Why adviser firms should be concerned

Financial Adviser firms are likely to face increased need for legal advice over the next two years. The FCA issued a “Dear CEO Letter” on 21 January 2020 to financial adviser firms. The concerns raised by the FCA raise the potential for more litigation by clients. It could also lead to greater demand for legal advice where the FCA takes action against firms and their senior managers.

The “Dear CEO Letter” of 21 January 2020 to financial adviser firms stated FCA’s concerns:
“We have identified four key ways in which consumers of financial advice may be harmed:
• receiving unsuitable advice for their needs and objectives
• falling victim to pension and investment scams
• not receiving redress as a result of the non-payment of FOS awards and/or failing firms being unable to compensate consumers
• paying excessive fees or charges for products and services
There will be increased focus on these areas as part of our wider supervision of firms over the next two years.”

The letter then indicated seven key areas that Financial Adviser firms should address.

Financial Advice and Transactions
Firms must ensure that advice provided to consumers and transactions carried out are suitable for the consumer, that there is full and timely disclosure of charges and fees and that firms properly manage or avoid potential conflicts of interest.

Defined Benefit Pension Scheme Transfer Advice
Not all firms provide advice on transfers or opt-outs from defined benefit (final salary) pension schemes. However, those firms that do must ensure they follow the FCA standards. The FCA has reiterated that its view is that firms should assume at the outset that a pension transfer from a defined benefit pension scheme is not suitable for a consumer.

Pension and Investment Scams
Firms must ensure they are not caught up in pension or investment scams by better oversight of their processes, systems and oversight of their staff and representatives.

Financial Resources and Professional Indemnity Insurance (PII)
Firms must ensure they are aware of their capital and liquidity needs and have put adequate financial resources in place (this is not just the minimum capital adequacy requirement). To do this properly requires a firm to have carried out a risk assessment. Firms must also be aware of the need to add further financial resources if they are unable to secure the prescribed levels of PII.

Ban on Promotion of Speculative Mini-Bonds
The FCA referred to its ban on the promotion of speculative mini-bonds and stated that firms must review their processes and procedures for the approval and monitoring of financial promotions of these investments.

Senior Managers and Certification Regime (SM&CR)
The SM&CR came into force on 9 December 2019 and affects all firms regulated by the FCA. It applies to the executive directors, senior managers and employees in key customer facing or operational roles within financial services firms. All financial services firms ensure the SM&CR is implemented fully and properly.

The UK left the European Union (EU) at 23:00 on 31 January 2020. There is an implementation (transition) period that will run from 1 February 2020 until 31 December 2020, during which most of the day to day regulatory, employment and other commercial rules, regulations and laws will remain unchanged. However, from 1 January 2021, depending upon whether the UK is able to reach one or more trade agreements with the EU, it is possible that the regulatory, employment and commercial landscape may change. The FCA has indicated that it expects firms to carry out a risk assessment to assess the impact of Brexit upon the firm, its staff, its clients, its suppliers and its commercial relationships and facilities. Depending upon the outcome of the Brexit risk assessment, the FCA expects firms to plan how they will carry on their business and remain compliant in a post-Brexit world.

The FCA has indicated it expects firms to ensure they act upon the contents of the “Dear CEO Letter”. Firms are likely to need robust Governance, Risk and Compliance (GRC) processes and procedures in order to handle these requirements adequately. The FCA will expect to see evidence within the firm of:
• board level engagement;
• thorough risk assessment;
• adequate risk management;
• upgrading of firms’ processes, procedures and standards where needed; and
• compliance monitoring to ensure the required processes, procedures and standards are followed.
These responsibilities are set out in the FCA Senior Management Systems and Controls rules, within the Conduct of Business rules and within the financial resources rules.

The past history within the financial services sector (including financial adviser firms) is one of a number of financial scandals, indicating failure in management control or relatively poor management practices. Whilst it may be argued that there has been some improvement, the issues raised in their “Dear CEO Letter” indicate the FCA still has some significant concerns.

If firms fail to address the issues raised adequately, then we can expect the FCA to take action against the firms concerned. This can involve compulsory remedial work projects, compensation paid to clients who suffer loss and possibly fines too.

There is also the possibility that a client who may suffer loss that exceeds the Financial Ombudsman (FOS) compensation threshold may seek redress via litigation. This will require the firm to need to engage legal advisers to defend it. This will clearly incur costs.

Prevention is obviously better than cure, so if firms lack the capability or experience to deal with these issues proactively, they should seek legal guidance or guidance from GRC consultancy firms now, before such issues escalate. This will have a cost but it is unlikely to be anywhere near as costly as seeking legal advice on top of the cost of work required by the FCA, compensation or fines.

There is now an added dimension. In the recent past it has been relatively unusual for the FCA to take action against significant numbers or directors or senior managers of firms who have been subject to Supervisory or Enforcement action. However, the introduction of the SM&CR was a clear intention to now hold directors and senior managers of firms accountable for management and control failures. It raises the likelihood that directors and senior managers may now be held to account personally. Again, defending against FCA action is likely to be painful and worrying. It will normally require the engagement of a legal adviser. It will be time consuming and expensive.

The FCA “Dear CEO Letter” indicated that in the next two years, within wider Supervision by the FCA, there will be increased focus on these areas of concern. It is clear that the FCA intends to take action where its concerns have not been adequately addressed and corrective action taken. Firms have been warned.

By Paul Grainger, CEO of Complyport Ltd

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