Select Committee on Treasury Written Evidence


Supplementary memorandum submitted by APCIMS

TREASURY SELECT COMMITTEE'S INQUIRY INTO EU LEGISLATION

  Following the Committee meeting a few days ago at which I gave evidence, you asked those present to submit any further information should they wish. This letter includes some additional points that APCIMS would like to make.

MONEY LAUNDERING

  The anti-money laundering requirements in the UK are still causing significant problems. The regulations have been set by the Treasury, the rules by the FSA and guidance by the industry through the Joint Money Laundering Steering Group and so all the entities have a responsibility in this area.

  As we are all aware, it is not unusual for the result of applying the anti-money laundering requirements to be seen as completely disproportionate to the individual in terms of the checks that need to be made and the number of times that the are asked to provide essentially the same information. Whilst entirely agreeing that some of this is as a consequence of the guidance (and indeed APCIMS now have a representative both on the JMLSG Board and on the Panel that is writing the new guidance) it also relates directly to the supervisory regime.

  A typical APCIMS member firm will take on a client who has already been through anti-money laundering checks at least once. In addition, the sorts of investments in which they advise are long term and so whilst clearly there is a need to be vigilant against anti-money laundering and particularly perhaps in respect of trusts, they are not in the front line to the same extent as the banking industry.

  The current requirements are supposed to allow what is known as a "risk based approach". APCIMS member firms have therefore put together their risk based approach where typically there will be many more checks undertaken on a high risk client (one who for example does not have a UK bank account) than the client who has been known to the firm for many years. Sadly, however, the FSA supervisory teams have been requiring firms to do the same checks in all categories rather than accept that lighter checking arrangements are appropriate with a risk based approach. We have had intensive discussions with the FSA on this matter and indeed they have recently given an undertaking to improve the training of their supervisory teams accordingly. Nevertheless this is a key area in which the regime has caused cost and undue irritation to low risk individuals and firms alike and that is outside the responsibility of the industry.

  A second area of ongoing friction are the requirements that surround reporting of a suspicious action to NCIS. Clearly suspicions should be reported but the UK is the only EU country which does not have a de minimus in place. The result of this is that small transactions that are suspicious have to be reported with equal vigour as large transactions and hence a high number of reports are currently passing to NCIS. In addition, the "fear factor" of the FSA means that if in doubt firms will report rather than use their judgement.

  Confidence is undermined by this and by what happens subsequently. For example, none of our firms have yet had a report back from NCIS that in any way intimates that any of the reports that they have made were in fact helpful in investigating, catching or, indeed, convicting a money launderer. Secondly, there are a number of stories (and we have one that we know is correct) where firms have been so concerned about a situation that they have attempted to get the issue pursued straightaway—only to find that it is not given propriety by the police.

  These issues are well known to the FSA, who are endeavouring to co-ordinate the framework more coherently in future. Nevertheless one cannot help but consider that if the number of reports were reduced because an effective de minimus was operating as far as the firms are concerned in the UK, then that would mean that those received by NCIS and subsequently passed to the police, would get a higher priority than happens at the moment with an overall beneficial result.

  For anti-money laundering to work, the regime has to operate in a clear, effective and sensible manner from end to end and that includes greater responsibility than just getting the next set of JMLSG guidance written better, however important that action also is for the future.

DO WE NEED A SINGLE MARKET FOR RETAIL?

  As APCIMS member firms act for the individual, but then also address the market in an institutional capacity, we have given some detailed thought to this question. The current Financial Services Action Plan is of course, targeted at wholesale business, but because of its breadth affects a much wider section of the marketplace than just wholesale.

  When individuals wish to participate in financial services, they do so through an intermediary which can vary from an execution only broker through to an IFA. That is, an individual investor in the UK is not "connected directly to the market" rather their requirements are dealt with by an entity who in turn has responsibility to provide the individual with their required financial service. As part of the regulatory framework in the UK, the intermediary has to give protections to their client or customer. Typically these include best execution, requirements to give best advice, to advise how to complain and to provide them with a route to the free to the complainant Ombudsman service should that be needed. These protections are not replicated in other EU countries where the level of protection for the client or customer is much less.

  The current Financial Services Action Plan has as the main framework directive ISD 2 (now renamed MiFID—the Market in Financial Instruments Directive). This is intended to reduce cross-border barriers and enable firms to operate more freely in future than they do at present. In turn therefore this can mean that, for example, a UK client who wishes to purchase a non-UK investment should be able to do so more easily because the intermediary can do so more easily. As such it may be that there are some direct benefits for a few UK investors as a result of the changes to market structure flowing from the FSAP.

  However, looking at the situation from the perspective of an investor in another country, they may well get more protections as a result of the FSAP. For example, best execution (currently a well known and well understood concept in the UK which requires firms to keep proof of best execution for up to three years) is not a developed concept elsewhere. Secondly, the FSAP brings with it a set of compliance requirements which separate the compliance function in the firm from the front office function. Again current practice in the UK but not elsewhere. In fact, the set of what are referred to as "conduct of business rules" within MiFID is extensive and range across customer agreement letters, transaction reporting and transparency. These are likely to cause some changes in the UK in detail but not in principle, whereas elsewhere they change substantially the way in which markets have operated to-date.

  Therefore we conclude that whilst the FSAP may well not be bringing much to the retail market in the UK in terms of additional protections for clients or customers, it certainly should bring benefits to individuals in other European countries.

  Looking to see if there should be some further avenues pursued in this area, there are three which APCIMS considers to be worthy of consideration. The first of these is that whilst financial advice is regulated in the UK, it mostly is not regulated in any other European country. Secondly, it is possible to set up as a financial adviser in some EU countries without having a formal financial qualifications. Together this means that an individual in the UK knows that their adviser has to be qualified against a set of approved examinations and that the adviser is also regulated. Therefore the whole process is controlled and subject to protections, which are not often available in other EU countries.

  Thirdly, the UK has a comprehensive Financial Ombudsman Service, which is free to the complainant and the firm has to ensure that the complainant is directed to FOS if necessary. In addition, firms have to tell their clients or customers how to complain in the first instance.

  No other European country has a comprehensive Financial Ombudsman Service such as this and where there is an Ombudsman it is invariably confined to banking only. In addition, most European countries do not even have to tell their clients how to complain let alone pass them on to an Ombudsman if they do not like the answer!

  The conclusion therefore that we draw is that for there to be a direct benefit to individuals through the single market, then extending the current protections that they get in the UK to investors in other European countries would be a very helpful step to take.

  In parenthesis, it is often said that the UK seems to have "the problems" whereas other countries do not. I hope that the above paragraphs explain the reasons why. If advice is not regulated, if there is no requirement for a firm to tell individuals how to complain and no Financial Ombudsman Service then, even though an individual may well not have what they wanted, there is no mechanism for complaint and redress and so perhaps it is not surprising that there are apparently "no problems".


BASEL II AND THE CAPITAL RISK DIRECTIVE

  These are the two mechanisms whereby the capital that firms will have to hold in future is going to be changed. Basel directly impacts on banks but once put into the Capital Risk Directive then it has a much wider mandatory application. This Directive applies to all firms who are included within MiFID and therefore not only applies to banks but stockbroking firms, investment management firms and, indeed, all the IFA community as well.

  A key issue is that there must be a proper framework for investment firms and especially the non-bank investment firms. Unfortunately Europe defines an investment bank as an investment firm as they do not take deposits. Problems therefore arise for all the range of other entities which are also investment firms but who are not investment banks. Originally this directive failed to cater properly for this but in its current draft of the Directive, there are three investment firm categories known as 50k, 125k and 730k but the 730k has now been split into two, which gives a much better result for the industry. It is extremely important that, firstly, that split stays and, secondly, that the UK does not implement in a super equivalent manner.

  Both the FSA, the Treasury, are particularly involved in the negotiations and we trust that co-ordination between them will improve further.

CURRENT DISCREPANCIES

  One of the questions asked at the Committee was whether we were aware of any incidences at the moment where differential implementation arises or is likely to arise as the FSAP is implemented.

  Following on from the section above, under the current capital adequacy requirements, investment firms have to hold capital equivalent to 25% of annual costs. This is known as the expenditure based requirement or EBR. However, the UK includes more in the EBR calculation than any other EU country with the result that a UK firm has to hold more capital to be in business and so have higher costs than their competitors elsewhere. In addition, the UK included more firms into the capital requirements than others, indeed Germany excluded all its investment firms.

  Another discrepancy is likely to result from MiFID and will relate to what can be sold on an execution only basis. The UK has a large retail execution only business primarily for equities and collective investments (such as unit trusts). There is, in addition, a small amount of derivative execution only business. Meanwhile, in Italy the reverse is true in that the major retail execution only business is derivatives.

  MiFID expressly excludes derivatives from being sold on an execution only basis, however, it is not believed that in Italy this will make much difference. We understand from the Italian authorities that the terms "execution only" in their jurisdiction refers to the situation where there is no interference whatsoever. Therefore if in future, those with the execution only derivative sites put in a simple trading limit, the individual will still be able to trade in derivatives because this will no longer count as "execution only". However, such an action will not trigger suitability requirements either.

  In the UK however this is not the case and with the Directive expressly excluding derivatives on an execution only basis, that means that derivatives will not be bought and sold in this way in future. An individual therefore may well find post the implementation of MiFID that in spite of the EU countries having followed the same article in the Directive, there will be a different set of services available in one country compared with another.

  As more of these matters come to light, as this will be the case during the CESR process, we will of course be highlighting them and trying to see an equivalent of outcome as being the way forward.

  We look forward to the continued active interest of the Treasury Select Committee in this key inquiry area.

1 November 2004





 
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