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Update on the Senior Managers and Certification Regime

Business Meeting 8 Print publication

26/11/2015

Latest announcement and practical impact

The banking sector is preparing for the Senior Managers and Certification Regime (SM&CR) which will come into force with effect from 7 March 2016, regulated by the Prudential Regulation Authority (the PRA) and the Financial Conduct Authority (the FCA). The SM&CR has been met with trepidation by parts of the industry. The regime as currently drafted presumes that senior managers are responsible for any breach of their prescribed responsibilities. Many commentators have described this as a “presumption of responsibility” which placed the onus of proving that reasonable steps had been taken on senior managers, rather than on the regulators to show that senior managers had failed to discharge their responsibilities.

The government has just announced new proposals affecting the SM&CR. Many in the industry will welcome the change from the presumption of responsibility to the new statutory “duty of responsibility‟. However, the government has also decided to extend the regime to all regulated financial firms “during 2018‟ including insurers, investment firms, assets managers, brokers and consumer credit firms.

In this article, we consider what these proposals will mean in practice.

Current SM&CR – in force 7 March 2016

The SM&CR was announced in late 2015 as part of the government’s banking reforms following the recommendations of the independent Parliamentary Commission on Banking Standards. The purpose of the senior manager regime is to provide named senior individuals within firms with responsibilities for key parts of the firm’s business. The certification regime, on the other hand, will require firms to assess the fitness and propriety of staff in roles where there is a risk of “significant harm‟ to the firm or any of its customers. The SM&CR will also introduce new conduct rules that apply to all staff, except those carrying out ancillary functions such as receptionists and security guards.

Announcement of replacement of ‘presumption of responsibility’ with ‘duty of responsibility’

The government has just announced new proposals affecting the SM&CR. Many in the industry will welcome the change from the presumption of responsibility to the new statutory “duty of responsibility‟. Industry concerns around the presumption of responsibility centred on the view that this presumption created a “reverse burden of proof‟ i.e. that senior managers would have to demonstrate that they had discharged their responsibilities, rather than the regulators having to demonstrate that the senior managers had not discharged their responsibilities.

Proposals to extend SM&CR – expected to be in force 2018

The government has also announced that it will extend the regime to all regulated financial firms “during 2018‟ including insurers, investment firms, assets managers, brokers and consumer credit firms.

Key features of the SM&CR

The key feature of the SM&CR include:

Senior Managers Regime (SMR)

The SMR replaces the Approved Persons Regime which applied to individuals who held Significant Influence Functions within a firm. Instead, the SMR applies to all individuals performing Senior Management Functions (SMF) in a firm.

Individuals performing SMFs must be pre-approved by the regulators:

  • FCA SMFs: pre-approval from the FCA
  • PRA SMFs: pre-approval by the PRA with the FCA’s consent

The regulators will assess a candidate’s fitness and propriety for the role and will consider the firm’s checks and assessment of the candidate. Both regulators have power to engage with and take individual enforcement action against staff holding SMFs.

There are transitional provisions that apply to individuals who are already approved under the APR (known as “randfathering provisions”. However, affirms will have to submit applications for any new senior manager appointment or any material change in a senior manager’s role.

To accompany each application, firms must prepare individual statements of responsibility for each senior manager. Each senior manager’s statement will set out the areas of the firm’s regulated activities for which they are responsible. These statements must be resubmitted whenever there is a material change in the senior manager’s responsibilities.

Firms must also provide their regulator with a management responsibilities map which describes the firm’s management and governance arrangements and shows how responsibilities have been allocated and/or divided across the firm. This map must be updated on an annual basis.

For insurers, the Senior Insurance Managers Regime (SIMR) introduced by the PRA already incorporates some of the substantive ideas and principles underpinning the SM&CR. The introduction of SIMR will pave the way for the application of SM&CR to insurers.

Certification Regime

This regime applies to individuals who do not perform senior management functions, but whose roles are deemed capable of causing “significant harm” to the firm or its customers (significant harm functions). Individuals performing significant harm functions do not require approval from the regulators. However, firms must assess and certify the fitness and propriety of these individuals on recruitment and annually afterwards.

Rules of Conduct

The regulators have also introduced Rules of Conduct which reflect the core standards expected of staff who work in financial services firms. The Rules of Conduct replace the statements of principle made under the APR, and apply to persons within scope of the SMR, the certification regime and other relevant employees (including all those sitting on the board of an in-scope firm, and all non-executive directors (NEDs)).

There is no statutory requirement to report breaches and suspected breaches of the Rules of Conduct. However, FSMA requires firms to notify the regulators if they take disciplinary action against a member of staff for conduct which amounts to a breach of the Rules of Conduct.

Statutory Duty of Responsibility

A statutory duty of responsibility is applied to all senior managers to take reasonable steps to prevent regulatory breaches in their areas of responsibility. The regulators will only be able to take action if they can show that an individual failed to take the steps that is reasonable for a person in that position to take to prevent a regulatory breach. This replaces the ‘reverse burden of proof’ which would have applied under previous proposals.

Implications of the extension of the SM&CR

There are a number of legal and operational issues to consider prior to and during implementation of the extension of the SM&CR, including the design of efficient and compliant HR and IT processes.

The practical impact of the SM&CR will include:

  • There will be a reduction in the number of senior appointments made subject to prior regulatory approval. However, there may be an increase in costs per application, because of the nature of documentation (for example, individual statements of responsibility) and other information required.
  • Senior managers will want to carry out their own due diligence on the responsibilities that they are given and any handover from their predecessors before accepting a senior management function. Senior managers are likely to ask firms for their own legal advice on the responsibilities that they are asked to take on. They may also negotiate provisions in their service agreements or contracts which provide them with insurance and legal advice if the regulators challenge the way in which they discharge their responsibilities on behalf of the firm.
  • Senior managers and non-executive directors whose roles have expanded may seek additional pay or other remuneration to reflect their new responsibilities. Firms will need to balance any request for additional pay against the restrictions on their remuneration structure. It may also become more difficult to recruit non-executive directors who are willing to take on prescribed responsibilities.
  • Firms will need to consider updating their current policies to reflect the changes. For example, appraisal, performance and disciplinary procedures will need to reflect the new certification regime’s requirement for certified persons. In addition, firms will need to review their whistleblowing procedures in line with the regulators’ guidance.
  • There will be additional costs resulting from putting in place systems to ensure notification about, and training in, the Rules of Conduct. Firms will need to roll out appropriate policies and training to all affected staff.

Next steps

Firms should consider all internal processes that will be affected by the extension of the SM&CR. It is crucial that firms implement the SM&CR in a manner which will allow them to continue to operate effectively whilst remaining compliant with their legal and regulatory obligations.

The SM&CR comes into force for the banking sector from March 2016, with the extension to all financial services sectors intended to be implemented in 2018. Both the Treasury and the regulators are likely to consult on the specific content of the extended regime, including how it will apply to larger and smaller firms. It will be important to monitor future consultations to ensure that firms are prepared for implementation in advance of the date (circa 2018) to be fixed in due course.

How we can help

We regularly advise financial services firms developing compliance strategies and any impact on HR matters including senior executive agreements, remuneration, policies and training. If you would like to discuss how the extension of the SM&CR may impact on your firm, and how you can effectively restructure your internal processes to be compliant, please contact us.

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