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Dear CEO: The Principles of being the Principal

[fa icon="calendar"] 28-Jun-2019 10:34:56 / by James Borley

James Borley

guidance-1

In May of this year, the FCA released a ‘Dear CEO’ letter that addressed the failings of principal firms within the investment management sector. The FCA found that investment management firms (“principals”) failed to appropriately control and oversee their Appointed Representatives (ARs). There is an interesting takeaway from this letter for the payment services market regarding the relationship between The Principles for Businesses and agents.

The Principles for Businesses

The Principles for Businesses (“the Principles”) are being applied to payment and e-money institutions from 1 August 2019. This will give the FCA a wider scope by which to apply regulatory action against these institutions; more information on the Principles can be found in my previous blog ‘New Communication Rules for Payment and E-money Institutions’.  The Principles were called out specifically in the Dear CEO letter and there is a natural read across from this letter to payment and e-money institutions. due to the similarities between ARs and agents.

ARs and Agents

The definitions of ARs and agents are very similar; both fulfil the specific function of carrying on regulated business activities on behalf of the principal firm. These ARs and agents do not need to be authorised in their own right. Indeed, ARs are exempt from authorisation under the Financial Services and Markets Act (FSMA). Rather, both ARs and agents ‘piggy-back’ off the licence of their principal. The FCA controls this by making the principal completely liable for any regulatory business undertaken on its behalf, and any incident that occurs within the environment of the agent.

Unfortunately, there is very little guidance provided by the FCA for principals of agents, and this can leave the principal in the dark over what controls it ought to apply. The implementation of The Principles for Businesses and the FCA’s application of them to ARs (in this letter) form useful guidance of how the payments sector should be overseeing its agents.

Principles-based agents  

Not dissimilar to how the FCA regulates the financial services market through ‘principles-based’ regulation, the principal should be regulating their agent through these Principles for Businesses as well – only perhaps a bit more hands on. Many of the Principles for Businesses were called out in the Dear CEO letter as clear failings by the principal, and these can form a focus for payment/e-money principals to evaluate their own controls.

The principal should oversee their agent’s compliance with the relevant guidance in the FCA’s Approach Document, and all the Principles, however there are some principles that have been specifically highlighted by the FCA in the Dear CEO letter.

  • Principle 2 – skill, care and diligence. The FCA identified that ARs (agents) were conducting activities outside of their principal’s core area of expertise and, more importantly, from the principal’s permission. So, for example, an agent cannot provide the payment service of money remittance if its principal does not itself have authorisation to provide that service. Similarly, under the Electronic Money Regulations, an agent is – technically – able only to act as such in relation to the principal’s payment services. With regards the issuance of e-money, an agent (or ‘distributor’) is able only to distribute or redeem the e-money issued by its principal.
  • Principle 3 – management and control. Key to the FCA’s findings is the extent to which oversight of an AR/agent’s activity is visible, effectively monitored and the attendant risks identified and mitigated.
  • Principle 8 – conflicts of interest. The FCA identified that conflicts of interest, that are inherent in this model, are not accurately identified, logged or managed by the principal. Whilst FSMA firms may be familiar with this requirement (under SYSC 10.1) this will be new for payments firms, and will include matters such as inducements, or whether the agent is likely to make a financial gain at the expense of a client.

This means that, come 1 August, principal payment/e-money firms should expect to apply the Principles for Businesses not only to their own business, but in the management and oversight of their agents. This Dear CEO letter holds useful guidance to and reference points for the type of things that the FCA will be looking for and will give an insight into what controls a principal should have in place in order to demonstrate sufficient oversight of their agent.

A glimpse into the regulator’s thinking

You heard it here first, you do not need to only focus on the official guidance released by the FCA within a specific sector. There are many parallels you can draw from other sectors to your own and if clear lines can be drawn then it is only in your benefit to draw them.

More specifically, in regard to this Dear CEO letter, both with the read-across from ARs to agents and the imminent application of the Principles for Businesses to payment and e-money institutions, there are clear messages to take away from this communique. A breach of the Principles is taken seriously by the FCA, for anyone who has brushed them off as being ‘fluffy’, and oversight of agents is key to a successful compliance environment. The application of the substance within this Dear CEO letter by payment and e-money institutions will help the oversight and management of their agents and future compliance with the Principles. Indeed, it may even be that a Dear CEO letter targeted at the payments sector will soon be forthcoming. If so, you heard it here first!

If you would like advice in relation to the appointment, management and oversight of your agents, please do get in touch.

Book a free consultation today

 

Topics: Regulatory compliance, Trading and Broking sector, Regulatory compliance advisory, Payments sector

James Borley

Written by James Borley

Director at fscom

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