Out-Law / Your Daily Need-To-Know

Senior financial services staff should consider potential D&O liability following Brexit

Out-Law Analysis | 16 Dec 2019 | 5:08 pm | 2 min. read

Senior staff at financial services firms should check that their directors' and officers' (D&O) insurance covers their decisions on whether or not to service customers in the EU after Brexit.

D&O insurance does not cover fines or penalties but can cover the defence costs of cooperating or responding to an investigation.

Firms face difficult decisions about whether to continue providing services to clients outside the UK if there is a no-deal Brexit or if the Brexit transition period ends on 31 December 2020 with no deal.

Firms with significant business within the EU have probably already set up a subsidiary or sold the business. More problematic is where there is only a handful of customers in an EU jurisdiction – too few to merit the significant cost of a corporate restructure or business transfer.

In these situations, firms might terminate all contracts with their EU-based customers, but this might not treat customers fairly or might run counter to the UK financial regulator’s concerns about vulnerable customers. There may be practical difficulties in obtaining instructions from customers based in EU jurisdictions who may not respond to termination notices. If it only has a few customers based in Europe the firm might decide that it is worth taking the risk of continuing to service them, despite the strict regulatory position not permitting the firm to do so.

More problematic is where there is only a handful of customers in an EU jurisdiction – too few to merit the significant cost of a corporate restructure or business transfer.

Taking these decisions might mean the duty of responsibility that senior managers have under the UK's Senior Managers and Certification Regime (SMCR) is breached. UK financial services regulators the Financial Conduct Authority (FCA) and Prudential Regulatory Authority (PRA) can take action against individual senior managers if there was misconduct by a senior manager’s firm at the time they were responsible for any of the firm’s activities in relation to which the misconduct occurred, and the senior manager did not take steps to prevent or address the misconduct.

The senior manager can be fined, face public censure and even given a ban from working in the industry if found guilty of breaching this duty. Being subject to regulatory scrutiny is not new but is made more likely by the existence of the SMCR, increased focus by the UK's financial regulators on culture and governance, and the challenges presented by Brexit.

D&O insurance protects senior staff, and senior managers must make sure they are included in their firm's policy. However no D&O policy will provide total protection. Most D&O policies exclude fines and penalties so most criminal penalties or penalties awarded by a financial regulator would be uninsurable.

But the biggest issue for senior managers is who will fund their defence costs of cooperating or responding to an investigation. These costs, and those of defending criminal proceedings, are likely to be covered by D&O insurance, but senior managers should check this is the case in their firm's policy.

Directors should also check policy exclusions based on their conduct and decision-making relating to Brexit. There is usually a conduct exclusion in a D&O policy which may apply to exclude certain losses. However, conduct exclusions usually have a fairly high threshold requiring that the individual has gained financially or has been fraudulent in order to exclude cover. These exclusions are also usually expressed to allow for defence costs until such time that fraudulent or illegal conduct is admitted or determined by a final, non-appealable judgement.

While existing policies should respond, take care with policy renewals taking place over the next few months. If there are specific Brexit related issues which senior managers are concerned about it is important that careful consideration is given to disclosing these to brokers. Failure to present a risk fairly at renewal can lead to insurers refusing to cover claims when they arise. At present the insurance market has not indicated any intention to include Brexit related exclusion clauses at D&O policy renewals, but it is advisable to review D&O policy wording in the context of Brexit to ensure that the level of cover available is suitable to respond to regulatory investigations.