FCA updates guidance to insolvency practitioners appointed over regulated firms

The Financial Conduct Authority (FCA) updated non-Handbook guidance (55-page / 444KB PDF) is relevant to IPs appointed, or looking to be appointed, over financial services firms which are regulated by the FCA, or dual regulated by the FCA and Prudential Regulation Authority (PRA).

When entering into an insolvency process, a firm continues to be subject to its regulatory responsibilities up until its regulatory permissions are withdrawn or cancelled. Whilst the FCA acknowledges that it cannot always stop firms failing, it aims to help minimise disorderly failures that cause serious harm to both consumers and markets. This involves the regulator working with IPs appointed over regulated firms to reduce such harm where possible.

Here, we consider the impact of the most significant updates to the guidance.

Sufficient experience for the appointment of an IP over a regulated firm

The guidance has previously made clear that an IP should only accept an insolvency appointment where the IP has or can acquire sufficient expertise. The guidance now also states that the way in which an IP will need to approach the insolvency of a firm will be driven by its characteristics and the market in which the firm operates, with an awareness that firms regulated by the FCA cover a wide range of entities operating in different areas of the financial services sector.

The guidance also stresses that an IP should check the FCA register and other sources to determine the regulatory status of the firm and the identity of its senior management. We consider it is prudent for the prospective IP to also raise appropriate questions with management and compliance personnel to understand the operations of the firm and whether the firm’s profile on the Financial Services Register fully reflects its regulatory record. For example, we are aware of a previous circumstance where the firm was subject to a voluntary requirement (VREQ), but this had not been included on the firm’s profile on the Financial Services Register at the point the IP was due to be appointed and was preparing a wind down plan.

Impact of consumer duty

The FCA’s consumer duty is a significant initiative introduced on 31 July 2023 which focuses on implementing higher and clearer standards of consumer protection across financial services. It requires firms to act to deliver good outcomes for retail customers and, notably, to be able to evidence whether those outcomes are being met. The duty also requires firms to consider the needs, characteristics and objectives of their customers at every stage of the customer journey.

In the FCA’s feedback statement (16-page / 338KB PDF) concerning its original proposed amendments to the guidance, the regulator noted that some of the market responses queried whether a conflict arose between the need for IPs to comply with the consumer duty whilst also having obligations to act in the best interests of creditors of the insolvent firm. The FCA’s response to this consultation was to acknowledge that IPs must indeed act in the interests of creditors, but that the FCA did not consider that compliance with the consumer duty would provide any conflict in respect of this.

Throughout the guidance, the FCA has implemented provisions to clarify its expectations that IPs should bear the consumer duty in mind when communicating with its retail clients and ensure that communications are likely to be understood by the relevant audience; and that they should consider how best to deal with customers with vulnerable characteristics on a case by case basis.

Given its recent implementation and focus, IPs’ compliance with the consumer duty is being actively scrutinised. Early engagement with the FCA particularly in respect of communication plans with customers is key, as the FCA takes an active interest in the engagement being undertaken with customers and whether it is appropriate and easy for customers to understand. Proactive engagement with the FCA assists with the IP’s attempts to implement solutions in an efficient manner.

Restructuring options and compromises

In July 2022, the FCA published guidance clarifying how it approaches compromises - where a firm considers using procedures to restructure its liabilities, such as a scheme of arrangement, company voluntary arrangement or restructuring plan.

The updated guidance now specifically states that IPs should take account of this guidance, which sets out the relevant factors that the FCA will take into account when deciding if and what actions it will take to secure an appropriate degree of protection for consumers and to protect and enhance the integrity of the UK financial markets. The FCA has also made clear that preparing for a compromise without notifying the FCA of the proposals is a breach of Principle 11, which requires firms to deal with regulators in an open and co-operative way and disclose anything relating to the firm of which the regulator would reasonably expect notice.

Providing the FCA with proposals at an early stage to enable it to undertake an assessment of the compromise is key, and can avoid delays and increased costs if issues arise at a later stage as a result of the FCA receiving late notification or if the court challenges the company on whether there has been sufficient engagement with the regulator. The FCA’s 2022 guidance sets out that the court will generally be interested in the FCA’s view as regulator of firms proposing compromises, especially given its knowledge of the regulated firm and its business. In the context of schemes of arrangement we have seen the willingness of the FCA to set out its position and any concerns to the court where it feels it necessary to do so – such as in the Re Provident Ltd case in 2021. Such a situation has not yet arisen in the context of a restructuring plan. However, as set out in the 2022 guidance, we expect that the FCA will also take an active role in restructuring plans proposed by regulated firms where necessary. Engagement with the FCA on compromise proposals, and any concerns that it has about those proposals, is likely to minimise the need for the FCA to attend hearings or creditor meetings to make representations.

Payments and E-Money Special Administration Regime

Payments and e-money institutions adhere to a catered insolvency regime: the Payments and E-Money Special Administration Regime (PESAR). The guidance has clarified that if a payment or e-money firm is eligible to enter into a special administration under PESAR, but is instead considering entering into a different insolvency procedure, an IP may not be appointed over the firm unless the FCA is notified of preliminary steps taken in respect of that procedure and the FCA has either consented, or the two-week period provided for by the regime has elapsed without objection.

In our experience, where an alternative insolvency procedure to special administration is considered, it is prudent when notifying the FCA of the steps being taken in respect of that procedure to provide the FCA with substantive reasons why the alternative procedure is considered more appropriate and the cost implications of proceeding with such a procedure as opposed to a special administration. In considering the request, the FCA may liaise with the prospective IP on such issues and therefore proactively providing such information can assist with faster determinations – something which is often key for a business whose financial position is rapidly deteriorating.

Availability of the Financial Services Compensation Scheme for payments and e-money customers

In March 2023, the PRA amended its rules to make the Financial Services Compensation Scheme (FSCS) depositor protection available to eligible customers of an electronic money institution or payments institution in respect of their proportion of safeguarded funds should a credit institution holding the deposits fail.

To reflect this, the FCA has updated its guidance but made clear that IPs should avoid giving customers misleading impressions or assurances on the protection that they can receive from the FSCS. This is because the availability of FSCS depositor protection depends on the particular facts of the case, and therefore whilst customers will generally need to be informed of their options to seek payment from the FSCS, it would be prudent to avoid generalisations on recovery prospects in communications with customers.

Seeking directions from the court on distribution of client monies

Where a regulated firm holds client monies when it enters into an insolvency process, the IP will need to consider the FCA’s Client Asset Sourcebook (CASS) for rules on distributing the client monies to those customers beneficially entitled.

The guidance has added wording which acknowledges that there may be instances where an IP considers it appropriate to seek directions from the court concerning the return of client assets but, where such directions relate to matters already addressed by CASS, the FCA does not think it is appropriate for clients to bear the costs of the IP having recourse to the court.

In our experience, the state of the firm’s books and records is often poor on its entry into an insolvency process and there are often difficulties reconciling the client monies held by the firm. In such circumstances, it can be appropriate for the IPs to consider an application to court for the approval of a distribution plan to provide a clear process for customers seeking to claim their entitlement and terms for distributing the client monies, with the inclusion of bar dates to provide IPs with certainty as to claims. If this approach is considered, the guidance notes that engagement with the FCA – in respect of both the appropriateness of such a plan and its terms – should  be carried out at an early stage and the FCA should be routinely kept appraised of developments throughout the application process.

Implications of Ipagoo case

In 2022, in a case involving Ipagoo LLP, the Court of Appeal held that the Electronic Money Regulations 2011 do not create a statutory trust over funds held by an electronic money institution, but stated that the asset pool to be distributed to cover claims of electronic money holders includes not only relevant funds that have been properly safeguarded, but also an amount equivalent to relevant funds that should have been safeguarded but were not.

The guidance now refers to this case and informs IPs of the need to ‘top-up’ the asset pool from the insolvent estate where there is a shortfall in the safeguarded funds. It notes that there is some legal uncertainty generated by the Ipagoo decision in respect of how any top-up required should rank against creditor claims, and highlights that if the FCA’s proposals for a statutory trust over relevant funds are implemented, the principles of the Ipagoo judgment would no longer apply. The FCA is currently updating the safeguarding framework for payment funds and, once finalised, it will assess how any changes affect this guidance.

Information requirements and investigations

The guidance makes clear that the FCA has powers to require the provision of information or documents for the purposes of supervising or investigating regulated firms. The FCA will work with the IP to ensure the scope of any requirements is proportionate. Compliance is mandatory and it is expected that the IP will cooperate fully with investigations and retain firm records where a firm in an insolvency procedure is under investigation.

The updated guidance takes into account comments provided by the market in consultation feedback and seeks to provide greater clarification for IPs on managing the insolvencies of regulated firms. A consistent theme that runs throughout the guidance and the updates is the need for IPs to routinely keep the FCA appraised of matters relating to the firm and to engage with the FCA at early stages with regards to any material developments on which the FCA should have input. This can include important matters such as restructuring proposals, court applications and communications to consumers where the FCA will take an active role, and seeking its input will likely avoid potential delays or increased costs that otherwise might occur.

Co-written by Dre Efthymiou of Pinsent Masons.