Bill ignores Scottish dimension

The draft Financial Services and Markets Bill comprising 233 clauses and 10 schedules published on 30 July last year introduces a single regulatory authority and the concept of regulated activity which relates to “any asset, right or interest”. Consequently, there is no limitation to the activities which will constitute what is currently regarded as “investment business” and Schedule 2 gives an indicative list which includes deposit taking and mortgages. The Bill is purposely designed to be an enabling Bill and precise definitions are to be given and narrowed down by secondary legislation.

The Law Society responded that the Bill would not prevent “precautionary authorisation”, which is the Government’s purported aim and was likely to catch even more solicitors than are currently authorised in the regulatory net. Further concerns were expressed in relation to disciplinary measures, the FSA’s compensation scheme and the proposed Financial Services Ombudsman. In each of these areas, conflict is likely to arise in relation to the duties of the Law Society and the profession in relation to the Solicitors Discipline Tribunal, the Master Policy, the Guarantee Fund and the Scottish Legal Services Ombudsman. Repeated discussion with Treasury officials and two Treasury Ministers produced unsatisfactory responses but this matter of regulatory overlap was of sufficient importance, as put forward by David Heathcoat-Amory, MP (Shadow Chief Secretary to the Treasury and a Member of the Joint Committee of both Houses of Parliament, which considered the draft Bill), that the Government have been specifically requested to address this before the final Bill is published.

If no attempt is made to deal with this issue, clients will have two Ombudsmen, two compensation schemes, two complaints bodies, two discipline tribunals and there is every likelihood of their interests falling between two stools. Solicitors seeking regulation from the FSA will have to pay for both and difficulties must also arise in relation to enforcement.

Regulated Activities Order

A consultation document, the draft Financial Services & Markets Act (Regulated Activities) Order, was published in February and contained a general overview of the key aspects of Government policy. The overview started out optimistically by stating that the Government wished to prevent precautionary authorisation but the draft Order disappoints by not giving clear definitions of what will and will not be regulated activities and business.

The Order sets out, in 22 pages, the definition of regulated activities and investments and Schedule 3, in 28 pages, deals with the exclusions. The concept used is that certain advice and services will be excluded where these are “necessary arrangements” made in the course of a profession or business. This contrasts with the word “incidental” used by FSA Chairman, Howard Davis, to the Joint Committee and in the EU Investment Services Directive. The draft Order provides that the services or advice must be “necessary” and also be reasonably regarded as such, which is a far more extensive test than “identical”. No definitions of “reasonably” or “necessary” are given. The exclusion where it applies relates to advice, safeguarding and administration, arrangements enabling or facilitating deals and arranging deals but not management of any kind. The exclusions are such that they would allow only a fraction of what is currently accepted by solicitors as investment business and useful advice to be excluded from the regulatory net. Furthermore, it is still an open question as to whether mortgage advice will be regulated by the FSA.

Practical matters

What then will regulation mean under the new regime for those who are “caught”?

The precise detail of how recognised professional bodies are to be dealt with is to be the subject of a consultation paper to be published at the end of June. Although the following is a matter of conjecture, it is hoped that it will focus on some of the issues which firms should consider.

Grandfathering

Individuals and firms are likely to be grandfathered into the new regime. Notwithstanding this, the FSA will be looking to satisfy their criteria of fitness and propriety and a firm will be required to apply for authorisation to engage in activities which must be specified in an initial business plan.

Training and competence

It is clear that this is an area which will change not only for solicitors but for all practitioners. The time scale is unknown but the indications are that the FSA will move, within a few years, towards a regime where firms and individuals will require specialist authorisation and qualifications for different areas of practice. The concept of “one size fits all” will no longer be acceptable and for solicitors, many of whom provide a broad range of advice with considerable benefit, the choice will be to acquire all the prescribed qualifications in the areas in which they advise or to cease practising.

Rule book

The profession’s familiarity with a practical rule book dealing with the conduct of investment business will end. The FSA have indicated they are likely to accept only the Law Society’s Accounts Rules as equivalent to the FSA Client Money Rules. This would appear to be the limit of equivalence and the familiar and simplified practical rules will all but vanish.

Financial resources requirement

The financial resources requirement is perhaps the most alien of concepts the FSA are attempting to impose on the professions. The requirement is required primarily to protect consumers against business failure. Repeated attempts have been made to assure the FSA that for solicitors this is of limited relevance because of the Master Policy, Guarantee Fund and intervention arrangements and it is hoped that this will be recognised. The most demanding requirements would require capital, not guarantees, being hold by a firm, at least equivalent to 3 months overheads of a whole firm and not just that part dealing with regulated investment activities.

Costs

Costs must increase because the Government insists on dual regulation for Scottish solicitors, at the same time providing for a single regulator for large financial organisations. However, the FSA are under an obligation to provide investor protection cost effectively. The Institute of Chartered Accountants of Scotland recently estimated that regulatory fees alone would be in the region of “four figure sums”. The consequences are that, in the name of so called investor protection, the same level and extent of advice from solicitors will not be available, and that which is will be more expensive.

Conclusion

Financial Services reform is a flagship policy for this Government but little account, to date, has been taken of the Scottish dimension and the fact that regulation of solicitors will be devolved to the Scottish Parliament but financial regulation reserved for Westminster. Hopefully, some Government response will be given to the Joint Committee’s report on the Financial Services and Markets Bill on this important issue but readers of this article should have no hesitation in contacting their Members of Parliaments (UK and Scotland) to emphasise this point. The consequences for clients are likely to be considerable confusion, increased costs, a diminished level of service and, ultimately, there must be a likelihood that the profession will be seen in a bad light.

The definitions in the draft Bill and Order do little or nothing to prevent precautionary authorisation and, if matters progress as they have, even more solicitors will be caught in the regulatory net than at present.  This is a cause of concern, not only for the profession but for the FSA. In addition, attempts to ensure that proper cost benefit analysis is applied to the new regime have to date produced nothing of comfort.

Looking forward to the style and content of the new regime, it will, in particular, impose a very great burden on practitioners who are involved in only a limited amount of investment business, which is at a level or degree to be caught in the net, which may nonetheless be integral to their advice and of value to their clients. This will inevitably lead to a reduction in the supply of independent advice and a diminution of legal/financial advice. Further details of the FSA’s plans for RPBs will be published within the next three months and become available when the Treasury reissues the Bill and Regulated Activities Order, which will define the scope of investment business and exclusions from authorisation.

Ruthven Gemmell

The author is Convenor of the Investor Protection Committee of the Law Society of Scotland, a partner in Murray Beith Murray WS and has recently been appointed to the FSA Small Business Practitioners Panel