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Personal Characteristics under SMCR – What is the right stuff?

Posted on 19 February 2021

'Fitness and propriety' and non-financial conduct: theory and practice

In advance of the deadline on 31 March 2021 for solo-regulated firms to assess whether its Certified Persons are "fit and proper", it is timely to consider one aspect of "fitness and propriety" (F&P) that still causes concern and discussion across the sector. That is the requirement for Certified Persons and Senior Managers to have the appropriate "personal characteristics" and the role of non-financial misconduct when assessing F&P. In particular how this ought to be applied by firms in practice.

Background

By way of background and as a reminder, the genesis of SMCR was the post-financial crisis Parliamentary Commission on Banking Standards' conclusion that there were serious cultural failings in UK financial services. Consistent with this, some FCA publications have suggested that the "personal characteristics" requirement is expected to do some heavy lifting as part of this wider campaign to improve culture in financial services. Most notably, a letter in 2018 from Megan Butler (at that point Executive Director of Wholesale Supervision) to the Chair of the Women's and Equality Committee on the subject of sexual harassment in the workplace made a specific connection between SMCR and certain non-financial conduct (such as harassment) preventing regulated individuals taking up or continuing in their roles. She also re-iterated that convictions for non-financial matters should be taken into account when assessing F&P.

A new requirement?

Unlike the other well-known components of F&P, the requirement to have the right "personal characteristics" is incredibly vague. Indeed, one might legitimately ask whether it is really an autonomous criterion at all. The Financial Services and Markets Act 2000 was amended to refer to "personal characteristics…required by general rules made by the regulator in relation to persons performing [Senior Manager or Certification] functions".

However, the FCA Handbook makes no specific mention of "personal characteristics", other than in respect of an individual's honesty, integrity, reputation and competence to carry out regulated activities (i.e. the pre-existing well-known components of F&P as clarified by the guidance in the FIT Handbook). PRA guidance is no more helpful.

Even before the advent of the SMCR, the FCA viewed certain non-financial conduct or characteristics as having the potential to impact on F&P to conduct regulated activities in certain extreme cases. There are the well-known prohibitions of Jonathan Burrows (for fare-dodging (2014)) and Paul Flowers (following his conviction for drug possession and because of his lack of appropriate character and conduct (2018)). In the cases of both Flowers and Burrows, the FCA assessed that the non-financial conduct was sufficiently egregious that it bled through to the perceived integrity and reputation of these individuals to conduct their regulated activities. More recently the FCA decision in the cases of Stuart Forsyth (in respect of payments to his wife to reduce his tax liability (2019)) adopts a similar approach. His misconduct was found to be of a nature and significance to cast doubt on his integrity to conduct regulated activities as a CEO, although this Decision Notice is under appeal to the Upper Tribunal.  It is also worth recalling that the FCA has long had guidance as to whether and when drug or alcohol addiction might impact upon competence and capability (FIT 2.2.2A G).

The unresolved question now is whether the "personal characteristics" requirement means that firms need to act (e.g. by suspending pending an investigation or in the case of Certified Persons by refusing to Certify or Re-certify) in a broader category of cases and not simply those as obvious and extreme as those mentioned already. If that is the FCA's expectation then there is scant material or detailed guidance to support firms' decision making and plainly a real risk of costly disputes or litigation if prejudice results to the individual. That said, there has certainly been a change in the legislation and indeed the mood music around F&P since SMCR was introduced and firms cannot simply ignore that.

A framework for decision making

Forthcoming FCA Notices will help to clarify the role of non-financial conduct. In the meantime and in the absence of proper guidance from the FCA, one approach is for firms to treat the "personal characteristics" requirement as broadening the scope of material and information that is conceivably relevant to an F&P assessment, but not fundamentally altering the relevant tests to be applied to that information. In other words, firms should consider the conduct and characteristics of Certified Persons (and its Senior Managers) in the round, including any non-financial conduct and characteristics that comes to its attention (e.g. in the course of its own regular diligence or appraisal processes). The question should then not be whether or not the individual has the "right" or "wrong" characteristics but whether or not his/her honesty, integrity, reputation and competence to perform regulated activities is brought into question or doubt by these matters.

This will inevitably be a fact specific exercise that should take into consideration both the type and severity of non-financial conduct and how that may jeopardise the proper performance of regulated activities. For example, it may be hard to believe that significant dishonesty outside of work (for example in the preparation of a tax return or in dealings with the police about a drugs offence) does not suggest a real risk of similar dishonesty in the discharge of regulated activities. By way of another example, instances of harassment or anti-social behaviour in the workplace or outside of it, whilst not necessarily dishonest, may be severe enough to suggest a real risk of lack of integrity (often defined in FCA Enforcement case law as akin to lack of moral compass) in the discharge of regulated activities. The seniority of the individual concerned (whether a Senior Manager or a Certified Person) should also weigh in the balance. It is clear (for example from its comments in the Jes Staley Final Notice (2018)) that the FCA expects senior people to lead by example. Therefore, whilst not imposing impossible standards, firms should probably have a lower threshold when considering how non-financial matters may impact on the F&P of such individuals to credibly conduct their regulated activities.

SMCR and cultural reform

These are plainly difficult judgment calls and there will inevitably be an inconsistent approach adopted across the sector at least until the FCA's stance becomes clearer. In one sense and even before SMCR, F&P assessments have always been particular to the individual and his/her control environment. However, the scope for inconsistency can only now be greater, running the risk of jeopardising the FCA's cultural reform agenda.

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