FCA takes tougher line on inducements as part of third MiFID II consultation

The FCA believes that requiring them to identify separate charges for each service will “create more competitive pressure on firms to justify the value for money of each component”, according to the regulator's consultation paper.

The consultation sets out the FCA’s proposals for modifying inducement and research rules, costs and charges disclosure rules, and guidance on fair treatment of customers in order to bring them into line with the new regime. The regulator also intends to extend to financial advisers the requirement to tape telephone calls with customers, although it is “open to receiving and exploring suggestions on alternative proposals” for smaller firms.

MiFID II comes into force on 3 January 2018, and the FCA expects to publish a fourth consultation paper on aspects of the new regime before the end of this year. In a statement, FCA chief executive Andrew Bailey confirmed the regulator’s intention to implement the rules in full despite the UK’s recent vote to leave the EU, and reminded firms of their duty to “continue to abide by their obligations under UK law including those derived from EU law”.

“Strengthening consumer protection is one of the key aims of MiFID II and this aligns with, and advances, our own statutory objectives,” he said. “The changes to rules we are proposing … reflect key themes that we have worked on in both retail and wholesale markets over recent years to promote competition and market integrity.”

Once in force, MiFID II will revise and update the existing MiFID rules applicable to investment services across the European Economic Area (EEA). The revised regime is designed to take into account developments in the trading environment since the original directive came into force, and also aims to strengthen investor protection and increase market resilience.

The revised rules will also apply to a broader range of financial instruments, trading venues and techniques, notably the use of algorithmic high-frequency trading. These range from global investment banks trading complex securities to fund managers, stockbrokers and independent high street financial advisers providing advice to the general public.

The FCA’s third consultation paper focuses on the investor protection aspects of the new directive. It follows a December 2015 consultation paper, covering mainly market issues; and a July 2016 consultation paper, which covered a range of issues including commodity derivatives and systems and controls requirements.

The FCA intends to implement the ban on inducements in MiFID II as is, as far as it applies to firms providing independent investment advice and portfolio management services to professional clients. It will extend the MiFID II ban on inducements for those providing investment advice and portfolio management services to retail clients so that it covers restricted and independent advice, and to prohibit the acceptance of commission and benefits instead of banning the acceptance and retention of them. This will effectively ban the rebate of the inducement to retail clients. It will also amend the adviser charging rules so as to apply the ban to providing advice, instead of to inducements that relate to a particular personal recommendation to a client.

On the taping regime, the FCA has proposed to keep a taping regime for non-MiFID firms and to apply a taping regime to cover all ‘Article 3’ firms, including financial advice firms exempt from MiFID II under Article 3 but subject to requirements "at least analogous" to specified conduct and organisational requirements. It is doing so based on information from the Financial Ombudsman Service (FOS), which it claims shows that “the majority of complaints about investments centre on the conversations that happened when they are sold”, according to the consultation paper.

“We think taping conversations between firms and their clients is likely to be an effective way of advancing our consumer protection objective,” the FCA said. “However, we remain open, particularly for smaller financial advisers, to considering whether an alternative approach could help us to achieve a similar level of consumer protection in this area as taping but at a lower cost for firms.”

Firms will be required to retain the recordings for five years, instead of the six months required by the FCA’s existing taping rules.

Financial services regulation expert Michael Lewis of Pinsent Masons, the law firm behind Out-Law.com, said that the consultation paper had been “eagerly awaited by firms”, as it “addresses key issues – on inducements and other investor protection issues – which have been the subject of much work and discussion”.

“Firms will be keen to test their plans for compliance with the rules in these areas against the views of the FCA to check they remain on the right track,” he said.

Comments on the consultation are asked for by 4 January 2017, although FCA requires comments on the supervision manual, authorisation and approved persons proposals in Chapter 16 of the consultation paper by 31 October 2016.