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Principals and appointed representatives in the FCA's sights

Posted on 26 May 2022

The FCA's thematic reviews of the general insurance sector and the investment management sector over the last few years have led it to identify significant shortcomings in the Appointed Representatives (AR) regime. What followed initially was a Consultation Paper on changes to the AR regime and attendant rules. More recently, the FCA produced a 3 Year Strategy paper, which included a focus on reducing consumer harm from ARs. In support of that strategic plan, the FCA produced a 2022/23 Business Plan, in which it fleshed out how it proposes to reduce AR harm this year. Notably, this included by intensifying its scrutiny and use of supervisory and enforcement tools in the AR space.

The regime and landscape

The regime allows an AR to engage in certain regulated activities without having to be directly authorised, with the Principal assuming responsibility for such regulated activities. There are approximately 40,000 ARs, including Introducer ARs, operating under around 3,600 Principals in a wide range of financial services markets including general insurance and protection, investment management, retail investments, retail lending and wholesale financial markets.

The regime has also evolved to include a wide range of models, such as regulatory hosting and networks. The regulatory hosting model is one where, rather than carrying on any substantive element of a regulated activity itself, the Principal oversees the use of its permissions by ARs. This model typically differs from the network model in that the regulatory host firm’s ARs are generally independent, unconnected businesses, in some cases operating in different markets.

The regulatory hosting model has become increasingly prevalent. This is particularly the case in the funds space where the model has evolved to include the addition of third party Alternative Investment Fund Managers (AIFM) providers - a progression of the secondment style arrangements frequently seen in the discretionary investment management space.

Action the FCA will be taking

While the FCA recognises that the AR regime has benefits, it is concerned about the harms arising, which it considers to be wide-ranging and cross-sectorial in nature. It states that, on average, Principals generate 50 to 400% more complaints and supervisory cases than non-Principals across all sectors. The area is under the microscope, and the FCA is taking action to mitigate the risk of harms arising.

Those in the AR space will no doubt be familiar with the proposals in the AR Consultation Paper that aim to challenge behaviours to improve early identification of potential harm to consumers. (See our analysis last year of the AR Consultation Paper.) 

As to what else we are likely to see in this space:

  • The recent 3 Year Strategy talks of the FCA taking activity at the gateway to reduce the most significant risks. Indeed, a recent example of this is the FCA's May 2022 decision to refuse Alexander Jon Compliance Consulting Limited's (AJCC) application as Principal to provide regulatory hosting services. This decision was on the basis that AJCC could not demonstrate that it had the skills, experience or the staff to oversee ARs.
  • The AJCC refusal is consistent with the robust tools identified in this year's Business Plan to tackle the problems in the AR Regime. We anticipate seeing the FCA looking to refuse more applications in the future, similar to the AJCC refusal.
  • The FCA also says that it will undertake more assertive supervision of high-risk Principals, including enforcement action. Given the focus identified by the FCA, we expect to see the FCA taking an increasingly hard line. No doubt enforcement action will result.
  • As well as enforcement action, we expect to see action similar to the supervisory intervention the FCA made against Marshall Sterling Investment Management Ltd in February 2021 to require it to terminate AR relationships. Enforcement action can be very severe. However, experience is that supervisory actions can have the potential for even more serious consequences for firms than enforcement action, given how quickly requirements can be imposed.
  • Although by no means limited to that, one particular concern relates to regulatory hosts. The FCA says regulatory hosts have on average more complaints against them compared to other Principals, and on average, create more FCA supervisory cases than other Principals. Further, these cases are, on average, more severe. The firms themselves are all too aware of the enhanced scrutiny they face from the FCA, which is having a trickle-down effect on their dealings with potential ARs. The recent spate we have seen of s.166 appointments in relation to hosting platforms is an indication of how seriously the FCA takes the perceived risks posed by these hosting firms. It is not difficult to see how s166 appointments can lead to enforcement action or other interventions.

If, as we expect, the FCA does come knocking on the doors of those in the AR regime, firms should treat the approaches with the utmost seriousness and rigour. Whether it is the pace at which to proceed, what to stand fast on and what to concede, or what improvements to make, how firms respond to FCA approaches can be decisive to the outcome.

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