In this section we take a look at:
- The regulatory position for UK-based financial services firms after 1 January 2021
- The regulatory position for EEA-based financial services firms wanting to do business in the UK after 1 January 2021
- The position on sanctions and money laundering after 1 January 2021
Brexit trade agreement and financial services
Now that the Brexit transition period has ended, clients are asking us what this means for firms regulated by the FCA/PRA and regulated financial services generally.
The trade deal that the UK and EU concluded on 24 December 2020 didn’t include an EU-wide arrangement for UK access to EU financial services. Instead the deal outlined plans to set up a dialogue between the UK and EU to discuss future financial services arrangements, with March set as a rough deadline (60 days).
The UK is to begin dialogue with the EU to forge a “memorandum of understanding” about future financial services access. However it’s likely that the only way the UK financial services industry can maintain its pre-Brexit access to the EU is if Brussels grants regulatory equivalence.
Brussels will only grant this equivalence if the EU deems that the UK will stay roughly within the EU’s regulatory orbit for financial services. To date Brussels has only granted equivalence in relation to UK clearing houses.
The City of London exported £25bn of services to the EU in 2019, which is almost half the total amount of financial services exported by the UK that year. That means it is imperative that the UK secures a favourable access regime and that equivalence is established across the sector. We’ve already seen many large banks moving assets and operations to their EU based branches.
Watch this space...
What is the current position for UK-based financial services firms – what should all UK authorised FS firms be considering?
The Financial Conduct Authority has been preparing for the end of the transition period for a significant period of time and has regularly published updates on its progress and changes to its permissions regime and handbook. This means any financial services firm doing business in the UK must adhere to the updated FCA handbook and permissions regime.
If you’re a UK-based firm and only do business in the UK, you’re less likely to have been affected by the end of the transition period. You may not have been affected at all.
However, if you carried out business between the UK and the European Economic Area (EEA) – whether through a passport or directly under EU legislation – you will be affected and should have implemented plans to address any risks for your firm.
The FCA has set out questions that will help you to decide whether you conducted business in the EEA and whether your business may have been affected by the end of the transition period - read the FCA guidance.
Below we consider some specific issues faced by UK-based firms that do business with the EEA:
- The end of passporting – how does this affect your firm?
- Onshoring of EU Financial Services Legislation and the Temporary Transitional Power (TTP) – what does it mean for your firm?
- Data sharing by financial services firms – how has the end of the transition period affected data sharing?
- Communicating with customers about the effect of the end of the transitional period on your services and the direct impact on the customer
- Client money and custody assets in the EEA
- Engaging with non-UK regulators
- FCA sector specific guidance
The end of passporting – how does this affect your firm?
As a result of the UK/EU trade deal and the end of the transition period passporting between the UK and EEA has ceased.
This scheme allowed any firm authorised by a financial services regulator in an EEA member state to trade across the EEA without the need for separate authorisation from the national regulator in each state. Instead they were able to trade in the other member states by holding a ‘passport’ from their own national regulator.
Now that passporting has ceased, any UK authorised firm wishing to continue doing business in an EEA state or with EEA consumers must do so in a way which is consistent with local laws and local regulatory expectations. This is likely to mean seeking authorisation from the national regulator of every country in which they do business, unless the UK and EU have agreed equivalence provisions for the sector that covers the business your firm conducts.
However, equivalence is not a substitute because:
- It does not cover retail business
- It could only cover market access in limited areas and will not include core banking services such as lending, payments and deposit if a relevant equivalence decision is made in the future
- Under the current terms of the UK/EU trade agreement, equivalence can be withdrawn by the EU with only 30 days’ notice. As such you need to consider the impact of this on your firm and whether direct authorisation from each national regulator is needed.
Not all UK firms doing business in the EEA will automatically need to seek direct authorisation, nor will the end of the transition period automatically mean that customers are impacted. There are other ways firms can access the EEA that may not be affected by the UK leaving the EU. However, these will depend on the specific firm, type of activity and the exemption or local permission in question.
These include:
- Permission under local law or based on rules of a local financial market infrastructure
- Local exemptions in an individual EEA country
- whether reverse solicitation is permitted without local authorisation – this is where the client initiates the provision of the service on their own initiative, and you do not promote or advertise services
- whether your activity would potentially be covered by any prospective EU equivalence decision on a specific aspect of the UK’s regulatory framework
The key is to think about the legal basis on which your business occurs, and how that might have been affected by the end of the transition period. This includes thinking about whether your firm needed additional regulatory permissions in the UK and/or in another country or has the benefit of one of the matters set out above.
Onshoring of EU Financial Services Legislation and the Temporary Transitional Power (TTP) – what does it mean for your firm?
Following the end of the transition period the UK’s onshored EU legislation now applies. ‘Onshoring’ was the process of amending EU legislation and regulatory requirements so that they work in a UK-only context. This includes directly applicable EU legislation such as EU Regulations and Decisions that form part of UK law by virtue of the European Union (Withdrawal) Act 2018.
The onshoring process means that there are some areas where the requirements on firms and other regulated persons have changed.
You should be aware that regulations and principles in the FCA Handbook may have changed to ensure that it is consistent with retained EU law. The FCA has confirmed that they have amended their Handbook to make sure it’s consistent with changes the Government has made, and so it still works effectively now that the transition period has ended. You should familiarise yourself with any changes that have occurred to the parts of the handbook that apply to your business activities.
You should be aware, in particular, of principle 7 and treating customers fairly.
To help firms adapt to their new requirements, the Treasury gave UK financial regulators the power to make transitional provisions to financial services legislation for a temporary period. This is known as the Temporary Transitional Power (TTP).
The FCA has applied the TTP on a broad basis from the end of the transition period until 31 March 2022. This means firms and other regulated persons do not generally need to adjust to the changes to their UK regulatory obligations brought about by onshoring straight away. However, there are some areas where the TTP does not apply and where firms will need to comply with these obligations from 31 December 2020.
Where the TTP applies:
- firms and other regulated persons can continue to comply with their pre-existing requirements for a limited period
- the FCA expects firms to use the duration of the TTP period to prepare for full compliance with the onshored UK regime by 31 March 2022
Read detail on the operation of the TTP and what and how it applies
In the key areas, listed below, the FCA expects firms and other regulated persons to comply with changed obligations now that the transition period has ended:
- MIFID II transaction reporting requirements
- EMIR reporting obligations
- SFTR reporting obligations
- Certain requirements under MAR
- Issuer rules
- Contractual recognition of bail-in
- Client Assets Specialist Sourcebook rules (CASS)
- Market-making exemption under the Short Selling Regulation
- Use of credit ratings for regulatory purposes
- Securitisation
- Electronic commerce EEA firms
- Mortgage lending after the transition period against land in the EEA
- Payment Services – strong customer authentication and secure communication
Read the FCA guidance on each of the above key areas and the requirements on firms
Data sharing by financial services firms – how has the end of the transition period affected data sharing?
The Government has legislated so that UK firms can continue to lawfully send personal data from the UK to the EEA and 13 other countries that the EU has deemed to provide an adequate level of protection of personal data.
The Government has also announced that the UK-EU Trade and Cooperation Agreement provides for the continued free flow of personal data from the EU and EEA to the UK until adequacy decisions are adopted, for no longer than six months.
The Information Commissioner’s Office (ICO) is the regulator for data protection issues in the UK. Read the ICO's information on data protection and Brexit
The ICO has said that the agreement between the UK and the EU enables businesses and public bodies across all sectors to continue to freely receive data from the EU (and EEA). However, as a precaution, the ICO recommends that businesses work to put in place alternative transfer mechanisms to safeguard against any interruption to the free flow of EU to UK personal data.
You should also consider taking legal advice if you believe that you might be affected. Read guidance from our Data Protection team on the implications of Brexit on Data Sharing
The guiding principle is Principle 7 in that as a firm you must communicate with your customers in a clear, fair and not misleading way which provides them with information that they need to know.
Throughout the transitional period the FCA made it clear that they expected firms to contact customers who were likely to be affected by the end of the transition period. This obligation continues as firms start to see how the operation of the new and transitional regimes affects their customers and the way they do business.
The FCA expects that firms will be able to show how they have considered and planned for how the end of the transition period may have affected their customers, recognising that different categories of customers may be affected in different ways.
For example, customers based in the EEA (including UK expats) may be more affected than those living in the UK. You should have contacted each group of customers to explain clearly how they have been or will be affected.
As well as offering information directly to your customers, you should have made the important information available more widely, such as on your website. This also includes being prepared for the possibility that you may have a significant increase in consumer queries now that the transition period has ended.
The FCA has clearly set out that they expect firms to have communicated to their customers in good time – usually, the earlier the better. Firms must also continue to communicate clearly to their customers, taking care to avoid confusion with multiple messages that could change over time.
You should continue to consider what information consumers need to know and when. If customers need to act, then you must provide (or, in many cases, should have already provided) the information they need in a realistic time for them to make these decisions.
You may be in breach of Principles 6 and 7 and be subject to regulatory action if you:
- Fail to consider if customers are affected by the end of the transition period
- Fail to demonstrate that assessment
- Fail to contact those customers who have been identified as being affected.
Now that passporting has ended, you should have considered whether and how you can continue to service any EEA customers, following local law and local regulators’ expectations.
You should make decisions aimed at getting appropriate outcomes for your customers. You must treat customers fairly, irrespective of where they are based. In many cases, it would be a poor outcome for customers if you were to stop servicing them suddenly. There would be some situations where significant harm would result – for example, if you withhold payments that customers are entitled to.
Client money and custody assets in the EEA
Your firm must carry out periodic due diligence reviews on third parties holding client money and/or custody assets to comply with its regulatory obligations. If your firm deposits client money and/or custody assets with any institution in the EEA, you should have reviewed your due diligence to ensure that client assets won’t be subject to increased risk due to any changes arising from the end of the transition period. You should then manage the risks accordingly.
Your firm should make sure that existing safeguards and protections for client assets, especially in the event of insolvency, remain effective now that the transition period has ended.
Engaging with non-UK regulators
You may need to discuss your plans with European regulators to make sure you can continue to provide services to EEA customers now that the UK is no longer in the EEA.
European regulators have been making their own preparations and contacting firms directly about their intentions. In the same way that firms deal with the FCA, you should act lawfully and respond to the FCA’s counterpart regulators as best you can and in a timely manner.
For information on Brexit from EEA financial regulators, see the FCA’s list of dedicated websites.
FCA sector specific guidance
The FCA has recognised that certain sectors face different and unique challenges presented by the end of the transition period.
The FCA has published sector specific guidance in the following areas:
Next steps for all UK based firms:
If you or your customers have been affected by the end of the transition period, you should:
- Make any remaining changes you might need to make to your business
- Continue to provide information to customers who might be affected by your plans in a way which is clear, fair and not misleading
- Continue to consider the implications of any further developments, checking the FCA website regularly for new information, specifically the result of the negotiations towards a Memorandum of Understanding or equivalence decisions.
You may want to discuss the implications with the relevant EEA regulator in the countries where you do business, or your trade association. You can also contact us for legal advice if you need any further clarification.
What is the current position for EEA based financial services firms doing or wanting to do business in the UK?
Following the end of the transition period, EEA-based firms can no longer passport into the UK and EEA-based investment funds can no longer be marketed under a passport in the UK.
UK authorities have taken a number of steps to limit the impact of the end of passporting on financial products and services provided to UK-based customers from EEA firms. This includes introducing the temporary permissions regime (TPR), temporary marketing permissions regime (TMPR) for EEA-based investment funds and the financial services contracts regime (FSCR).
The TPR allows EEA-based firms that were passporting into the UK at the end of the transition period (31 December 2020) to continue operating in the UK within the scope of their previous passport permission for a limited time after the end of the transition period. This is subject to having notified the FCA that they wanted to join the TPR before the end of the transition period. New applicants can’t join the scheme.
During this limited period, these firms must seek full authorisation by the PRA or the FCA in the UK, if required, to continue to access the UK market.
The TMPR allows certain EEA-based funds that were passporting into the UK at the end of the transition period to continue to be marketed in the UK in the same manner as they were before the transition period ended (again, subject to having notified the FCA before the end of the transition period).
They can do this for a limited period while seeking UK recognition to continue to market in the UK.
Those firms taking advantage of the TPR will be supervised and subject to FCA rules similar to those that operate on UK based firms. Read the FCA guidance on the Rules that apply to firms and fund operators in the TPR
Alongside the TPR, the Government has created the FSCR. This means that, for a limited period of time, EEA passporting firms that haven’t entered the TPR are able to continue servicing UK contracts entered into before the end of the transition period (or before they enter FSCR). This regime is only to run off existing contracts and new business cannot be conducted under the FSCR. This will allow firms to conduct an orderly exit from the UK market, now the transition period has ended. Read more about the FSCR
UK Sanctions and Money Laundering post 1 January 2020
Sanctions – how has the regime changed?
Following the end of the transition period the EU Sanctions regime no longer applies. The UK’s new sanctions regime under the Sanctions and Anti-Money Laundering Act 2018 (SAMLA) is now in force.
While the new UK sanctions regime broadly replicates existing EU sanctions measures, there is divergence in certain areas. Most notably the UK now maintains its own sanctions list which does not fully replicate the UN sanctioned entities and individuals. Other notable differences are:
No direct transposition of existing EU sanctions regimes into the new UK sanctions regulations. The drafting of the new UK sanctions regulations is more detailed and clearer cut on its face than the comparable EU legislation. Individuals who or businesses that undertake activity relating to a sanctioned country or entity should read and understand the new UK regulations and related guidance to ensure that they remain compliant. Read the regulations and guidance
Limitation of geographical scope of licences. Some trade licences previously granted by the UK used to be valid in EU member states (e.g., trade licenses allowing export from another EU Member State). Under the new UK sanctions regime licenses granted by the UK are only valid for activities in the UK. This means you may also need licences from EU member states, for example if you export controlled goods from another country to a sanctioned destination.
A lower threshold for designations under the new UK sanctions regime. The newly applicable threshold is lower than the “necessity test” under EU law and follows the “reasonable ground to suspect” model. An appropriate minister can designate an entity or individual if there are reasonable grounds to suspect that a person is or has been involved in a specified activity, is owned/controlled/acting on behalf of/acting at the direction of such person, or is a member of/associated with such person.
The minister will then consider whether the designation is "appropriate" given the purpose of the particular sanctions regime and the "likely significant effects" of the designation on the designated person.
This is potentially important for those who may be at risk of designation and being placed on the sanction list. This will also influence whether you can challenge a designation and may lead to the UK making designations that do not meet the EU threshold.
The introduction of designation by description. The new UK regime allows for a person or entity to be designated by a description (not previously allowed under the EU regime).
The description must be "such that a reasonable person would know whether that person fell within it" and can only be made when "it is not practicable for the Minister to identify and designate by name all the persons falling within that description at that time”.
There are likely to be teething problems when integrating the concept of designation by description into compliance and sanctions screening programmes for UK persons. These are likely to include determining whether a person falls within a designation by description and accessing information that is reliable and sufficient to allow such assessments to be made.
Changes to the process for challenging designations. Previously all EU sanctions, whether under EU regime or UN regime, could be challenged in the European Courts. Under the new UK regime, if designation is made under the UK sanctions regime the challenge is by judicial review to the UK court. The only way to challenge designations made under the UN sanctions regime will be to request that the Secretary of State uses his/her "best endeavours" to secure the removal of their name from the relevant UN list.
Mirroring the US sanctions regime concept of general licences. A general license permits a person to undertake an otherwise prohibited activity without the need to apply for a specific license, provided that the person meets certain conditions. Under SAMLA, OFSI can issue general licenses when other licensing derogations or exceptions are not available. For persons subject to both UK and EU jurisdiction, however, a UK general license will not provide an exemption from the need to apply for a specific license in the relevant EU Member State(s), which may in certain circumstances an additional layer of complexity to sanctions compliance.
Companies operating in both the United Kingdom and European Union may face compliance difficulties as a result of needing to comply with both regimes. You should carefully analyse the UK and EU sanctions regimes to ensure that you remain compliant now that the UK sanctions regime is in force.
Anti-Money Laundering compliance – has anything changed at the end of the transition period?
The short answer is that little is expected to change now the transition period has ended. That is because the UK transposed the 5th Anti-Money Laundering Directive into UK law and the government has not announced to date any proposal to deviate from those standards/requirements as of 1 January 2021.
Further, while the UK has opted out of transposing the 6th Anti-Money Laundering Directive, due by 13 December 2020, this is largely due to the fact that many of its requirements are already covered by UK law. One exception is the proposed new offence of corporate liability for failing to prevent money laundering, where the UK government has announced a secondary review to be taken forward by the Law Commission.
The UK will continue to be a member of the Financial Action Taskforce (FATF) and is expected to continue to follow, if not exceed, its guidelines and recommendations on global standards.
AML is specifically listed as one of the offences covered by criminal judicial co-operation provisions in both the future trade agreement. Also the future trade agreement includes non-regression clauses in relation to AML standards.
So what has changed?
The main practical change for AML compliance is that the definition of a ‘third country’ in now a country outside the UK, as opposed to outside the EEA.
EU nationals/clients will become third-country entities for the purposes of AML compliance. And UK nationals/companies will be third-country entities for EU companies undertaking AML compliance.
Both EU AML Directives and UK Money Laundering Regulations of 2017 require the conduct of Enhanced Due Diligence (EDD) in third countries due diligence subjects. This means that as from 1 January 2021 “third country” for UK will be any country outside the UK, while the UK will become a third country for the EU.
As a result, a UK bank, receiving an application for opening a corporate bank account from a Greek company will apply EDD and obtain additional approvals before the establishment of a business relationship. Similarly, a German corporate service provider shall apply EDD before accepting a UK resident as a customer.
As a result, the KYC procedures of the obliged entities will become much tougher.
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