Out-Law News 4 min. read
07 Jul 2009, 2:21 pm
The framework aims to make it easier to understand how the FSA decides what financial penalty to impose and improve consistency. But the regulator has also taken the opportunity to toughen up its fines substantially.
The FSA's aim is to achieve "credible deterrence" by concentrating on enforcement actions that make a real difference to consumers and markets and by using its powers to change behaviour in the industry as a whole.
"To achieve credible deterrence, wrongdoers must not only realise that they face a real and tangible risk of being held to account, but must also expect a significant penalty," the FSA states in its consultation paper.
"We believe that our penalties need to be increased. We have repeatedly seen breaches in particular areas (for example the sale of payment protection insurance and market misconduct) where insufficient account has been taken of previous enforcement action."
Under the new system, firms could be fined up to 20% of relevant income and individuals up to 40% of their total salary and benefits for regulatory breaches. Individuals found guilty of market abuse, such as insider trading, would face a minimum penalty of £100,000.
The framework has been deliberately designed to be harder on individuals, reflecting the FSA's increased emphasis on the responsibilities of senior management and those who exercise "significant influence" in a firm.
"We consider this approach is justified because action against individuals has a significantly greater impact in terms of deterrence than action against firms, and this focus on individuals is a key component of our credible deterrence philosophy" the paper states.
Launching the consultation on 6th July, Margaret Cole, director of enforcement at the FSA, said:
"These proposals are an important step in pushing forward our ethos of credible deterrence. By hitting companies and individuals in the pocket where it hurts, the fines will be a stark warning to others on what they can expect to pay for flouting our rules.
"Moving to this new framework will enable our enforcement policy to continue making a real difference to consumers and to changing behaviour in the financial services sector," Cole added.
The paper sets out a five step system for calculating financial penalties for both firms and individuals.
Under the first step ("disgorgement"), the FSA would deprive the firm or person of any quantifiable benefit derived from the breach, such as a profit made or loss avoided.
Where a firm either agrees to carry out a programme to compensate consumers or has one imposed by the FSA, this will be taken into account. If the programme effectively cancels out any benefit received, there may be no need for disgorgement at all.
The second step ("discipline") imposes fixed fine levels according to the nature, impact and seriousness of the breach. In choosing which level to apply, the FSA will take into account such things as the number of customers affected, whether the breach reveals widespread and systemic weaknesses in the firm's internal controls and whether the behaviour was deliberate or reckless.
In cases against firms, the figure will be 0%, 5%, 10%, 15% or 20% of the firm's relevant pre-tax income – that is, income earned from the product or business area to which the breach relates, for a minimum of 12 months or for the period of the breach, if longer.
For individuals, the figures are higher. In non-market abuse cases, individuals may face fines of 0%, 10%, 20%, 30% or 40% of the gross benefits earned from relevant employment over the last year or for the period of the breach, if longer. This covers the person's salary, bonus, pension contributions, share options and other benefits.
In market abuse cases against individuals, however, where actions are often pre-meditated, the step two figure will be 40% of employment benefits, or twice the profit made or loss avoided as a direct result of the abuse, or £100,000, whichever is the higher.
Under step three, the regulator can adjust the step two figure to take into account mitigating or aggravating circumstances.
Factors to be taken into account would include the conduct of the firm in bringing the problem to the FSA's attention, the level of cooperation shown during the investigation, the extent to which senior management were aware of the breach and took any remedial action and the firm's or individual's disciplinary record and compliance history.
Step four ("deterrence") allows the FSA to increase the penalty if the figure reached after step three is not enough to act as a credible deterrent, either to the individual or firm concerned or to the wider market. This would include situations where industry standards have failed to improve despite previous regulatory action.
Lastly, under step five, the regulator will apply a discount of up to 30% for early settlement, as under the current regime. No reduction will, however, be applied to the step one disgorgement figure.
The paper also asks for comment on dealing with cases where the penalty would result in serious financial hardship.
The FSA's starting point is that serious financial hardship should be irrelevant to the level of fine and should only be taken into account after the amount has been set, if at all.
Where a fine is imposed on a firm, the FSA proposes that possible insolvency should be one of the factors it takes into account when deciding whether or not to reduce a penalty in a particular case. If, for example, consumers would be harmed or market confidence would suffer, it may be appropriate to reduce the fine to allow the firm to continue in business and/or pay compensation.
In the case of individuals, the FSA suggests either not reducing the penalty at all, or only doing so if paying the fine would result in the person's net income and capital falling below set thresholds.
The consultation closes on 21st October 2009. The FSA hopes to publish its feedback on the responses and its final rules in the first quarter of 2010. The new policy is likely to apply to breaches committed after February 2010.