July 2021
Regulatory Round-up - Q2 2021

In this edition we cover:

United Kingdom

  • Investment Firm Prudential Regime
  • Brexit: UK-EU 'Equivalence'
  • EU adopts UK adequacy decision
  • Climate-related disclosures
  • Changes to UK MiFID's conduct and organisational requirements
  • The National Security and Investment Act 2021
  • FCA Review of 'Host' Authorised Fund Managers
  • Senior Managers and Certification Regime
  • Appointed Representative notifications and Change of Legal Status applications
  • FCA Business Plan 2021/22


United States

  • ESG Reporting Rules
  • Slight Increase in "Qualified Client" Dollar Amount Thresholds

Investment Firm Prudential Regime

On 19 April, the FCA released CP21/7, the second of its three Consultation Papers proposing rules for its new prudential regime for MiFID Firms, the Investment Firm Prudential Regime (“IFPR”). The IFPR will come into force on 1 January 2022.


CP21/7 builds on the proposals set out in the regulator’s first Consultation paper (i.e. CP20/24) and, in particular, provides further clarification on:


Own funds requirements:


The IFPR will require all firms to meet a minimum own funds requirement of the higher of (i) a Permanent Minimum Requirement and (ii) Fixed Overhead Requirement (“FOR”); while some firms (including, amongst others, those firms who hold client money, safeguard client assets and those with AUM > £1.2bn), categorised as non-SNI firms, will also need to consider K-Factor Requirements (“KFR”).  CP21/7 provides further detail on the FOR and KFR, confirming that the FOR will still be calculated by taking one quarter of a firm’s total annual expenditure after deducting ‘non-recurring expenses from non-ordinary activities’.  The definition for the FOR will be set out in Chapter 4.5 of the new prudential sourcebook for MiFID firms (i.e. MIFIDPRU 4.5).


Basic liquid assets requirement:


CP21/7 proposes that all MiFID firms will be required to hold an amount of liquid assets that is at least equal to the sum of one third of the amount of their FOR plus 1.6% of the total amount of any guarantees provided to clients.  The liquid assets MiFID firms will be able to consider in regard to the new minimum requirement will include short term deposits at a UK bank and assets representing claims on or guaranteed by the UK government or the Bank of England (for example UK gilts and Treasury bonds).  In addition, trade receivables will be able to be considered so long as they are to be received within 30 days, but are subject to a ‘haircut’ of at least 50%.


Internal Capital Adequacy Risk Assessment ("ICARA"):


The ICARA will replace the Internal Capital Adequacy Assessment Process (“ICAAP”) and will require MiFID firms on an annual basis to:


1. Identify and monitor harms;

2. Undertake harm mitigation;

3. Undertake business model assessment, planning and forecasting;

4. Undertake recovery action planning;

5. Undertake wind‑down planning; and

6. Assess the adequacy of own funds and liquidity requirements.


The ICARA will need to be documented each year and approved by the firm’s Board.




A new remuneration framework will be created in Chapter 19G of the Senior Management Arrangements, Systems and Controls Sourcebook (“SYSC 19G”) and will become applicable to MiFID firms in their next performance year after 1 January 2022.  The new framework will consist of three sets of requirements:


1. Basic remuneration requirements: applicable to all firms;

2. Standard remuneration requirements: applicable to non-SNI firms only; and

3. Extended remuneration requirements: applicable to the largest non-SNI firms only.


Regulatory Reporting:


MiFID firms will be subject to quarterly reporting in regard to financial information, including own fund and liquidity adequacy, as well as annual reporting on its ICARA and remuneration processes.

The FCA’s final Consultation Paper on the IFPR is expected in Q3 2021. 


Brexit: UK-EU 'Equivalence'

Portman highlighted in its previous regulatory round-up document that, at the end of March, the EU and the UK had agreed the text of a Memorandum of Understanding (“MoU”) covering how the EU and the UK intend to work together in setting rules for firms in the financial sector. Under the MoU a “Joint UK-EU Financial Regulatory Forum” will be established to discuss rulemaking. 



There continued to be hope that this approach would lead to an agreement with the EU on “equivalence”, allowing UK investment firms to provide services to EU-domiciled clients on a cross-border basis.  However, on 1 July, Rishi Sunak all but confirmed that an agreement on equivalence would not be reached. 



In his Mansion House speech to the City, the Chancellor of the Exchequer confirmed that the attempt to reach on agreement on equivalence with the EU “has not happened” and that the two parties are now “moving forward, continuing to cooperate on questions of global finance, but each as a sovereign jurisdiction with our own priorities”.



Mr Sunak noted that "we now have the freedom to do things differently and better, and we intend to use it fully.", while adding that “the EU will never have cause to deny the UK access because of poor regulatory standards.” 



As such, UK firms must continue to consider the local rules of each EU member state where they intend to conduct business to determine the extent they can provide services, including any conditions that need to be complied with.

EU adopts UK adequacy decision

Following the UK’s departure from the EU and the end of the transition period on 31 December 2020, the EU granted a temporary delay to restrictions on the transfer of personal data from the EU to the UK until 30 June. The temporary measure was put in place to give the EU time to determine whether the UK should be granted an “adequacy decision” under the EU General Data Protection Regulation which would allow for the unrestricted transfer of personal data from the EU to the UK.  



The EU has now granted the UK an “adequacy decision” which means that personal data can be transferred from the EU to the UK without firms having to put in place special measures, such as Standard Contractual Clauses, to legitimise these transfers.

Climate-related disclosures


On 22 June, the FCA released CP21/17, a Consultation Paper setting out proposals to introduce climate-related financial disclosure rules and guidance for asset managers, life insurers, and FCA regulated pension providers.



The proposals follow the Government’s published ‘Roadmap’ towards mandatory climate-related disclosures across the UK economy by 2025 and are in line with the recommendations of the Financial Stability Board’s Task Force on Climate-related Financial Disclosures.  



CP21/17 proposes that relevant firms will be required to make:



Entity-level disclosures:


Firms will be required to publish, on an annual basis, a report on how they take climate-related risks and opportunities into account in managing or administering investments on behalf of clients. These disclosures will need to be made in a prominent place on the main website for the firm’s business and should cover the entity-level approach to all assets managed by the firm. 



Product or portfolio-level disclosures:


Firms will be required to produce, on an annual basis, a baseline set of consistent, comparable disclosures in respect of their products and portfolios, including a core set of metrics. Depending on the type of firm and/or product or portfolio, these disclosures will either need to be:  


• Published in a product report in a prominent place on the main website for the firm’s business, while also being included, or cross-referenced and hyperlinked, in an appropriate client communication; or


• Be made available upon request to certain eligible institutional clients.



The FCA will introduce a new ‘Environmental, Social and Governance Sourcebook’ (“ESG Sourcebook”) to set out its proposed rules and guidance. It is expected that, in addition to the proposals set out in CP21/17, the ESG Sourcebook will expand over time to include new rules and guidance on other climate related and wider ESG topics.



Asset managers and asset owners that have less than £5 billion in assets under management or administration on a 3-year rolling average will be exempt from the new proposals. Firms will be required to assess on an annual basis whether they remain in or out of scope of the requirements.



For the largest in-scope firms (i.e., those with AUM of more than £50bn), the new proposals will become effective on 1 January 2022, with first disclosures required by 30 June 2023.  The proposals for all remaining in-scope firms will become effective on 1 January 2023 with first disclosures required by 30 June 2024.



The consultation period closes on 10 September 2021 and the FCA welcomes feedback and comments from interested stakeholders before this date. The FCA’s Policy Statement, detailing its final rules, is expected by the end of 2021.

Changes to UK MiFID's conduct and organisational requirements

On 28 April, the FCA released CP21/9, a Consultation Paper proposing changes to conduct and organisational requirements.



MiFID II’s implementation in the UK in January 2018 brought about many new regulatory requirements, including: (i) making third party research an inducement, unless paid for directly out of a firm’s own resources or by way of a separate research payment account; and (ii) requiring firms to make annual public disclosures around best execution practices.  However, under CP 21/9 the FCA is now proposing the following amendments:




To exempt the following research services from the inducement rules by treating them as “minor non-monetary benefits”:


• Research on listed and unlisted SME’s (small and medium-sized enterprises) with a market capitalisation below £200 million;


• Research focusing on fixed income, currency and commodity investment strategies;


• Research from independent research providers who are unconnected, either directly or with other group entities, to execution or brokerage services and


• Written research that is openly available to other firms or to the general public.


Best execution:


To remove the following disclosure requirements:


• The obligation on execution venues (including brokers) to provide quarterly metrics on execution quality (“RTS 27 reports”).


• The obligation on investment firms carrying out portfolio management or the reception and transmission of orders to provide annual reports on execution outcomes, including the top five execution venues used in each asset class (“RTS 28 reports”).


The period for consultation closed on 23 June and the FCA expects to issue its finalised rules in a Policy Statement in the second half of 2021.

The National Security and Investment Act 2021

On 11 November 2020, the UK Government published its National Security Investment Bill seeking to strengthen its ability to intervene in transactions to protect UK national interests and security concerns.  As a result, the National Security and Investment Act 2021 (“NSIA”) received Royal Assent on 29 April 2021 and is now expected to come into force by the end of 2021.



Under the NSIA, mandatory notifications will need to be made to a new Government authority, the Investment and Security Unit (“ISU”), where either the percentage of shares or voting rights acquired in a ‘qualifying entity’ exceeds 25%, 50% or 75% or where the acquisition of voting rights enables or prevents the passage of any class of resolution governing the affairs of a ‘qualifying entity’.



In addition, the Government has stated that it will encourage voluntary notifications where the transaction could give rise to security concerns.



It is expected that a ‘qualifying entity’ will be an entity which is active in one of the following qualifying sectors:  Advanced Materials; Advanced Robotics; Artificial Intelligence (AI); Civil Nuclear; Communications; Computing Hardware; Critical Suppliers to Government; Critical Suppliers to the Emergency Services; Cryptographic Authentication; Data Infrastructure; Defence; Energy; Engineering Biology; Military and Dual Use; Quantum Technologies; Satellite and Space Technologies; and Transport.



The ISU will have up to 30 working days to assess a mandatory notification before providing a decision. This period can potentially be extended to 45 working days if the ISU believes that a national security risk has arisen that warrants further investigation.



Under the NSIA, the UK Government will have powers to adjudicate that an acquisition over which it has jurisdiction is void.  In addition, the Act sets out potential criminal liability for a failure to notify which could result in fines of up to 5% of worldwide turnover or £10 million (whichever is higher) and up to 5 years imprisonment. 



Further, while the NSIA has yet to come into force, the ISU has the power to retrospectively request notification (called “call-in notices”) for any transactions having taken place since the publication of the National Security Investment Bill on 11 November 2020.

FCA Review of 'Host' Authorised Fund Managers

On 30 June, the FCA announced that it had conducted a review of fund operators that delegate investment management to third party investment managers outside of their corporate group (i.e., Host Authorised Fund Managers (“Host AFMs”)).



The regulator confirmed that, while it had found that some firms were operating well, others did not meet FCA standards.  Specifically, the FCA found that:


Due Diligence


Poor due diligence was conducted by Host AFM’s with particular instances noted of firms not gathering the level of detailed knowledge required to adequately understand the funds for which they would have responsibility.



Investment Strategies


Some Host AFMs oversaw a wide variety of investment strategies but had not put in place appropriate resources to manage this, including not having enough appropriately skilled and experienced people.





A number of Host AFMs displayed poor oversight of delegated third-party investment managers and their activities.  Specifically, the FCA noted a lack of oversight to ensure information provided to investors was fair, clear and not misleading as well as how the delegated third-party investment managers planned to produce returns, and how they performed in different risk environments against fund objectives, benchmarks and peers.





A number of Host AFMs were unable to provide evidence of robust governance procedures, with a particular lack of evidence of effective challenge by independent non-executive directors around potential conflicts and their management.  



The FCA advised that it expects all AFMs (and not just those who delegate investment management to third-parties) to consider its findings and whether there are weaknesses in their own systems and controls. Where necessary, AFMs are expected to make changes to address the FCA’s concerns.



The regulator noted that it intends to conduct further work to identify whether changes are needed to the regulatory framework that firms operate under. 


Senior Managers and Certification Regime

The FCA provided a reminder in the period that, while the Senior Managers and Certification Regime (“SMCR”) is now fully effective for all firms, the regulator sees this as the beginning, not an end.  



The FCA reminds firms that Boards and accountable Senior Managers should be making sure that SMCR continues to work effectively in the years to come.  To do so firms should review the FCA’s expectations and consider how they can best meet them as well as thinking about SMCR in the context of their wider culture. The FCA looks to Senior Managers to foster healthy cultures and notes that, under the Conduct Rules, which introduced new basic standards of behaviour for all employees, Senior Managers should be embedding a culture where employees feel safe to speak up when they see something that conflicts with these standards and that their concerns will be taken seriously.

Appointed Representative notifications and Change of Legal Status applications

On 28 April, the FCA released CP21/8, a Consultation Paper setting out its fees and levies rate proposals for 2021/2022.  Within the proposals, the FCA has confirmed its intention to levy a new flat periodic fee of £250 on Principal Firms, payable on each of their Appointed Representatives (“ARs”).  



In addition, the FCA has confirmed that, from 1 June 2021, the FCA will no longer be accepting Change of Legal Status applications.  Going forward, authorised firms thinking of changing their legal status will now need to submit a New Authorisation application.  

FCA Business Plan 2021/22

The FCA has announced that its Business Plan for 2021/22 has been delayed.  Typically, the regulator issues its business plan in April each year, however, this year it will be published in July and will include an update on plans for transforming the FCA.  

ESG Reporting Rules

The Securities and Exchange Commission (“SEC”) has confirmed that it expects to implement rules requiring new corporate disclosures on climate change and other environmental, social, and governance issues in the near future.



This follows a 3-month consultation period conducted by the regulator in which it invited feedback on a range of topics, including possible corporate disclosures on greenhouse gas emissions and risks from climate change, how such disclosures should be enforced, as well as the advantages and disadvantages of implementing a global set of standards versus multiple standard setters.



The period for consultation closed on 13 June.  While no official date for ESG rulemaking has been set by the SEC, its acting director of the Division of Corporation Finance, John Coates, has confirmed that he expects the SEC to act promptly following the end of the consultation period. 

Slight Increase in Qualified Client Dollar Amount Thresholds

Rule 205 (a) (1) of the Investment Advisers Act of 1940 (“Advisers Act”) introduced the general requirement that registered investment advisers are not permitted to charge performance fees. However, Rule 205-3 of the Advisers Act permits investment advisers to charge performance fees to “Qualified Clients” which includes clients with at least $1 million under management with the adviser or more than $2.1 million in net worth.



On 17 June, the Securities and Exchange Commission (“SEC”) approved an amendment to Rule 205-3 which adjusts the thresholds in assets under management and net worth to $1.1 million and $2.2 million respectively to account for inflation. The amendment becomes effective from 16 August, but contracts entered into before that date will not be affected.