The FCA’s Statement

The FCA’s statement on peer-to-peer applications for full authorisation (published on 31/3/16) sets down a number of markers for the peer-to-peer lending (P2P) industry. While saying that the FCA is keen to promote effective competition in this market and is taking a proportionate approach to regulation, recognising the need for consumers to be adequately protected and have the information they need, the statement emphasises that it is important that applications from firms wishing to be fully authorised are properly considered by the FCA and reminds applicants that the FCA have up to 12 months to reach a final decision.

In that regard the statement contains the sobering statistic that while 8 P2P firms have been fully authorised there are a further are 86 firms awaiting a decision, of which 44 have interim permissions. 

Firms with interim permissions. 

The problem for Firms with interim permissions is that they already have an existing business and are only able to continue carrying out P2P until such time as the FCA decides whether or not to fully authorise them. As the recent upper tribunal decision in Firm A [2016] UKUT 0018 (TCC) illustrates, a firm with interim permissions (in that case a debt management firm) which receives a decision notice from the FCA telling it that its application for authorisation has been rejected has its interim permission to carry out the regulated activity terminated on that rejection date under article 58 of the Financial Services and Markets Act 2000 (Regulated Activities) Amendment (No.2 ) Order 2014.This means it must cease carrying out regulated business with immediate effect from receiving the notice.

Those continuing to operate on an interim permission P2P pending full FCA authorisation are also at a disadvantage as only P2P loans on platforms operated by firms with full FCA authorisation are eligible investments for the Innovative Finance ISA which became available from the start of the 2016-2017 tax year.

Some challenges

P2P lending as a regulated activity - that is operating an electronic system in relation to lending under article 36H of the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 (article 36H RAO) - presents a number of concepts which are perhaps relatively novel to FCA regulation, so there will be challenges in reaching a common understanding especially in relation to Fintech companies.

For example there has been some debate as to whether some P2P lending platforms are collective investment schemes (CIS) under 238 of the Financial Services and Markets Act 2000 (FSMA) - that is an arrangement that enables a number of investors to pool their assets which are managed as a whole by or on behalf of the operator of the scheme, with a view to participants sharing profit or income under section 238.

P2P lending platforms do contain elements which appear similar to a CIS. However where they operate on a syndicated loan footing which is often but not invariably the case there are a number of key essential legal characteristics which may differentiate P2P lending platforms from a CIS. So under a syndicated loan structure a distinct and separate loan contact arises between the borrower and each lender rather than loans being pooled as such. Following  the decision of the Court of Appeal in  Financial Conduct Authority v Capital Alternatives Ltd and others [2015] EWCA Civ 284 (25 March 2015) a properly crafted structure might not appear give rise give to a pooling of income or profits for the purposes of a CIS.

However the Capital Alternatives case also considered the other aspect of a CIS as to whether the property was managed as a whole and in this regard it is true to say that under a syndicated loan structure a contact does also arises between the lenders and the operator (agent), and the borrower and the lenders. So for example, typically a specified “majority” of the lenders must agree before any action is taken against the borrower (known as “syndicate democracy”) and the lenders must act through the agent or another person appointed by the agent. Similarly funds passing between each lender and the borrower pass through the operator (agent) or another person appointed by the operator (agent) and necessarily any security granted by the borrower is held on trust for all the lenders by the operator (agent) or another person appointed by them to act as security trustee. It may be that if properly structured such provisions relate to the exercise of purely administrative functions rather than the requisite pooling and management contemplated by FSMA in relation to a CIS although every structure needs to carefully considered and analysed to reach any firm conclusions.

Article 36H RAO also requires, where A is the operator (agent) and B is the borrower and C is the lender(s), that: “the electronic system operated by A must be capable of determining which agreements should be made available to each of B and C whether in accordance with general instructions provided to A by B or C or otherwise.”

This raises the question as to whether (for the purposes of Article 36H RAO) loan agreements must be made available to borrowers through the P2P lending platform in the sense the borrower always actively agrees to the loan with the lenders (through the P2P lending platform) or whether existing loans on pre-agreed commercial terms can be brought into the P2P lending platform and syndicated to multiple lenders?

From the point of view of the lenders the latter scenario reduces risk because lenders have the benefit of a loan with performance history and it seems to achieve a better outcome for lenders in a way that the introduction of the regulated activity Article 36H RAO was designed to achieve, but Article 36H RAO is perhaps capable of being interpreted to preclude this? 

Conclusion 

While the FCA’s Statement on peer-to-peer applications for full authorisation is helpful in some ways the position for applicants especially those with existing businesses operating on interim permissions remains challenging. In particular Article 36H RAO presents a number of concepts which are perhaps relatively novel to FCA regulation, so there will be challenges in reaching a common understanding especially in relation to Fintech companies.

First published on Thomson Reuters Regulatory Intelligence on 6 May 2016