As noted in our last communique of 20 October, the FCA has recently published no fewer than 8 Consultation Papers, Discussion Papers and Feedback Statements in less than a week relating to the new SMCR.

Due to volume of material produced, our first communique dealt only with:

• the FCA’s general supervisory review of the SMCR which has led to the publication of various Feedback Statements for banks and credit unions; and
• two further publications regarding the future scope of the regime: Discussion Paper 16/4 on overall responsibility and the legal function; and Consultation Paper 16/27 on the application of the conduct rules to all non-executive directors in the banking and insurance sectors

In this bulletin, we summarise the recently published Final Rules on regulatory references and Consultation Paper 16/26 regarding the duty of responsibility.

Policy Statement 16/22 on strengthening accountability in banking and insurance: regulatory references final rules

In PS 16/22, the FCA states that it considers regulatory references to be “a key tool in allowing firms to share relevant information on individuals to support their assessment of potential new recruits as fit and proper”. PS 16/22 provides for new regulatory reference rules to come into force on 7 March 2017, to coincide with the implementation of the full Certification Regime and the application of the Conduct Rules. Banks and insurers will have to comply with the new rules for all candidates being recruited to Senior Management Functions, Senior Insurance Management Functions, FCA Controlled Functions or Significant Harm Functions from that date onwards.

Key aspects of the new regulatory reference rules are as follows:

The obligation to request references

Banks and insurers will be obliged to seek references from all previous employers in the last six years, irrespective of the firm type or their regulated status. "Reasonable steps" must be taken to obtain such a reference - but the FCA has declined to prescribe what this phrase means in this context “as it is likely to vary, making any definition impractical to apply”. Instead, the FCA says it is the responsibility of each firm to judge what constitutes “reasonable steps” in any given case – and, where appropriate, discuss it with the FCA as part of the authorisations process.

Banks and insurers are to request references when recruiting any individual to perform a pre-approved role or a Significant Harm Function – even if that person is, for example, a contract worker carrying out duties for a firm but not permanently employed by it.

Firms within a group need not request references from each other where the group has a centralised system of sharing relevant information as part of the fit and proper assessment of candidates for intra-group moves. 

Ideally, references should be obtained before an application for approval is submitted – but the FCA recognise that there will inevitably be circumstances where this may not be possible and so their final rules allow references to be obtained no later than one month before the end of the application process.

The obligation to provide references in mandatory disclosures

References should disclose breaches of individual conduct requirements only where disciplinary action has been taken.  Disciplinary action for these purposes is: issuing a formal written warning; suspension or dismissal of the person (but not where the suspension was imposed pending an internal investigation); and/or reduction or recovery of any of the person’s remuneration.  References should provide a factual description of the breach, including the date(s) when it occurred and its outcome.

The obligation to update a reference

Firms only need to update an individual’s current employer where that employer is a FSMA firm. The updating firm should inquire whether the firms to which it has provided a reference in the past six years currently employ the individual concerned in any capacity before updating.

The updating requirement applies to any notice period served between providing a reference and the individual leaving a firm; and, for ex-employers, six years from the date the individual ceased employment with the firm.

The test for whether an update to a previously provided reference is required is whether the new information arising would have caused the providing firm to have written the original reference differently had the information been known at the time, and the difference is of significance to the assessment of the fitness and propriety of the individual.

Systems and controls

The FCA also consulted on a number of proposals designed to improve the systems and controls supporting the referencing process, and have made some modifications to firms’ record keeping requirements to ensure proportionality as a result. For example, the new rules limit the record keeping requirements for banks and insurers to six years' retention of disciplinary and fitness and propriety findings. A rule has also been added to say that a firm is not in breach of the regulatory reference requirements if the reference does not include something for which the firm is not required to keep records.

Changes to the regulatory reference rules which apply to all firms

The FCA also consulted on maintaining the existing requirement for firms to provide all information relevant to an individual’s fitness and propriety on receipt of a request for a reference in relation to a candidate for a pre-approved role.

The FCA has amended that obligation to provide a reference on receipt of a request so that it includes candidates for pre-approved, certified and certain PRA specified rules.

The FCA’s final rules limit the requirement to disclose "all relevant information” to the same time limit as required for mandatory disclosures – i.e. six years from the date of the reference request. Again, the FCA will not provide guidance on what “all relevant information” means, but says that firms will need to apply their own judgment in the circumstances of each case. Serious matters must always be disclosed, even if they took place more than six years ago.

Next steps

Firms will need to ensure that they are ready to implement the new regulatory reference rules on 7 March 2017, and once the SMCR is extended to all other regulated firms in 2018, the FCA will consider whether to extend the full regulatory reference rules more widely.

FCA consults on its approach to enforcing the duty of responsibility

The duty of responsibility applies to Senior Managers and Relevant Authorised Persons. Pursuant to that duty, the FCA is able to take action against a Senior Manager where:

1. there has been contravention of a relevant requirement by the Senior Manager’s firm
2. at the time of the contravention, the Senior Manager was responsible for the management of any of the firm’s activities in relation to which the contravention occurred; and
3. the Senior Manager did not take such steps as a person in their position could reasonably be expected to take to avoid the contravention occurring

In CP 16/26, the FCA are consulting on guidance which sets out the circumstances in which they will apply the duty of responsibility and considerations that they will take into account (i) when determining whether a Senior Manager was responsible for the management of a firm’s activities in relation to which a contravention occurred and (ii) whether a Senior Manager took such steps as a person in their position could reasonably be expected to take.

CP 16/26 proposes that when determining whether a Senior Manager was responsible for managing the firm’s activities in relation to which contravention occurred, the FCA will consider (amongst other things) the Senior Manager’s Statement of Responsibilities, the firm’s Management Responsibilities Map, and how the firm operated in practice, amongst other things.

Such steps as a person in the position of the Senior Manager could reasonably be expected to take to avoid the firm’s contravention of the relevant requirement occurring are such steps as a competent Senior Manager would have taken at that time, in that specific individual’s position, with that individual’s role and responsibilities, and in all the circumstances.

When determining whether or not a Senior Manager has taken those steps, additional considerations to which the FCA propose they should have regard include, amongst other things, whether the Senior Manager exercised reasonable care when considering the information available to them; whether the Senior Manager reached a reasonable conclusion on which to act; the nature, scale and complexity of the firm’s business; whether the Senior Manager acted in accordance with their statutory, common law and other legal obligations, including those set out in COCON and the Companies Act; and whether the Senior Manager took reasonable steps to ensure that any delegation of their responsibilities, where this was itself reasonable, was to an appropriate person with the necessary capacity, competence, knowledge, seniority and skill.

The FCA has asked for comments on its consultation paper by 9 January 2017 and intends to publish a Policy Statement early next year. The PRA has also issued guidance on its approach to the duty of responsibility and has worked with the FCA to ensure that the guidance of the two regulators is aligned: see PRA Consultation Paper CP34/16.

Comment

The detail and volume of material published by the regulators in recent days demonstrates the significance of the SMCR reforms generally and the resource being devoted to them. Both of the papers discussed in this communique underline the emphasis on individual accountability inherent in the new regime - and the determination on the part of the regulators to make sure that individuals working in the financial services industry are made to answer for their actions.