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Financial Services and Markets Act 2000 (Relevant Authorised Persons) Order 2015

Volume 765: debated on Tuesday 27 October 2015

Motion to Consider

Moved by

That the Grand Committee do consider the Financial Services and Markets Act 2000 (Relevant Authorised Persons) Order 2015.

Relevant document: 3rd Report from the Joint Committee on Statutory Instruments

My Lords, I beg to move that the Committee considers the draft Financial Services and Markets Act 2000 (Relevant Authorised Persons) Order 2015, the draft Financial Services and Markets Act 2000 (Misconduct and Appropriate Regulator) Order 2015, and the draft Financial Services and Markets Act 2000 (Regulated Activities) (Amendment) (No. 3) Order 2015. For the sake of brevity, I shall refer to these as the relevant authorised persons order, the misconduct and appropriate regulator order and the regulated activities amendment order.

The first two orders under consideration today are related, and it may be helpful if I start by outlining the background to this legislation. In December 2013, Parliament passed the Financial Services (Banking Reform) Act 2013, which, for convenience, I shall refer to as the banking reform Act. Among other things, this Act provided the legislative framework for implementing the recommendations of the Parliamentary Commission on Banking Standards, on which several Members of your Lordships’ House served with distinction. This included making provision for introducing the senior managers and certification regime for the banking sector—banks, building societies, credit unions and certain systemically important investment firms. The Government have now included provision in the Bank of England and Financial Services Bill to extend this regime to all other types of financial services firms, but these two orders are part of the original work programme to apply this new regime to banking.

When the parliamentary commission reported in June 2013, it made a number of recommendations for reforming the way in which individuals who work in banks are regulated. These formed the basis for what is now the senior managers and certification regime and include: a tougher regulatory approval regime for a smaller number of the most senior individuals in a bank; annual certification by banks themselves that other key individuals are “fit and proper”; and rules of conduct covering a wider range of bank employees, not just those subject to regulatory pre-approval.

The relevant authorised persons order will extend the scope of the senior managers and certification regime to include UK branches of foreign banks. It was initially decided to confine the senior managers and certification regime to UK institutions: that is, businesses incorporated in the UK. This includes those global financial institutions that operate here through a UK subsidiary company. The subsidiary company is incorporated here and so counts as a UK institution in its own right.

However, it does not include global banks which operate here through a branch in the UK. A branch is not a separate legal entity from its parent and so is not incorporated here. Nevertheless, a branch can have senior managers and staff who could be subject to annual certification or required to comply with rules of conduct. But, of course, the fact that a branch is not separate from its parent was bound to raise a number of issues which could not be fully considered at the time.

A power was therefore included in the Banking Reform Act enabling the Treasury to bring branches of foreign banks into the senior managers and certification regime after appropriate consultation. The consultation document was published last November and the Government announced in March this year that they would make the necessary order. Subject to your Lordships’ approval, all parts of the senior managers and certification regime will from 7 March 2016 apply to foreign banks that operate in the UK through branches here: that is, the same date as that on which the senior managers and certification regime comes into force for UK banks.

There are two points that it might be helpful to be clear about at this stage. First, the Banking Reform Act also included a new criminal offence relating to decisions which cause a bank to fail—sometimes called the “reckless mismanagement” offence. This offence was also recommended by the parliamentary commission and was included in the Banking Reform Act at the same time as the senior managers and certification regime provisions. However, it can be committed only by persons who are senior managers in banks, building societies and systemic investment banks.

This criminal offence is not part of this regime. I want to make it clear that the order does not extend the new offence to UK branches of foreign banks. There is no power in the Banking Reform Act to do that, nor would it be appropriate. The offence is concerned with decisions that cause a bank to fail. As a branch is not a separate legal entity from its parent, it can fail only if the parent fails. The failure of a branch, and any action arising from that, could be taken only by the authorities in the parent’s home state.

Secondly, I want to assure the Committee that the UK regulators have the powers to ensure that the regime can be applied flexibly and appropriately to different types of branch. They can also differentiate where appropriate between “passporting” branches from other EEA states, non-passporting branches from countries outside the EEA, subsidiaries and UK-owned banks.

The misconduct and appropriate regulator order makes some technical changes to the legislation that are needed before the senior managers and certification regime comes into operation in the banking sector next March. The first of these simply ensures that the revised provisions relating to enforcement action by the FCA will cover cases where an approved person has been knowingly concerned in a breach of regulatory requirements imposed by the Alternative Investment Fund Managers Regulations 2013. Those regulations implement the EU alternative investment fund managers directive in the UK.

The second group of technical amendments makes some consequential changes to Section 204A of the Financial Services and Markets Act 2000. Section 204A sets out which of the FCA and PRA is responsible for enforcing certain requirements in that Act. The misconduct and appropriate regulator order makes changes to Section 204A to ensure that the PRA can enforce new requirements where it is the lead regulator for the senior managers and certification regime. If this order were not made, the FCA would have to enforce obligations that should, in effect, be owed to the PRA.

I move now to the draft regulated activities amendment order. In March, Parliament approved the Mortgage Credit Directive Order, which ensures that the UK implements the EU mortgage credit directive, or MCD, on time and with a limited impact on the UK mortgage market. The Mortgage Credit Directive Order 2015 was due to come into effect in March 2016. Since this point, the Government have been actively monitoring the progress of the mortgage industry towards implementation to ensure a smooth transition so that consumers do not see any disruption.

During the course of this routine monitoring, it came to light that, due to the complexity of superimposing a new wave of legislation on top of existing legislation, there were some areas where the Mortgage Credit Directive Order did not achieve what it was intended to. The Government therefore decided to act by making a small number of amendments to the scope of the regulation to ensure that the regulatory framework continued to operate as intended.

The draft regulated activities amendment order under consideration makes a number of changes, all of which aim to ensure that the existing legislation delivers on previously agreed policy. The most significant of these is to ensure that mortgages dating from before 31 October 2004 that are currently regulated as credit agreements will move across to be regulated as mortgages from 31 March 2016. This is part of the Government’s widely supported aim to consolidate the regulation of mortgages within a single framework, reducing the burden on firms and ensuring that customers get a consistent experience.

Taken together, the changes made by the statutory instruments under consideration are another important step to ensure that the UK’s financial system is resilient and works for the good of the nation. I hope that noble Lords will therefore support the Motion to consider these instruments. I beg to move.

My Lords, I am grateful to my noble friend for his explanation of what are quite technical orders. Before I go any further, I declare an interest as an authorised approved person under the Financial Services and Markets Act. I am therefore accountable to the Financial Conduct Authority. I will focus on the practical implications of what we are discussing, in particular the misconduct and appropriate regulator order, which is one of the three orders we are considering; how these tie in with the Bank of England and Financial Services Bill, which had its Second Reading yesterday evening; and how the regulatory footprint will come to be felt by companies, banks and individuals.

As I understand it—I am sure my noble friend will put me right if I am wrong—we essentially have a structure of two pillars. The Prudential Regulation Authority is concerned with the strategic aspects—corporate discussions, decisions and difficulties—and the Financial Conduct Authority is concerned more with the behaviour of individuals. It therefore operates at a slightly lower level. I will quote from the Minister’s letter to my noble friend Lord Trefgarne, in his role as chairman of the Secondary Legislation Scrutiny Committee. Harriett Baldwin wrote:

“Both Orders relate to the government’s implementation of the Senior Managers & Certification Regime (SM&CR), which is designed to manage individual conduct and standards in the banking sector”.

As my noble friend said in his opening remarks, one of the key requirements is the issue of fitness and propriety—that is, of a person’s integrity, competence, relevant experience in an area and so forth. What I have some difficulty in understanding is how the PRA, or indeed the SM&CR, will enter into cases where the fitness and propriety of the individuals would not be called into question. There would therefore be a basis for the FCA proceeding by itself, rather than having proceedings by either or both. Does this matter? Maybe not, but maybe it will. I remind my noble friend of Clausewitz’s saying: “Better a bad general than a divided command”. Individuals will not always be clear which of the two regulators is the more important: are they dancing to the tune of the PRA or the FCA? Within the City, there is evidence of a certain amount of turf warfare between the two organisations. I think that the PRA, with its strategic view, considers itself superior to the FCA, which deals with individuals. I think that Mr Martin Wheatley said that his organisation was considered to be down among the weeds—a rather unfortunate way of describing his flock, but never mind.

While what we are putting in place here may seem very clear from the Olympian heights of Her Majesty’s Treasury, in this case I am a worm. I have a worm’s-eye view of what is being proposed and there are questions that I would like my noble friend to answer. He may wish to write rather than doing so on the hoof this afternoon, as I understand that we have to get on with this. We need to maintain standards in our financial services industry and there is a degree of public mistrust in what has been going on in that sector. The first question is: how will co-ordination be effected between the FCA and the PRA so that individuals are not caught up in trench warfare between those two organisations? Secondly, which of the two authorities will take priority when cases come before them? If both authorities get involved, will one be able to issue a cease and desist order so that the unfortunate individual does not find him or herself facing in two directions? Answering that would, at any rate, give me a degree of clarity about how this is to work on the ground as opposed to what is expressed clearly and succinctly, but in a quite dry and academic way, in this order.

Finally, as my noble friend said, one of these orders introduces a new regime: the senior managers and certification regime. Under whose bailiwick does that fall? Is it the PRA or the FCA, or will yet another regulator be involved? I would like to see how that fits together in terms of the organisation which many thousands of people will have to comply with, in a field where the compliance costs and the difficulties of meeting the regulators’ requirements have become a lot more difficult. Of course I understand the importance of our financial services regime being kept up to date. We live in an era of rapid change, so we have to change our structures to keep up to date with evolving practices, but I am anxious that we should always think about the practical implications of what we are proposing for those working in the industry. I hope that my noble friend will be able to give me some reassurance on these points when he comes to wind up.

My Lords, as the Minister has outlined, the three statutory instruments before us make a number of technical changes to the Financial Services and Markets Act 2000, as amended, which relate specifically to the expansion of the senior management and certification regime—or SM&CR—mortgage regulation and the extension of powers to the Prudential Regulation Authority. As my honourable friend Richard Burgon MP said in the other place, we will not oppose the orders—I want to place that on record again today. My party is committed to ensuring that we have a financial services sector that works in the interests of the public and we want to work with the Government to ensure that.

Banking regulation seems—in this House at the least—to be the flavour of the month, what with these orders today and the Second Reading of the Bank of England and Financial Services Bill only yesterday. Last night, we had a constructive and wide-ranging debate on what a modern and effective banking sector should look like. It was encouraging that we should have such passionate, experienced and committed colleagues engaging with this issue.

Some of the observations made last night have relevance today. Without wishing to detain your Lordships for very long, I want to ask the Minister a number of questions about how these small but nevertheless important changes fit into the Government’s broader proposals.

The Financial Services and Markets Act 2000 (Relevant Authorised Persons) Order extends the regulation governing individuals working in the UK banking sector to cover UK branches of foreign banks and investment firms. I note that the Economic Secretary to the Treasury said on Thursday that these changes would come into effect in March 2016, the same time as changes for senior managers in UK institutions. Can the Minister say today, or perhaps in writing at a later date, how many non-UK institutions which have a branch in the UK this will affect?

As the Minister will know, one of the changes made in the Bank of England and Financial Services Bill is the extension of the SM&CR to the entire financial services industry—not just senior managers in banks but to credit unions and investment firms from 2017. Once the expansion comes into effect, does the Minister expect non-UK institutions which have a branch in the UK to be included?

The Financial Services and Markets Act 2000 (Regulated Activities) (Amendment) (No. 3) Order 2015 will mean that from 31 March 2016 mortgages dating from before 31 October 2004, which are currently regulated as credit agreements, are regulated instead as mortgages. The Government claim that the proposed changes are necessary for the EU mortgage credit directive to work as intended. The Economic Secretary to the Treasury stated:

“During the course of that routine monitoring it came to light that, owing to the complexity of layering a new wave of legislation on top of existing legislation, in some areas the order did not achieve what was intended”.—[Official Report, Commons, Sixth Delegated Legislation Committee, 22/10/15; col. 5.]

For clarification, can the Minister confirm that these are just credit agreements which relate to property? Can he also indicate the scope of the aforementioned monitoring and the precise issues covered to bring about such change? I also understand that my honourable friend in the other place asked why pre-March 2004 mortgages were being regulated and not those after March 2004.

Finally, the Financial Services and Markets Act 2000 (Misconduct and Appropriate Regulator) Order 2015 confers powers to the PRA over individuals working in financial services, specifically in cases relating to the alternative investment management regulations. It also extends to the PRA the ability to take disciplinary action. We understand that the order is required so as to ensure that the appropriate regulators have sufficient powers to carry out their functions. However, I have a number of points on which I seek clarification.

Will the changes in the role and structure of the FPC as a full committee of the Bank and the desubservisation—if there is such a word—of the PRA alongside the creation of the new Prudential Regulation Committee require that these orders be amended again? Paragraph 5(1) of the aforementioned order states that:

“The Treasury must from time to time—

(a) carry out a review of the relevant provisions of the 2000 Act;

(b) set out the conclusions of the review in a report, and

(c) publish the report”.

I would be grateful if the Minister could go into more detail about the process and practice of this, in particular the timing. Does “from time to time” mean once a Parliament, once a Session or once a decade? I understand that the Minister may need to write in order to set this out in more detail.

Throughout the creation of this new regime, the noble Lord, Lord Hodgson of Astley Abbotts, has brought us the worm’s-eye view of the situation. I am not privileged to be a worm in the City, merely a worm at Westminster, but I recall that we spent many an hour layering clause on clause into the various Bills to define the difference between the PRA and the FCA. I am pleased to hear from the noble Lord, Lord Hodgson, that it is as clear as ever. I will be fascinated to hear the Minister’s reply, but I recognise that he may not be able to finesse it too accurately today, so perhaps I may be copied in to any letter he promises to his noble friend Lord Hodgson.

My Lords, we have had a brief but productive debate today and I am grateful to noble Lords for their constructive contributions. I am particularly grateful for allowing me to write if necessary to provide comprehensive answers. However, I will try to respond to some of the points, and I will make sure that I write on anything that I leave out. I will also certainly write to the noble Lord, Lord Tunnicliffe, with any answers that I give to my noble friend Lord Hodgson, who is, as always, too modest. As was said before somewhere else, my noble friend may be a worm, but he is certainly a glow worm.

My noble friend started off by asking me about the relationship between these orders and the Bill referred to by the noble Lord, Lord Tunnicliffe, the Bank of England and Financial Services Bill, which received its Second Reading last night. These orders largely complete the banking reform Act work programme, applying the senior managers and certification regime to banks, building societies, credit unions and PRA-regulated firms. The Bill will extend the regime to all other authorised persons under the Financial Services and Markets Act 2000—that is, to the rest of the financial services industry. So the proposed changes in the Bank of England and Financial Services Bill will not change any of those relationships.

My noble friend mentioned the question of duplication of effort when both regulators have enforcement powers, and of course that situation applies now. Nothing that we are doing today will change that. In answering the point, I can tell my noble friend that each regulator will enforce its own rules or directions to ensure compliance with or obligations owed to it. Further, it will usually be clear which rule or other requirement has been broken and therefore which regulator needs to enforce it, but the PRA and the FCA have a statutory duty to co-ordinate the exercise of all their functions, including enforcement. That applies today and will not change.

The question is why they both need enforcement powers, and the reason is that they both make rules or are the lead regulator for other requirements, which means that they must have such powers. Each regulator has a different statutory remit, so that they can simultaneously have an interest in different aspects of the same situation. However, I take the point made by the noble Lord; it is something that I was aware of when I worked in the City. If you are an institution that is fortunate enough to be under the regulation of both of those regulators, it is obviously important. However, they do co-ordinate and will continue to do so because they have, as I say, a statutory obligation in that regard.

I am able to give that assurance.

Both regulators look at fitness and propriety. Both the PRA and the FCA are concerned with whether an individual is fit and proper. This is the position now; the senior managers and certification regime does not change that. That is why, as I said before, both regulators may need enforcement powers.

To answer my noble friend’s question, there will not be another regulator. The PRA and FCA will run the senior managers and certification regime in the same way that they are involved in the approved persons regime, so there is no change in that. To follow on from the point raised by the noble Lord, Lord Tunnicliffe, there will not be another regulator. The PRA will have an enforcement role only when obligations are owed to it. As I said, normally which regulator matters is clear from primary legislation because they have different remits and focus.

The noble Lord, Lord Tunnicliffe, asked for some sense of the numbers. I will give him some today, but if I have not given him all the numbers he wants I am happy to write later. Obviously I will copy in my noble friend Lord Hodgson. There are currently about 155 banks and nine PRA-regulated investment firms. Those are investment banks that do not have a deposit-taking commission. These 164 firms will be within the senior managers and certification regime from next March as a result of the changes made by the banking reform Act. This order will add between 155 and 175 foreign banks, split approximately 50:50 between EEA and non-EEA firms.

The banking reform Act also brings approximately 45 building societies and approximately 550 credit unions into the senior managers and certification regime. Any foreign equivalents of these firms would be included as banks. Less than 10% of those banks would be considered large. The Bank of England and Financial Services Bill will not add any banks or other deposit-takers to the SM&CR. The Bill will add only insurers, investment firms and consumer credit firms, assuming that it is passed.

The Minister has dealt with all the questions with great courtesy and care. As we get to a situation where the SM&CR is covered by both the FCA and the PRA and they deal with everything, why would we need to have the two organisations? It seems to me that we are getting closer and closer to a situation where one organisation could do it. We then get away from all this trouble of possible regulatory overlap and people being pulled in different directions. That is not a question to be answered today, but it is a question that the Government should think about if we are to follow up the issue of deregulation and try to avoid multiple masters, with the inevitable problems that arise. I am sure that the Government, the Treasury and the authorities will assure us that there is no way that those two will ever get out of step, but from the point of view of the regulated individuals and entities, you can be certain that they will be out of step before too long.

I will not try to give a comprehensive answer today, but I will make the point that that was the position with the Financial Services Authority, which both Houses of Parliament decided was not an effective regulator. Everyone accepts that there were problems with having one regulator and that tripartite system. I will not go beyond that, but I take the point; I have noted it.

The noble Lord, Lord Tunnicliffe, asked whether the changes to the PRA required changes to these orders; they are not required. He also asked whether the regulated activities amendment order only affects credit agreements relating to property—I refer here to equitable loans that are normally used in Scotland—and the answer to that is that it does. If there are other points, I will take advantage of both noble Lords’ suggestions and write when we have reviewed what I have said today.

Can I make a couple of final points about the orders under consideration? First, the relevant authorised persons order is not about placing a more onerous regime on UK branches of foreign banks or for that matter letting them off the hook. We aim to ensure a proportionate and appropriate regime that reflects the status of branches and the nature of the business that they do.

The misconduct and appropriate regulator order makes some necessary technical changes arising from the introduction of the senior managers and certification regime. Finally—

Before the Minister sits down, does he have any initial reaction to my question about what “from time to time” means? It is quite difficult to get a more vague description of an interval.

Luckily, I do have an answer to that. “Time to time” leaves scope to have a practical approach and the Treasury will keep under review how often it will consider the orders. The first review must be within five years. Each review must be at least every five years after that. At the moment that is where we are. I will consider the points that the noble Lord made in more detail and if I have anything more to add I will write to him.

The regulated activities amendment order will ensure that the PRA and the FCA have the right powers to regulate the mortgage market effectively, ensuring that both new and existing customers are protected from bad practice. I therefore ask the Committee to join me in supporting these statutory instruments today.

Motion agreed.