What’s next for retail funds distributed in the UK?

The future UK overseas fund regime

B
ackground

In case a trade agreement between the UK and the European Union (“EU”)¹ is not reached by the end of the transition period on 31 December 2020, passporting of EEA  UCITS will be able to continue into the UK for a limited period of time under the temporary marketing permission regime (“TMPR”), provided that the management company or the self-managed UCITS has notified the Financial Conduct Authority (“FCA”) by 30 December 2020. In the absence of such notification, passporting firms will automatically enter the Financial Services Contracts Regime (“FSCR”) to allow them to wind down their UK business in an orderly fashion.

Primary change

The Financial Services Bill 2020² (“the Bill”) introduced a new overseas fund regime and will provide for recognition by the FCA of EEA UCITS so that they can continue to be marketed in the UK following the end of the TMPR. As a prerequisite, the UCITS home country must provide at least equivalent investor protection outcomes and HM Treasury³ must be satisfied that there are adequate supervisory cooperation arrangements between the FCA and the national competent authority in the home country. This retail fund equivalence regime will be introduced through a new section 271A of the Financial Services and Markets Act 2000 (“FSMA”) and will provide a more streamlined and simplified process compared to the existing individual fund recognition system under section 272 of the FSMA. 

However additional requirements specified in separate legal instruments may apply to certain categories of overseas funds.

Key points

TMPR extension

The Bill will extend the TMPR from three to five years to allow sufficient time for the UK government to complete any equivalence assessments and for funds to apply for recognition, either through the OFR or section 272 as appropriate.

Recognition and notification process

The FCA will rely on self-certification from the notifying funds that they are eligible for recognition. Recognition is to be made at both the fund and sub-fund level. The time limit for the FCA to require further information or confirm recognition is two months. 

For a money market fund (MMF) marketed to retail clients, an equivalence determination is required under both section 271A FSMA, and the MMF equivalence regime⁴. In case no equivalence is granted under section 271A FSMA, MMF must apply for individual recognition under section 272 FSMA to be able to be marketed to UK retail clients.

Additional requirements for overseas funds

Additional requirements imposed by separate legal instruments may apply for certain categories of funds but are not designed to address fundamental shortcomings in an overseas regime. Proportionality and a level playing field is supposed to be achieved through a provision which requires HM Treasury to have regard to what is required of comparable UK authorized funds when specifying these additional requirements.

Withdrawal of equivalence

HM Treasury may modify or withdraw equivalence in response to material changes in the regulatory regime in either the UK or the overseas countries. In such circumstances, investors should not be forced to divest and the fund should continue to service them. 

Under a transitional provision, HM Treasury can specify a period during which affected funds can apply for individual recognition under the FSMA section 272 regime or modify or disapply the time limits for the FCA to determine a section 272 application.

Suspension or revocation of individual funds

The FCA has the power suspend or revoke recognition of an individual fund. Fund operators will be required to notify the relevant persons as directed by the FCA. The FCA will also have a power of public censure to inform investors of any wrongdoing by an operator of a recognized overseas fund.

Disapplication of Financial Ombudsman Service (“FOS”) and Financial Services Compensation Scheme (“FSCS”)

FOS and FSCS are not applicable to overseas funds. Instead, consumers’ rights to complain to an overseas alternative dispute resolution facility, where available, will be disclosed when they purchase their investment. Since UK consumers invest in funds through UK authorized intermediaries, they can file their complaints with the FOS and compensation requests with the FSCS in relation to the regulated services provided by UK investment advisors and platforms. 

Practical considerations

The extension of the TMPR should avoid disruption in the absence of an immediate equivalence determination. Going forward, the overseas fund regime should provide a relatively straightforward and fair path for EU funds targeting the UK retail market, since additional requirements should not go beyond what is required from a comparable domestic fund.

The extension of the TMPR should avoid disruption in the absence of an immediate equivalence determination. Going forward, the overseas fund regime should provide a relatively straightforward and fair path for EU funds targeting the UK retail market, since additional requirements should not go beyond what is required from a comparable domestic fund.

Unlike the current passport, the FSMA section 271A regime will remain subject to the equivalence determination process which could be affected by the reciprocity of measures taken at a European level. In case of non equivalence or withdrawal of equivalence, overseas funds will have to apply through the individual recognition regime. Despite the simplification of the requirements introduced by the Bill⁵, recognition under this regime will remain more onerous and lengthy with a process which can take up to six months. 

For more information, please visit: 

CSSF press release 20/23

Read the Bill

Summary of responses on overseas fund regime

¹European Economic Area comprising European Union member states plus Iceland, Liechtenstein and Norway

²The Financial Services Bill 2019-21 was introduced in the House of Commons on 21 October 2020.  House of Lords’ first reading was on 14 January 2021.

³Her Majesty’s Treasury

⁴Article 4A of the MMR

⁵ Simplification includes (1) the FCA’s assessment will be now limited to matters which are the subject of current rules rather than rules which do not yet exist (2) changes to the fund that the FCA would need to approve will be relaxed