) has recently taken action against a number of firms for breaching the rules and legislation relating to promoting and advising on unregulated collective investment schemes (UCIS). This article outlines the approach being taken by the FSA in this respect and considers what lessons may be learnt from the FSA’s actions.
SUMMARY OF THE REGULATORY POSITION OF UCIS
A collective investment scheme is, generally speaking, a pooled investment vehicle that invests on behalf of its participants and is managed by someone on their behalf (e.g., a fund that invests in FTSE 100 securities that is managed by a professional fund manager).
In the UK, there is the concept of “regulated” collective investment schemes and UCIS. Regulated collective investment schemes generally have restrictions placed on their investment powers etc. and can be promoted to the public generally (provided certain requirements are satisfied). UCIS, on the other hand, as they are unregulated do not have any such restrictions placed upon them and can only be promoted in certain specific circumstances outlined in the FSA rules and the relevant legislation (and not to the public generally).
Although collective investment schemes themselves are referred to as being regulated or unregulated, any person that carries on regulated activities in the UK in relation to either of them is required to be authorised by the FSA (or fall within an exclusion or exemption). In other words, any person that arranges the sale of UCIS would need to be FSA authorised. Generally speaking, the distinction between regulated and unregulated is relevant in relation to the promotion of the relevant scheme, not whether a person is carrying on a regulated activity.
BACKGROUND TO THE FSA’S APPROACH TO UCIS
While undertaking a “Treating Customers Fairly” assessment in 2009, the FSA identified issues relating to the sale of UCIS by small firms.1 As a result, the FSA conducted a project with the main focus being “the eligibility of customers and the quality of advice given in promoting and recommending a UCIS as an investment.”
Following this project, the FSA found that firms “were unaware of the statutory restrictions on the promotion of UCIS to the general public. Therefore, they may have promoted UCIS where this is prohibited.” As a result, the FSA referred a number of potential breaches to its enforcement and financial crime division for further action.
RECENT FSA ENFORCEMENT ACTION
The FSA has recently taken enforcement action against a number of firms and individuals in relation to promoting and advising on UCIS.2 In the majority of cases, the penalties that have been imposed on the individuals concerned have included:
In some cases, the FSA stated that it would be minded to revoke a prohibition order imposed on an individual, on the relevant individual’s application, in the event that the relevant individual is able to demonstrate to the satisfaction of the FSA that they have taken adequate steps to remedy their lack of competence and capability.
In other cases the FSA has also fined the FSA authorised firm involved, ranging from £19,600 to £49,000 (similarly including a 30 percent discount for early settlement).
When imposing a financial penalty, one of the factors that the FSA has to consider is whether the amount of the penalty would cause the individual serious financial hardship. In this respect, in some cases while finding that a fine was the appropriate penalty, the fine was not actually imposed on the relevant individual for this reason.3.
The facts in all of these cases are very similar and relate to failings in understanding the requirements relating to the promotion of UCIS and for making unsuitable recommendations for customers to invest in UCIS. In this respect, the FSA stated in the case of Paul Clark and Ceri Rees of Clark Rees LLP that:
The onus is on the firms to make sure they understand the specific requirements associated with UCIS and so we will remain vigilant in taking action against firms who fail to recommend UCIS to the right investors, making them review their UCIS sales and taking enforcement action in the more serious cases.4
The facts of the enforcement action taken against Andrew Ruff and Richard Lindley of Alpha to Omega (UK) Limited are particularly worth highlighting as, although the failings were again similar to the other enforcement actions, the failings were actually carried out by the appointed representatives of the authorised firm concerned. In accordance with the general principle that an FSA authorised firm must accept responsibility for the authorised activities of an appointed representative,5 the FSA took action against the two directors of the relevant authorised firm. The FSA stated that:
those who oversee networks of appointed representatives need to ensure that they keep a close eye on the advice being given throughout their network, especially where the advice includes high risk products such as UCIS. If there are failings in the way customers are treated anywhere in the network, the principals will be held to account.6
OTHER COMMENTS BY THE FSA ON PROMOTING & ADVISING ON UCIS
The promotion of UCIS was raised during the FSA Board meeting held on 23 June 2011.7 The minutes of this meeting state that the FSA Board noted the concerns raised by the Chairman of the Regulatory Decisions Committee (RDC) relating to:
the number of cases seen by the RDC featuring the promotion of [UCIS], the work being done within the FSA to review the way in which these specialist products were able to be sold, and whether there were ways to exercise greater regulatory control, through permissions or qualifications requirements.8
The FSA has also mentioned UCIS as an issue in its Retail Conduct Risk Outlook 20119 and highlighted the following key concerns:
As well as highlighting these key concerns, the FSA also uses the Retail Conduct Risk Outlook to remind firms that the sale of UCIS is a regulated activity and subject to the normal suitability and appropriateness requirements, as well the rule relating to acting in the best interests of the client.
Based on the number of cases in this area, the associated penalties and other FSA comments, it is clear that promoting and advising on UCIS is an area where the FSA has invested a significant amount of its resources. There are also a number of comments from the FSA which suggest that it will continue to do so in the future. For example, Tracey McDermott, acting director of the FSA’s enforcement and financial crime division, has stated that the FSA has “previously warned about the particular risks of UCIS and life settlement products which are likely to be unsuitable for the vast majority of investors. The industry must heed these warnings.”10
Accordingly, firms that promote and advise on UCIS should ensure that they are familiar with the restrictions relating to the promotion of these products and their characteristics. In this respect, firms may wish to take into account the good and poor practices relating to the promotion of UCIS which the FSA has published.11 Good practices, for example, include having a good understanding of the promotion restrictions and the exemptions within which a firm may promote an UCIS and good record keeping of related documentation, for example retaining a copy of a statement for a high net worth individual.
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: email@example.com.
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: firstname.lastname@example.org.
This document and any discussions set forth herein are for informational purposes only, and should not be construed as legal advice, which has to be addressed to particular facts and circumstances involved in any given situation. Review or use of the document and any discussions does not create an attorney-client relationship with the author or publisher. To the extent that this document may contain suggested provisions, they will require modification to suit a particular transaction, jurisdiction or situation. Please consult with an attorney with the appropriate level of experience if you have any questions. Any tax information contained in the document or discussions is not intended to be used, and cannot be used, for purposes of avoiding penalties imposed under the United States Internal Revenue Code. Any opinions expressed are those of the author. The Bureau of National Affairs, Inc. and its affiliated entities do not take responsibility for the content in this document or discussions and do not make any representation or warranty as to their completeness or accuracy.
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