Financial Services

International Funds Legal Update | 19 January 2024

Published on 19th Jan 2024

Economic crime and transparency action, short-selling thresholds, prudential rules implementation,  SDRs, and more

People in a meeting, hands holding pens and going over a graph on a screen

In the run up to the new year, long-standing thresholds were amended, the Financial Conduct Authority (FCA) articulated what it expects from investment firms under its new prudential regime, and significant regulatory changes for green funds could be seen on the horizon both in the United Kingdom and European Union.

Remember ECCTA requires positive action

As a new year reminder, while there is no clear timetable yet, the applicable sections of the Economic Crime and Corporate Transparency Act (ECCTA) are expected to come into force in the UK during 2024. This is part of the government's anti-money laundering and counter-terrorist financing agenda.

ECCTA will require positive actions from all corporate entities, including English and Scottish limited partnerships, whether newly registered or existing. As a high-level overview, each limited partnership's applicable general partners (GP) must provide Companies House with:

  • Details relating to each of the fund's limited partners, including where these are people.
  • Details of the fund's general partner, including of the GP's registered officer, who must be an individual and a managing officer of the GP. The registered officer's identity must be verified in accordance with ECCTA. Details are also required of any GP's managing officers that are legal entities, with information about individuals who are managing officers of each legal entity.
  • Contact information for the partnership, including a monitored email address.
  • Annual updates of submitted information or a confirmatory statement to Companies House that the information provided is still correct.
  • Notification within 14 days of dissolution.

This may require collecting additional information; for example, from current limited partners or appropriately appointing an individual as a registered officer, where there is none.

Failure to provide these details may mean that Companies House treats the partnership as dissolved – and starts the process for it to be dissolved and deregistered. Consequently, the requirements are crucial to remember.

HMRC will have the power to require the GP to prepare accounts of the partnership and disclose them to HMRC together with an auditor's report.

In addition, non-compliance with ECCTA can constitute a criminal offence and thereby subject the GP and its managing officer to fines or, in respect of making false statements or a failure to disclose accounts to HMRC, a term of imprisonment of up to two years.

No action is currently required; however, early preparation for these changes in light of the potentially serious consequences of non-compliance.

New statements for HNWI and self-certified sophisticated investors

The Financial Services and Markets Act 2000 (Financial Promotion) (Amendment) (No 2) Order 2023 (SI 2023/1411) comes into force on 31 January 2023. This requires firms to use new statements for potential investors, where applicable.

The order amends the exemptions from the restriction on communicating financial promotions to high net worth individuals (HNWI) and self-certified sophisticated investors set out in the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005. It makes the same changes to the equivalent exemptions in the Financial Services and Markets Act 2000 (Promotion of Collective Investment Schemes) (Exemptions) Order 2001.

The financial thresholds under the HNWI exemption have been increased, requiring an income of at least £170,000 in the last financial year, or net assets of at least £430,000 throughout the last financial year.

The increases are significant as the thresholds were last updated in 2005, incorporating almost two decades of inflation in one go.

The 2023 order also:

  • Amends the eligibility criteria for the self-certified sophisticated investor exemption.
  • Requires businesses to provide contact information in any communications made using the article 48 and 50A exemptions.
  • Updates the content and format of the HNWI and self-certified sophisticated investor statements as set out in schedules 1 to 4.

HM Treasury increases the initial short-selling threshold

The FCA has updated its webpage as HM Treasury has raised the initial notification threshold for the reporting of net short positions from 0.1% to 0.2% of total issued share capital. The requirement to report increments of 0.1% of issued share capital above this threshold remains the same.

Firms should now make the necessary changes to their systems and internal processes to allow them to submit notifications at the higher threshold via the FCA's Electronic Submission System, as the thresholds apply from the 5 February 2024.

The legislative basis for this is the Short Selling (Notification Threshold) Regulations 2023.

FCA statement on forbearance measures for communications relating to PRIIPs and UCITS

The FCA has published a statement in response to concerns about costs and charges disclosure in the PRIIPs (packaged retail and insurance-based investment products) key information document, the UCITS (undertakings for the collective investment in transferable securities) key investor information document and Markets in Financial Instruments Directive II requirements.

The statement sets out the regulator's interim measure in the context of listed closed-ended funds, before broader reform is possible through legislative change. It aims to give greater flexibility for costs to be explained, including putting aggregate costs in context, to improve investment companies' ability to explain their costs and charges to consumers.

The UK financial regulator draws conclusions on firms' IFPR implementation

The FCA has issued its observations following a multi-firm review of progress in implementing the internal capital adequacy and risk assessment (ICARA) process and reporting requirements under the Investment Firms Prudential Regime (IFPR).

Most reviewed firms have engaged well, according to the regulator, and were able to make the transition to the new ICARA requirements from 1 January 2022. The FCA has seen a deliberate shift in firms towards considering and seeking to mitigate the harm they can pose, particularly to consumers and markets.

Areas of improvement

The FCA has, however, identified areas for improvement. Several firms applied insufficient consideration of cashflows and liquidity stresses, which led to an inadequate assessment of liquid asset requirements. These firms were at risk of running out of cash in stressed conditions, which could have resulted in firm failure.

For most firms, internal intervention points were not structured in a way that would ensure that actions would be triggered in a timely fashion to mitigate harm, particularly from firm failure. Wind-down assessments applied inadequate consideration of the impact of membership in a group. Individual firms within groups may not have adequately planned for potential failure.

In some firms, there were significant failings in the application of capital models for operational risk. This gives little assurance that these firms have adequate resources to mitigate harm.

The observations also include a summary of good and poor practices, which can be a useful benchmark to gauge the extent to which an investment firm is meeting the FCA's expectations.

'Act now'

The FCA has also set forth its expectations in the IFPR newsletter. It's asking firms to "act now to consider our findings and assure themselves that they are meeting our rules".

In summary, the main points are:

  • Investment firm groups. Some firms may not have included all relevant financial undertakings within the scope of their investment firm group and some controllers of MiFID investment firms, or MIFIDPRU, have attempted to avoid the existence of an investment firm group or to reduce the scope of application of prudential consolidation to their group. The FCA notes that under FSMA, where two or more FCA investment firms are subsidiary undertakings of the same parent undertaking, it may impose a requirement on them to ensure the establishment of a parent undertaking with a UK head office.
  • Issuing capital instruments. The FCA sets out issues that firms should consider in respect of issuances of common equity tier 1 (CET1) capital instruments, particularly where they have made use of the transitional provision. The FCA also reminds firms that are reliant upon other reserves, such as capital contribution reserves, to qualify as CET1 concerning the conditions that apply for these reserves to be recognised.
  • Deductions from own funds. The FCA expects firms to take an appropriate and prudent approach in respect of assets that could be characterised as deductibles under accounting standards, such as "intangible assets", but that may also be characterised in other ways.
  • Matched principal restrictions. Some firms with the matched principal broker (MPB) restriction have potentially acted outside their permissions due to a failure to comply with the criteria for what constitutes an MPB. The FCA reminds firms that all the conditions must be met to be compliant with the MPB restriction and that firms with this limitation may wish to conduct a holistic assessment to determine if their business model or activities meet the conditions.

FCA issues sustainability policy statement for funds

The FCA published its highly anticipated policy statement on sustainability disclosure requirements (SDR) and investment labels together with a guidance consultation relating to its new anti-greenwashing rule. These rules will be phased in from 31 May 2024, mainly impacting UK asset managers.

What will the FCA's new SDR and investment label regime look like and what steps should firms consider taking at this stage? For more information about what the FCA's new SDR and investment label regime please see the Insight above.

ESMA updates its plans for green funds

The European Securities and Markets Authority (ESMA) has also been addressing greenwashing and published a statement updating its plans for the adoption of guidelines on funds' names using environmental, social and governance (ESG) or sustainability-related terms. Despite this being guidelines, it contains substantial requirements that fund managers need to be aware of.

The regulator launched a consultation on draft guidelines in November 2022. The guidelines specify criteria to assess whether the name of a fund containing terms, acronyms or abbreviations suggesting that the fund focuses on investments that have – or whose issuers that have – ESG or sustainability features are fair, clear and not misleading.

Adoption postponement

ESMA intends to postpone the adoption of the guidelines to allow for full consideration of the outcome of the reviews of the Alternative Investment Fund Managers Directive (AIFMD) and UCITS Directive. However, fund managers should consider what implications this has for them now.

The guidelines are likely to apply from the third quarter 2024. This is because, they will be adopted and published shortly after the date of entry into force of the AIFMD and UCITS Directive. They apply three months after the date of their publication. Managers of new funds must comply from the date that the guidelines apply. Managers of funds existing before the date of application must comply with the guidelines in respect of those funds six months after the application date.

Guideline amendments

While the scope of the guidelines has remained unchanged, ESMA has made some amendments. It will not keep the proposed threshold for suitable investments and instead outlines how it expects that sustainability-related terms in funds names be used. It will also amend the guidelines to overcome limitations presented by the fossil fuel Paris-aligned Benchmark exclusions contained in the consultation paper, which ESMA recognises could unnecessarily penalise some funds using terms in their name that are not environmental or that focus on transition strategies.

ESMA has published draft RTS for European long-term investment funds

ESMA has published its final report on draft regulatory technical standards (RTS) under the European Long-Term Investment Fund (ELTIF) Regulation.

The draft specifies the way new requirements contained in the revised ELTIF Regulation apply, including:

  • Criteria for establishing the circumstances in which the use of financial derivative instruments solely serves hedging purpose.
  • The circumstances in which the life of an ELTIF is considered compatible with the life-cycles of each of the individual assets, as well as different features of the redemption policy of the ELTIF.
  • The circumstances for using the matching mechanism.
  • Criteria to use for the itemised schedule for the orderly disposals of ELTIF assets.
  • Costs disclosure.

The RTS have been submitted to the European Commission for adoption and is due to enter into force on the day following its publication in the Official Journal of the European Union.

The European Commission takes a step towards reforming cross-border notifications

The European Commission has adopted a legislative package to facilitate cross-border notifications under the UCITS Directive and the AIFMD.

The package consists of delegated regulation that supplements the AIFMD with regard to RTS, specifying the information to be notified in relation to the cross-border activities of managers of alternative investment funds. The delegated regulation sets out the information that should be communicated by managers to competent authorities.

It also has delegated regulation supplementing the UCITS Directive with regard to RTS, specifying the information to be notified in relation to the cross-border activities of management companies and UCITS funds. The delegated regulation sets out the information that should be communicated by managers to competent authorities.

Implementing technical standards (ITS) are also laid down for the application of the AIFMD with regard to the form and content of the information to be notified on the cross-border activities of alternative investment fund managers and the exchange of information between competent authorities on cross-border notification letters. Template notifications are set out in annexes I, II, III, IV and V to the implementing regulation.

The Council of the European Union and the European Parliament will now scrutinise the draft legislation. If neither object, they will enter into force 20 days after publication in the Official Journal of the European Union and apply 30 days later.

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* 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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