UK Authorities Reboot Financial Promotions Rules, Including Cryptoassets

Author

Martin Lovick

Publish Date

Type

Compliance Alert

Topics

  • FCA
  • Compliance

The last twenty years have seen a succession of mis-selling scandals in UK financial services – the wrong products, to the wrong people, at the wrong time. Each time, regulators claim to have “learned lessons”, typically accompanied by a threat of more aggressive action in future. 

Since the beginning of 2021, there have been a clutch of related initiatives coming out of HM Treasury (“HMT”) and the Financial Conduct Authority ("FCA") aimed at addressing the perceived weaknesses of the prior regime. Taken together, these represent a significant reboot of the regulation of financial promotions and, although aimed primarily at the retail sector, contain important measures that wholesale firms should take note of.

The case for regulating financial promotions

Given that the FCA does not have absolute control over all issuers of financial products, its primary conduit for protecting consumers is on the regulation of promoting and marketing of such products. “Information asymmetry” provides the textbook case for regulation: the idea that the purchase of financial products by consumers can have life-affecting consequences, with decisions made by individuals with a poor understanding of the nature and riskiness of products, relative to those doing the promoting.

In its Discussion Paper (DP 21/1) on Strengthening our Financial Promotions Rules, issued in April 2021, the FCA sets out further arguments for reinforcing the regulatory regime at this time: 

  1. Very low interest rates tempt investors into products offering apparently higher returns;
  2. The growing demand for environmentally friendly vehicles with the concomitant risk of greenwashing; and
  3. The emergence of a new type of financial consumer, typically tech-savvy (online platforms, social media), but less cautious than traditional investors. 

The pandemic appears to have accelerated all three trends, particular the latter - and particularly in connection with cryptoassets.

Financial promotions rules - the basics

By way of reminder, there are currently three intersecting elements to the regulation of financial promotions in the UK:

  • Section 21 (“s.21”) of the Financial Services and Markets Act (“FSMA”), which contains the key general prohibition on the promotion of financial products and services by unauthorised persons (i.e. unregulated firms).
    •  s.21, includes an exemption from the general prohibition where communications are approved by regulated firms.

  • FSMA (Financial Promotion) Order 2005 (“FPO”), which contains certain exemptions from s.21, including allowing unauthorised persons to issue promotions to certain types of sophisticated investors (e.g. investment professionals) and high net worth entities.
  • COBS 4 within the FCA Handbook, which sets out the key requirements to be fulfilled by firms issuing promotions, including the overarching “fair, clear and not misleading”. These include restrictions applying to certain categories of recipient, for example, non-mainstream pooled investments (“NMPI”) – COBS 4.12.

A new regulatory gateway for financial promotions

The exemption for a financial promotion which has been approved by a regulated firm, on behalf of an unauthorised person, has been identified as a flaw in the regulatory framework. In its consultation of June 2020, HMT identified three key weaknesses at approving firms: 

  • lack of expertise;
  • lack of due diligence; and 
  • inadequate challenge in exercising regulatory oversight.

In its response, Regulatory Framework for Approval of Financial Promotions, published in June 2021, HMT proposed a new regulatory gateway (sometimes referred to as a “s.21 gateway”).

Regulated firms will be subject to a Financial Promotion Requirement which will prohibit them from approving promotions by unauthorised persons. Firms wishing to approve such promotions will have to apply for a Variation of Requirement (“VREQ”) which, if successful, will explicitly add this right to their permissions. Applicant firms will have to demonstrate suitability and competence to approve such promotions and the FCA may chose to limit their permissions to specific types of products or services, depending on their own expertise.

Note that this proposal does not affect either the way authorised firms communicate their own financial promotions, or approve their own promotions which are then communicated by unauthorised persons, or approve the promotions of unauthorised persons within the same corporate group.

HMT consultation on certain investor exemptions

On 15 December 2021, HMT published a consultation on the financial promotion exemptions available for high net worth (“HNW”) and sophisticated investors in the FPO. Assuming the consultation goes through, this may change some of the exemptions set out in COBS 4.12 for NMPI. This contains five main proposals: 

  • Increasing the financial thresholds for HNW investors: reflecting price inflation since 2001 when the limits were first set, these are to be raised from £100k to £150k for income in the past year, and from £250k to £385k for net assets.
  • Amending the definition of self-certified sophisticated investors: the criteria of investing in one unquoted company in the last year is removed, and the director qualification of a company with turnover of at least £1m is increased to £1.4m.
  • Greater responsibility on firms to verify self-certification: in place of believe on “reasonable grounds” that an individual has signed the self-certification, firms will be required to “reasonably believe” that they meet the criteria.
  • Revisions to the investor statements: the format of the HNW and sophisticated investor statements will change substantially, making clear the loss of protections their signature will give rise to, and requiring them to select the appropriate criteria for why they meet the definition.
  • Changing the name of the exemption from “certified high net worth individual” to “high net worth individual”, reflecting the change to the FPO in 2005 since when certification has no longer been required.

HMT consultation on cryptoassets

On 18 January 2022, HMT confirmed in its consultation consultation response on cryptoassets promotions its intention to bring the promotion of certain cryptoassets within the regulatory perimeter.

The definition of a qualifying cryptoasset will be “any cryptographically secured digital representation of value or contractual rights which is fungible and transferable”. Qualifying cryptoassets will apply to existing regulated activities (dealing in/managing/advising on investments), and hence will be added to the list of controlled activities within the FPO. 

FCA consultation on promotion of high-risk investments, including cryptoassets

Synchronised with this HMT Response, on 19 January 2022 the FCA published consultation paper CP22/2 on Strengthening our financial promotion rules for high-risk investments, including cryptoassets. The main FCA proposals are:

  • The introduction of two categories of investment in COBS 4: Restricted Mass Market Investments (“RMMI”) – these can be promoted to retail investors, subject to certain restrictions - and Non-Mass Market Investments (“NMMI”) – where retail promotions are prohibited. RMMI will take in the existing categories of “non-readily realisable securities” (“NRRS”) and “peer-to-peer agreements”, as well as the new Qualifying Cryptoassets. NMMI will take in the current NMPI of COBS 4.12 and Speculative Illiquid Securities (“SIS”), including speculative “mini-bonds”.
  • Requirements on the promotion of both RMMI and NMMI will include enhanced risk warnings, a ban on inducements such as “refer a friend” or new-joiner bonuses, and “positive frictions” (for example, cooling off periods).
  • Improved investor declaration statements, plus strengthened appropriateness tests to assess knowledge and experience (RMMI only).
  • A strengthening of the rules governing s.21 approving firms designed to complement the HMT regulatory gateway (see above).

Timing of reforms

  • All of the above HMT proposals require secondary legislation which will be brought forward later in 2022. The FCA’s consultation on the promotion of high-risk investments closes on 23 March 2022 and will be followed by a policy statement confirming any Handbook changes in Summer 2022. None of the above reforms are expected to come into force until at least late 2022, and some will also be subject to transition periods.

Next steps for firms - a checklist

  • Review any existing arrangements to approve financial promotions by unauthorised persons.
  • Prepare for changes to compliance documentation arising from amendments to exempt investor categories.
  • Review investment and marketing strategy for any cryptoasset element.
  • Review marketing strategy for any interface with the new RMMI and NMMI categories.

How we help

We offer a wide range of managed, tech and training services, designed to help your firm identify potential business and compliance risks that could lead to problems with your key stakeholders: regulators, clients, and prospective clients. These include:

  • Marketing, advertising, and financial promotions reviews:  Outsource these services significantly reduce the amount of time and resources devoted to the marketing and advertising review process.
  • ACA’s ComplianceAlpha® Marketing Review RegTech Solution: Manage the volume of marketing and advertising materials and reduce the strain on internal resources. Automate and more efficiently manage the end-to-end review and approval workflow for marketing materials and financial promotions.
  • Training: Book our new Financial Promotions course, designed to help all staff – especially marketing and investor relations teams – understand their financial promotions requirements and stay up to date with their statutory and regulatory obligations.

Questions?

If you have any questions about this guidance, please reach out to your ACA consultant or contact us below.

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