Regulatory and compliance

Financial services firms beware! When execution-only does not mean execution-only

Published on 26th Jul 2021

Court of Appeal confirms due diligence duties for authorised SIPP providers


The Court of Appeal has handed down a far-reaching decision, in which it has prioritised the protection of the consumer over holding parties to the express contractual terms of their relationship, in examining arrangements between regulated self-invested personal pension (SIPP) providers and unregulated third parties.

The judgment has implications for the SIPP industry, as FCA-authorised SIPP providers dealing with retail clients may be held responsible for the actions of unregulated third party introducers and for the poor investment choices of consumers. This represents a continuation of the trend in FCA interventions to expand the responsibilities of SIPP providers towards the end consumer, even where operating execution-only or "non-advised" arrangements. Permission has been sought to appeal the decision.

Background to case

The case in the High Court was brought by an individual, Mr Adams, who had been introduced by an unregulated Spanish broker to a SIPP provider and administrator regulated by the FCA. The SIPP provider then set up a SIPP wrapper for the claimant to invest in "storepods" (long leases of units in a storage facility). As part of the arrangement, the claimant transferred out of his existing personal pension plan to invest in the SIPP. The investment subsequently resulted in significant losses. The contractual arrangement between the claimant and the SIPP provider was strictly on a non-advised execution only basis and contained clear and unambiguous warnings that the claimant should obtain independent investment advice from a suitable qualified adviser.

The claimant brought a claim against the SIPP provider under section 27 of the Financial Services and Markets Act 2000 (FSMA), using a novel argument. The main strand of the argument was that the agreement came about as a result of an unregulated introducer carrying out a regulated activity in breach of the general prohibition. The claimant argued that the broker's actions in introducing him to the provider amounted to "arranging deals in investments" and "advising on investments", both of which were regulated activities. He argued that the court should declare that the agreement was unenforceable, and that he should be entitled compensation for his losses. After the High Court dismissed the claim, the Court of Appeal heard his appeal and upheld his central arguments. The FCA intervened in the case.

Ultimate aim of FSMA is consumer protection

The Court of Appeal agreed that by filling in the application form to the provider for Mr Adams to sign, informing him of the anti-money laundering documents required, procuring a letter of authority and couriering the documents to the provider, the broker had undertaken the regulated activity of "arranging deals in investments". The court held that it did not matter that these actions did not necessarily result in a transaction between the individual and the SIPP provider; the steps taken had enough "causal potency" to the relevant transaction to fall within the scope of the prohibition.

The court also agreed that the broker's actions involved the regulated activity of "advising on investments". This was despite the fact that the underlying investment was not a regulated investment. The Court of Appeal got around this difficulty by finding that, in advising Mr Adams to invest in storepods, the broker was also advising him to transfer out of his existing policy and put the money into the SIPP, both of which were regulated products. The Court of Appeal held that encouraging an investor to a particular SIPP or SIPP provider can amount to advising on the merits of a particular investment.

The Court of Appeal concluded that, as the introducer's actions in arranging the investment, and of encouraging Mr Adams to invest in a particular SIPP (and transfer out of his existing arrangement), were regulated activities, the agreement with the SIPP provider came about as a result of the broker carrying out these regulated activities without authorisation in breach of section 27 FSMA. Mr Adams' contract with the SIPP provider was unenforceable and he was entitled to compensation for his losses on his storepods investment.

While section 28 FSMA gave the court discretion to allow the enforcement of the agreement where just and equitable, it chose not to do so. In doing so, the court accepted that the SIPP provider did not have actual knowledge of the broker's breach of the general prohibition. However, it reasoned that the ultimate aim of FSMA is to protect the consumer, even where this is from "their own folly" and that the purpose of section 27 was to transfer the risks associated with using introducing unregulated third parties from the consumer, onto regulated entities to whom the consumer is directed.

FCA expanding scope of consumer protection duties

This judgment follows a series of high-profile interventions by the FCA in cases going through the courts to further expand the scope of consumer protection duties on authorised persons, particularly SIPP providers, under FSMA.

The ruling in Berkeley Burke SIPP Administration Ltd v Financial Ombudsman Service Limited, handed down in October 2018, involved another consumer who was introduced to a SIPP provider by an unregulated third party. It was held in that case that Berkeley Burke should have conducted further due diligence on the underlying investment, which turned out to be fraudulent, despite the execution-only status of the SIPP transfer concerned. In particular, Berkeley Burke could not rely on disclaimers from the investor to distance itself from the consequences of the underlying investment, with the court holding that it should have considered its appropriateness for a pension scheme. The implications of that decision resulted in the financial collapse of Berkeley Burke.

The FCA has also been using regulatory enforcement action to transfer the responsibility for failed investments held in SIPPs onto the regulated entity, even in a non-advised context. LJ Financial Planning (LJFP), a regulated independent financial adviser, was fined more than £100,000 and had to pay redress of over £2.6 million for providing advice to retail customers on the suitability of a SIPP wrapper for pension investments, on terms that LJFP would not provide advice in relation to the underlying investments, which the consumer chose. Despite these terms, the FCA's Final Notice held that LJFP "was required to assess whether both the SIPP wrapper itself and the underlying investments proposed to be held within the SIPP matched the customer’s attitude to risk and capacity for loss as well as his knowledge and experience".

Osborne Clarke comment

SIPP providers will be closely watching the outcome of an application to appeal the Court of Appeal judgment in Adams, by STM Group plc, the parent company of the SIPP provider.

Pending that decision, providers should take note of the courts' prioritisation of consumer protection when servicing retail clients through unregulated third parties. In particular, it would appear that the duties of authorised persons to consumers are broader than they might seem in execution-only arrangements, extending both to due diligence into the underlying investment itself and due diligence into any third party introducer, and with it the responsibility for oversight of the consumer's choice in investment.

This string of FCA interventions in arrangements with retail clients on "non-advised" terms, where the responsibility for the customer's investment choices would otherwise lie with those customers, shows the FCA's willingness to reach beyond the contractual terms between regulated entity, unregulated introducer and customer to impose overarching duties of care on the former. This willingness will only increase if the FCA's plan to impose a new overarching "Consumer Duty" on firms dealing with or involved in the manufacture or supply of products and services to retail clients (see CP21/13) comes to fruition.

SIPP providers currently relying on contractual terms which shift the responsibility for investment choices onto the customer without carrying out checks themselves, should carefully consider the efficacy of these frameworks following this judgment.

It is likely that the expectation for SIPP providers using "execution-only" introducer models of business to carry out checks, or pay the price for the poor investment choices of the unsophisticated consumer, will increase operating costs, which inevitably will be passed onto their customers. As the commercial basis for these models was their minimal oversight and therefore minor operating costs, the financial impact for the industry is likely to be great.

SIPPs have been a particular focus of the FCA's attention for years, particularly due to the expansion of the industry since the introduction of pension freedoms. However, the principles referred to by the court in Adams apply beyond SIPP providers to other execution-only models relying on unregulated introducers or intermediaries, such as stockbrokers and non-discretionary investment managers. These businesses may be concerned to see how poor decisions by customers are treated across these industries following this judgment.

This insight was co-authored by Owen Baldwin, a Trainee Solicitor in Commercial Disputes at Osborne Clarke.


* This article is current as of the date of its publication and does not necessarily reflect the present state of the law or relevant regulation.

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