A tougher appointed representatives regime is on its way

Published 17 diciembre 2021

The FCA has published details of significant changes that it is proposing to its rules relating to the appointment and oversight of appointed representatives. The changes will have a significant impact on adviser networks and other firms which make use of appointed representatives, particularly in the consumer lending, general insurance and protection sectors.

At the same time, HM Treasury has published a Call for Evidence in response to the Treasury Select Committee’s (TSC) Lessons from Greensill Capital inquiry. In the view of the TSC, “It appears that the appointed representatives regime may be being used for purposes which are well beyond those for which it was originally designed”. The TSC recommended that “The FCA and HM Treasury should consider reforms to the appointed representatives regime, with a view to limiting its scope and reducing opportunities for abuse of the system”.

Background to the appointed representatives regime

Section 39 of the Financial Services and Markets Act 2000 (FSMA) creates a regime under which unauthorised or limited permission credit businesses (known as appointed representatives, or ARs) can be appointed by authorised firms (known as principals) to carry out certain regulated activities which the principal is authorised to carry on. In effect, the principal stands in the shoes of the FCA and takes responsibility for the acts and omissions of its appointed representative when the AR is carrying on the activities for which its principal has accepted responsibility in writing.

The appointed representatives regime dates back to the Financial Services Act 1986, but as the scope of FSMA has extended the significance of appointed representatives has grown, and a number of long-standing anomalies have become more significant. There are a number of obvious curiosities in the current appointed representatives regime (as noted in HM Treasury’s Call for Evidence):

• despite use of the terms “principal” and “representative” there is no requirement that an appointed representative in fact represents or acts as agent of its principal
• because the scope of the appointed representative’s appointment is set out in the terms of a private contract, the appointed representative agreement, between the principal and the AR, there is no straightforward way for the FCA or a customer of the AR to know the scope of the AR’s right to perform regulated activities, yet if an AR is acting outside the scope of the agreement the customer may be unprotected
• there is no limit on the amount of business that an appointed representative can carry on in that capacity – indeed, its regulatory income could exceed that of its principal.

The FCA's Proposals 

Reporting requirements

The FCA is proposing that principals provide it with additional information and details on their appointed representatives, including information on:

• the AR’s business
• the AR’s revenue
• complaints against the AR
• the AR’s regulated and non-regulated activities.

This information will need to be provided in relation to existing ARs (within 60 calendar days of the new rules coming into force) as well as in applications to appoint new ARs. This will impose a significant imposition on principals who currently have a large number of ARs, such as within advice networks. More limited information requirements will apply in the case of introducer appointed representatives, and this fact may cause principals to think again as to whether an introducer appointed representative arrangement might be preferable.

Principals will be required to notify the FCA at least 60 calendar days before the appointment of a new appointed representative. They will also be required to notify the FCA of any planned changes to an AR’s name or to the categories of regulated activities the principal allows the AR to undertake, at least 10 calendar days before the change takes effect. Other changes will need to be notified within 10 business days of the change being made.

Principals are likely to need to review and amend the terms of their existing AR Agreements to ensure that their ARs are under a contractual obligation to notify the principal of such changes in time to allow the principal to meet its regulatory reporting obligations. Much of the information that the principal will be required to submit will only be known to the appointed representative (such as revenue from non-regulated activities), so principals will need to ensure that the AR is under an obligation to supply this information, and is subject to sanction if it fails to do so or the information is inaccurate.

The requirement that principals notify the FCA of a proposed AR appointment at least 60 days before the appointment takes effect seems disproportionate, particularly in the case of adviser networks where the information about, for example, the principal’s oversight arrangements is likely to be practically identical in each case and therefore cannot require FCA scrutiny on every occasion.

Changes to the register

A welcome proposal is that the information provided by the principal about the regulated activities to be carried on by the appointed representative will be available on the financial services register. This will remove the anomaly mentioned above that currently neither the FCA nor a client of an appointed representative can readily establish the scope of an appointed representative’s permitted activities.

Responsibilities of principals

The FCA is also proposing further guidance in Chapter 12 of its Supervision Manual spelling out in more detail the steps it expects principals to follow to satisfy themselves of an appointed representative’s fitness and propriety and the competence and capability of individuals working for the AR, both at the outset and on an ongoing basis. It is also proposing more guidance on the circumstances in which a principal should terminate an appointed representative agreement.

There will also be a rule requiring principals to perform an annual review of each AR, covering:

• the fitness and propriety of senior management at the AR
• the AR’s financial position
• the ability of relevant persons at the AR to carry out regulated activities
• the adequacy of the firm’s controls and resources.

Significant changes to the AR’s business, such as a change to its business model, may necessitate a more regular review.

Regulatory hosts

The FCA raises particular concerns about what it terms the ‘regulatory hosting’ model. This is where, rather than carrying on any substantive element of a regulated activity itself, the principal oversees the use of its permissions by appointed representatives. At this stage, the FCA is not consulting on potential rule changes, but inviting views and input on possible policy changes.

The FCA notes that the regulatory hosting model typically differs from that of a network, in that the regulatory host firm’s appointed representatives are generally independent, unconnected businesses, in some cases operating in different markets, and do not necessarily have any relationship with the principal in terms of selling its products or services. The FCA is proposing a definition of “regulatory host”, on which it is seeking views.

One variant of the regulatory hosting model, developed to assist incubator businesses, allows secondment of individuals from an AR to the principal. This enables those seconded individuals to conduct regulated activities for which the principal has permissions but which are not permissible within the scope of section 39 alone, such as discretionary fund management and dealing in investments. It will be interesting to see whether this variant hosting model will survive without significant additional controls.

HM Treasury's Review 

Use of the appointed representatives regime

HM Treasury’s Call for Evidence focuses on the scope of the appointed representatives regime. The UK Government is seeking views on business models which make use of the AR regime, including the benefits these business models bring to providers and consumers of financial services.

As can be seen from the graphic, appointed representatives (including introducer appointed representatives) are a significant feature of the UK’s financial services landscape. The Call for Evidence recognises that there are significant benefits to the current regime, notably that it provides a cost-effective way to lawfully undertake certain regulated activities and facilitates effective competition and access to financial services.

There is no suggestion in the Call for Evidence that the appointed representatives regime will not be allowed to continue, but HM Treasury does suggest that its scope may be too wide (although curiously, the Call for Evidence actually understates the current scope of the regime). It also suggests a limit on the size of an AR’s business in proportion to that of its principal, and proposes the option of a “principal permission” – i.e. firms needing express permission to become a principal in addition to their standard authorisation, rather than such a right being automatic as it is now.

HM Treasury also highlights regulatory hosts as the “business model … perhaps furthest removed from the use of ARs originally envisaged when the AR regime was introduced”. It notes that this model has also been used to provide a regulatory incubator service, which “has been particularly valuable in the Fintech sector, where the UK has become a market leader”. However, the incubator model in particular would be significantly hampered by the FCA’s proposal of a minimum 60 days’ notice before a new appointed representative can start performing regulated activities.

Proposed reforms

The Call for Evidence considers the possibility of:

• restricting the regulated activities that can be performed by an AR
• giving the FCA greater powers to intervene more directly when problem ARs are identified
• extending the Senior Managers and Certification Regime to ARs
• amending section 39 of FSMA so that “a principal is responsible for all of an AR’s regulated activities, even if the appointment is invalid”.

It is far from clear exactly what HM Treasury has in mind in relation to the last of these proposals. In particular, it is unclear whether the proposal is simply that a failure to include the required provisions in an appointed representative agreement should not invalidate that agreement, thereby enabling the Financial Ombudsman Service to investigate complaints involving the activity of ARs in such cases. If so, is that only intended to be operate as regards the jurisdiction of the FOS, or would it also mean that the section 39 exemption was not lost as result of that failure?

HM Treasury goes on to state that it wants to “enable the Financial Ombudsman Service to investigate complaints relating to the regulated activity of an AR and provide redress against the principal, regardless of whether or how the AR’s activity is covered in its agreement with the principal”. It justifies this on the basis that consumers are unlikely to understand the difference between an authorised firm and an appointed representative or to be aware of the importance of a regulated activity being within the scope of the appointed representative agreement. This suggests HM Treasury’s proposal would go much further, and bring within the FOS’s jurisdiction any regulated activities for which the principal was authorised but which were excluded from the scope of the appointment. In effect, the terms of the appointed representative agreement where the principal seeks to limit the scope of its responsibility may become ineffective as against the FOS.

Given that HM Treasury considers that “There may be strong arguments for making this change”, it is unfortunate, to say the least, that the nature of the change it is proposing is so unclear.

Assuming it is this wider amendment to section 39 that HM Treasury has in mind, a number of points can be made about this proposal:

• It does not take into account the FCA’s proposal that the financial services register should show the regulated activities that an appointed representative has authority to carry on – both in the sense that the scope of that authority would then be something that consumers could inform themselves about, and also because if the principal was in fact responsible for a wider range of regulated activities than was shown on the register, that would mean the register was misleading by showing a shorter list of activities against the name of the appointed representative.
• Presumably the liability of the principal in respect of its appointed representatives would still be limited by the permissions of the principal itself – in which case consumers would still be exposed if the appointed representative acted outside that scope.
• It is not clear whether this change is intended to affect only complaints made to the FOS, but any change to section 39 would surely affect the principal’s liability as a matter of law more generally. The FOS has to take account of the law in its decision making, so if as matter of law the principal had no liability for the acts or omissions of its AR, that would significantly curtail the ability of the FOS to find against the principal.
• It is also unclear how this change would work where an AR has more than one principal; currently in such cases the principals are required to enter into a multiple principal agreement which sets out the respective responsibilities of each principal. It is also unclear how it would apply in the context of introducer appointed representatives, whose appointment by definition has a more limited scope.

Any measure which makes it more difficult for a principal to manage the scope of its responsibilities for its appointed representatives has the potential to add significantly to the risk of acting as principal, and is likely to raise concerns on the part of firms’ PI insurers and may raise the cost of cover if contractual risk management provisions can be overridden in this way.

The reasoning behind these proposals is to improve standards, including principals’ supervision of their ARs. Nevertheless, if these proposals are enacted to their fullest extent, the future financial exposure could be stark for principals in circumstances in which most professional indemnity policies understandably will only cover them for the acts and omissions of their appointed representatives in carrying out that principal firm’s permitted business.

Next Steps

Responses to both the FCA’s Consultation Paper and HM Treasury’s Call for Evidence are due by 3 March 2022. There is bound to be considerable interest in both sets of proposals and firms and appointed representatives (and their brokers and insurers) should make their views known.

If you would like to discuss any of the issues covered in this note, or any other aspects of the appointed representatives regime, we would be delighted to hear from you. Our financial services team includes both advisory and litigation experts, and we regularly work with adviser networks and other firms on their arrangements with appointed representatives and in claims involving ARs.