Engaging the UK Financial Regulators - Why conversation beats challenge?

The UK’s two financial regulators are charged principally with protecting consumers and ensuring  banks and insurers operate prudently.  Their three key functions – authorisation, supervision, and enforcement – encompass the regulatory lifecycle from cradle to grave.  Authorisation ensures that only a fit and proper firm is licensed for business. Supervision conducts checks to ensure a firm's compliance, and enforcement punishes individuals and firms for breaches.

In exercising their formal powers, regulators have historically focused on disciplinary action for crystallised misconduct. However, they are now putting more onus on front-end regulation in authorisation and supervision.  There are multiple drivers behind this change.  Both the conduct regulator, the Financial Conduct Authority (FCA), and the Prudential Regulation Authority (PRA), responsible for the UK’s banks and insurers, have come to recognise that preventing misconduct before it occurs, or halting it as soon it is detected, is the most effective way to carry out their regulatory remit.  Too often consumers have been harmed by the 50,000-plus firms regulated by the FCA that are too small to receive any routine supervisory contact.  This makes it imperative for the FCA to police market entry more effectively, and to stem the risk of authorised firms causing customer loss.

Moving quickly helps avert criticism.  The FCA has come under repeated censure for failing to protect consumers against scams, whether it is mini-bonds, the collapse of London Capital and Finance, or retirees persuaded to transfer out of safe pensions. All of these irregularities involved small firms.  The FCA is also seeking to reduce claims falling on the Financial Services Compensation Scheme (FSCS).  Funded by industry levy, this is the safety net of last resort, meeting (within strict limits) investor claims arising from the failure of an FCA or PRA-authorised firm.  By intervening more quickly with risky firms, the FCA hopes to reduce the incidence of claims falling on the FSCS. 

Some anonymised examples drawn from our current caseload show how this new activist policy works in practice.  These examples are from the authorisation stage where the FCA focuses on ensuring the quality of market entrants:

1. The challenged authorisation – an insurer applies for FCA authorisation. The FCA is concerned about some aspects of its business plan and invites the promoters to withdraw the application. If the firm fails to do this, the FCA will commence the formal refusal process.
2. The challenged approval – a bank applies for the FCA to approve a senior individual as its chief executive.  The FCA states that it will refuse the application because it considers the proposed individual to be not fit and proper based on a reference from a past employer.
3. The challenged takeover – a large overseas institution has agreed to purchase a UK bank, requiring approval as a “change in control” from both the PRA and the FCA.  They propose refusal because adverse press coverage about the acquirer’s management in its home state suggests it is not fit and proper.
   
   Another, increasingly common, situation occurs during the supervision process:
4. The sudden intervention – the FCA contacts a retail finance business and invites it to surrender its permission because of allegations that its sales force uses high-pressure sales practices.  In another instance, the FCA contacts a private client wealth manager and requires it to cease business immediately because of concerns over its handling of client assets.

In authorisation cases such as (1) to (3) the regulator will first indicate its concerns, in writing or at a meeting, giving the applicant the opportunity to respond.  If dissatisfied with the response, the regulator invites the applicant to withdraw by a “minded to refuse” letter detailing its objections and inviting the applicant’s response.  If the applicant continues, the regulator will commence the following formal Statutory Notice procedure:

1. The Warning Notice – this sets out the regulator’s concerns, often in more detail than the preceding “minded to refuse” letter.  The applicant must respond within 28 days but is usually granted an extension.  This is the applicant’s last opportunity to influence the regulator, but there are two snags.  First, by this stage the regulator has all but made up its mind and there is unlikely to be any change without some startling new facts.  Second, the FCA decides the issue on papers alone; applicants can no longer present in person to the decision-maker.  This retrograde step, recently taken in the “interests of efficiency”, deprives applicants a key opportunity to fully engage with the regulator.
2. The Decision Notice – if the regulator decides to refuse the application, it issues (and invariably publishes) a Decision Notice containing its reasons.  The applicant may require that the Upper Tribunal considers the decision, otherwise the regulator issues a Final Notice representing its conclusive determination.  
3. The Upper Tribunal – the Upper Tribunal is an expert court specialising in financial regulation, which offers independent judicial consideration of the matter from a fresh start and not as an appeal.  If it upholds an authorisation or supervision case – as sometimes happens – it can remit it to the regulator with instructions to reconsider in accordance with its findings of fact.  But, despite being intended to provide “a quick and informal process”, this process is painfully slow.   On 1 May 2023, there were 25 pending cases, submitted within the last two years, and a single listed case that had waited two years to be heard.

In a supervision case such as example (4), the FCA will usually send a written notification of its concerns, inviting the firm to apply for a “variation of permission” to restrict its business, failing which it will exercise its statutory power to this effect.  In urgent cases, the FCA may intervene immediately to halt a firm’s business, for instance where it suspects dissipation of assets or dishonesty.  The FCA follows a similar procedure to authorisation cases. If not urgent, it issues a First Supervisory Notice to which the firm can respond, followed by a Second Supervisory Notice that the firm can challenge before the Tribunal.  In an urgent case, the FCA can issue a First Supervisory Notice with immediate effect, suspending the firm’s business pending any challenge to the Tribunal.

There are two features to this Statutory Notice procedure common to both authorisations and supervision.  First, the process does not necessarily make it easy to persuade a regulator to change its mind.  While this certainly can happen, it is difficult to achieve on paper alone.  Second, the Tribunal offers a remedy simultaneously real and illusory.  The Tribunal had a distinguished track record of protecting against irrational decisions by examining evidence and judicially evaluating the regulator’s proposed action.  However, where your authorisation is refused, or your business stopped in its tracks, there can be few clearer examples of “justice delayed is justice denied” than having to wait two years before your case is heard.  Further, because the statute prescribes that challenges to Statutory Notices are to be determined by the Tribunal, there is no realistic prospect of taking the regulator to court for judicial review.¹

This highlights the importance of not getting caught in the Statutory Notice process and the limitations of the Tribunal.  Of course, this may be unavoidable. A firm confronted with an immediate shut-down order has little choice.  But in other cases, there may be concrete steps that can be taken to address the regulator’s concerns before they become a threat.

1. Know the red lines – both the PRA and the FCA have published extensive material on their websites covering most aspects of their work.  These offer valuable information on pre-empting regulatory concern.  Of especial relevance is the PRA’s material on governance and operational resilience, and the FCA’s Dear CEO letters setting out its conduct expectations for firms in different sectors.
2. Talk if you can – while the regulators can be reluctant to engage, a meeting or telephone conversation can help to understand the regulator’s viewpoint and offer an opportunity to explore a solution in a way that emails do not.
3. Understand the agenda – the regulators’ key objectives are to achieve stability and conduct goals.  Look at the issue through their eyes and see what you can offer: strengthening governance, enhancing procedures or offering a past business review may be what is needed.
4. Seek to cooperate – the regulators rarely shy away from a challenge so, where practicable, it may be better to resolve concerns through cooperation rather than a fight.
5. Be credible – every regulatory engagement is an opportunity to enhance trustworthiness in the regulator’s eyes.  Recognising and addressing concerns, even if you disagree with them, can help establish your credibility.

In conclusion, UK regulators are increasingly concentrating their powers at the gateway and in halting what they view as the risk of damage.  The Statutory Notice process incorporates multiple safeguards but these are sub-optimal in practice, which highlights the advantage of reaching agreement with the regulators by other means.

¹ See R (on the application of Christopher Willford) v FSA [2013] EWCA Civ 677.