Financial Advisers

 

Preparing for regulatory change in 2006/07

This note aims to help financial advisers prepare for forthcoming changes to FSA rules and regulatory requirements that come from European directives. This covers areas that could change and advises firms to engage in the changes, suggesting ways to do this.

Markets in Financial Instruments Directive

The most wide-reaching European directive next year is the Market in Financial Instruments Directive (MiFID). This directive will significantly alter how firms operate their business and how they interact with their customers. While financial advisers who do not hold client assets are not directly affected by the directive – and so will not be subject to systems and controls rule changes – they will be affected by the knock-on changes required in our customer-facing (conduct of business) rules. The final section of this note explains why these changes are necessary.

We are aiming to make MiFID-related rule changes by 31 January 2007, so that firms can implement those changes by 1 November 2007. While the implementation deadline is nearly two years away, firms need to start their preparations in 2006/07 to avoid extra last minute costs and additional compliance risk.

Changes to regulatory requirements

Much of the detail is still to be decided at European level, but we can identify the main areas where regulatory changes may impact financial advisers. The lists below indicate areas where the implementation of MiFID is expected to bring changes for those firms within its scope*.

Conduct of business

  • Client classification. The current categories (private, intermediate and market counterparty) will be replaced with the similar but not identical MiFID classifications – retail client, professional client, eligible counterparty.
  • Marketing communications/financial promotions.
  • Information about the firm and its services.
  • Client agreements/terms of business.
  • Suitability and know your customer.
  • Appropriateness test (a new 'filter' before a client may contract for certain types of service, for example, execution-only derivatives transactions) and execution-only services.
  • Best execution.
  • Client order handling.
  • Reporting information to clients.

Systems and controls

  • Risk control including assessment, management and mitigation.
  • Internal systems and controls, particularly in relation to:

    • business continuity;
    • IT systems and processing;
    • staff;
    • internal audit;
    • risk assessment, management and mitigation; and
    • administrative and accounting procedures.
  • Outsourcing of ‘critical and important’ functions and, possibly of investment services.
  • Record keeping, particularly in relation to transactions undertaken for clients.
  • Management of conflicts of interest to prevent the interests of clients being adversely affected.
  • Compliance arrangements, including measures governing personal transactions.
  • Safeguarding of client financial instruments or money held by the firm.

Engaging with the changes

There are several ways financial advisers can prepare for the changes:

  1. Have your say in the consultation process in 2006. We will publish various consultation papers throughout the year, and invite firms to comment on the proposals. A list of the papers is in the table below.

    One way to engage in the consultation period is through the financial adviser section on our website. We will tell you in our regulation round-up e-mail and the financial adviser newsletter when we have published these consultation papers.

Key to table
Q1 = first quarter of the calendar year (January-March), Q2 second quarter etc.
COB = Conduct of Business

 
Consultation papers on MiFID implementation relevant to financial advisers in 2006/07
Systems and controls CP Q2 2006

MiFID CP – aspects other than conduct of business, financial promotions and systems and controls. It will cover MiFID provisions on market transparency, transaction reporting, authorisation and permissions, and enforcement and co-operation.

Q3 2006
CP on major changes in the Conduct of Business Sourcebook, including implementation of MiFID and the Unfair Commercial Practices Directive. Q4 2006
Marketing communications and financial promotions regime CP Q4 2006

This programme is provisional and will need to be reviewed if there is further delay to the European timetable.

 
Expected deadlines
MiFID- rules and guidance made 31 January 2007
Firms to be complying with MiFID requirements 1 November 2007

  1. You can find out more through your trade body – we have regular discussions with a number of trade bodies, including AIFA in the financial adviser sector.
  2. When planning your resource requirements for 2006/07 in your business plan, allow for the need to review your firm's compliance with the changes to the FSA's Handbook.
  3. For extensive analysis of the regulatory change driven by European and international initiatives, please see our International Regulatory Outlook (IRO). The IRO helps you plan your resources to cope with the volume of regulatory change arising from international policy. There is a summary of the IRO sections that relate most closely to financial advisers in our small firms library.

The impact of MiFID on financial advisers

Financial advisers whose regulated activities are limited to advising on and arranging deals in investments and do not handle client money are likely to be outside the scope* of MiFID. Most financial advisers are not within the scope* of MiFID but they compete for retail business in the same market as banks and building societies who are. In practice, this could lead to competitive distortions and inconsistencies in consumer protection. So we need to decide how far to align the standards for non-MiFID retail firms with those for MiFID firms. For example, it would be odd if when selling a unit trust a bank had to adopt a different suitability test from a personal finance firm or provide different information; or, could receive an inducement that the personal finance firm could not. However, we shall not just equalise the requirements for the two sets of firms; any policy adjustments need proper cost-benefit justification.

Financial advisers who do handle client money, or trade with customers in other EU countries, will be affected directly by the MiFID. If you think your firm is within the scope of the MiFID there is further information available on our investment managers pages: Latest on Europe.


* Firms are either directly affected by MiFID (i.e. within the scope of MiFID) or indirectly affected by MiFID (i.e. outside the scope of MiFID). The changes are so widespread, that all firms will be affected, directly or indirectly.