FSA Stresses Unregulated CIS Must Comply With Regulatory Regime
FSA fines Rockingham Independent Limited £35,000 and bans two directors and an adviser from selling complicated investments – Financial Services Authority Press Release FSA/PN/080/2011 of 15 September 2011
This September, the Financial Services Authority (FSA) stepped up its action against those breaching the regulatory restriction on the promotion of unregulated collective investment schemes (UCIS). Rockingham Independent Limited (RIL) has been fined £35,000, its directors Stephen Hunt and Jonathan Edwards, as well as its adviser Gary Forster, have received partial prohibitions and, in a separate case, Ian Jones, director at Specialist Solutions Public Limited, has been fined £16,000 and banned from working in the sector.
These sanctions closely follow action taken by the FSA some two months ago against directors of an independent firm of financial advisers for weaknesses in the firm’s systems and controls that caused customers to be exposed to the risk of receiving unsuitable advice.1
Unregulated Collective Investment Schemes
A UCIS is a collective investment scheme (CIS) that is not regulated, in contrast to an authorised unit trust or scheme constituted by an open-ended investment company. Although UCIS do not share the same level of regulatory oversight as CIS, they are nonetheless, contrary to their name, still subject to regulatory control – particularly, with regard to the way in which these products are marketed.
Section 238 of the Financial Services and Markets Act 2000 (FMSA) prohibits an FSA-authorised person from communicating an invitation or inducement to participate in a CIS, subject to a limited number of exceptions.2 It provides that UCIS may only be marketed to specific categories of investors, namely investment professionals, existing customers, and sophisticated investors/high net worth individuals. This is for two key reasons – first, they are subject to high levels of volatility and liquidity, and secondly, as they fall outside the regulatory regime, investors have limited recourse to the Financial Services Compensation Scheme (FSCS) and to the Financial Ombudsman Service (FOS).
Rockingham Independent Limited
An FSA investigation found that between January 2008 and September 2010 (Relevant Period), RIL promoted, and subsequently advised, 39 customers to invest pension funds in UCIS without ensuring that these customers fell within the exemption to the restriction set out at section 238 FSMA. These customers were consequently exposed to the risk of being recommended investments that may not have been suitable for their individual needs. In particular, the firm failed to gather sufficient financial and personal information about its customers in order to determine whether they would be eligible for UCIS promotions or to assess the suitability of its advice to customers to invest in such products. As a consequence of this lack of due diligence, RIL failed to make explicit reference in its communications with customers to the fact that the investments underlying the pension funds included UCIS, and that the schemes were therefore not covered by the FSCS or the FOS.
Taken together with other acts that exposed some 426 customers near or at retirement age to the risk of being given unsuitable advice, the FSA concluded that RIL had failed to:
- Take reasonable care to organise and control its affairs in a responsible, effective fashion, in breach of Principle 3 of the FSA’s Principles of Businesses (Principles);3
- Communicate in a way which was clear, fair and not misleading, in contravention of Principle 7; and
- Take reasonable care to ensure the suitability of its advice, in breach of Principle 9 and COBS 9.2.1R.
Despite the severity of the breach, the FSA, when determining the appropriate level of financial penalty, acknowledged, amongst other things RIL’s voluntary variation of its Part IV permission to cease giving investment advice pending the outcome of the FSA’s investigation. Furthermore, it noted that much blame was attributable to the firm’s external compliance consultant who similarly failed to identify that some of the investments recommended to customers were UCIS. The FSA considered a fine of £50,000 appropriate, although this was later reduced to £35,000 after application of a 30 percent discount for early settlement.4
The FSA has also sanctioned the firm’s two directors, Stephen Hunt5 and Jonathan Edwards,6 as well as its chief executive, Gary Forster.7 Given their seniority, they should have been aware of the UCIS regulatory regime and taken reasonable steps to ensure that the firm had regard to the relevant restrictions when promoting and recommending UCIS. The FSA therefore concluded that they lack the requisite competence and capability and has accordingly prohibited them from performing any significant influence function (SIF),8 as well as CF30 (customer function), in relation to any regulated activity promoting or recommending UCIS to retail customers. A more severe sanction was, however, reserved for Edwards on the basis that, as RIL’s compliance officer, he was responsible for ensuring the firm’s compliance with UCIS regulation – a task he failed to exercise with due skill, care and diligence, in breach of Statement of Principle 6.9 He would have been fined £20,000 but for evidence that this would cause serious financial hardship.
RIL has now stopped selling UCIS and has agreed to undertake a past business review so as to ascertain whether any customer redress is required.
Ian Jones of Specialist Solutions Limited
Earlier this year, the FSA fined Specialist Solutions Plc £35,000 for promoting UCIS to 101 customers who were not eligible to receive such promotions.10
The FSA has now issued a Final Notice to the Ian Jones,11 who was at all material times approved to perform CF1 (director), CR10 (compliance oversight), CF11 (money laundering reporting) and CF30 (customer function) and SSP.
In his role as director and compliance officer, Jones failed to ensure that SSP:
- Had internal compliance procedures in place that addressed the need to comply with UCIS regulations and identified when advisers had promoted UCIS to customers without due regard to the relevant restrictions;
- Trained its advisers on the promotion of UCIS as part of its established training and competence scheme; and
- Undertook sufficient due diligence on the UCIS funds it promoted.
In a review of 20 customer files in which UCIS were recommended, exemptions to the section 238 restriction were only found in 13 cases. Furthermore, only three demonstrated suitable advice, nine demonstrated unsuitable advice and in the remaining eight it was impossible from the paper trail to determine whether the advice was suitable.
In view of the above, the FSA concluded that Jones had failed to take reasonable steps to ensure that the business of the firm for which he was responsible complied with the relevant regulatory requirements, in breach of Statement of Principle 7.
The FSA considered this breach to be particularly serious, not least because the 101 affected customers invested a total of £11,244,923 in UCIS funds after having received advice from SSP’s advisers. Nonetheless, the FSA acknowledged that Jones has endeavoured to rectify his failings by making a number of changes to the company’s compliance arrangements and sales process. On the basis of the breach, and that Jones lacks the requisite competence and capability to perform his role, the FSA has banned him from performing any SIF, or CF30, in relation to the promotion of UCIS. The FSA also fined him £20,000, reduced to £16,000 for early settlement.
Last year, SSP voluntarily applied to change its permissions and as a result has not promoted or given advice on UCIS for some 15 months. Under Jones’ management, the firm has also undertaken a past business review and has agreed to contact any customers should there be a need for redress.
Commenting on the action, Tracey McDermott, acting director of enforcement and financial crime at the FSA, warned firms that “inappropriately advising customers to enter into unsuitable or complex products can not only lead to significant adverse consequences for those customers but also for the firms and the advisers themselves.”12
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