The Edinburgh Reforms: key takeaways

On 9 December 2022, the UK Chancellor of the Exchequer announced a package of reforms to the UK financial services sector, known as the “Edinburgh Reforms”. The aim of these reforms is to support the government’s ambitions for the UK to be the “world’s most innovative and competitive global financial centre.” The Chancellor is also framing the Edinburgh Reforms as an opportunity to take advantage of “Brexit freedoms” to build a smarter regulatory framework. There are a total of 30 reform proposals within the Edinburgh Reforms, some of which reflect proposals already in the public domain but there are also a number of new announcements. In this briefing, we examine the key takeaways for our clients.

1. Smarter Regulatory Framework

New Policy Statement on UK Regulatory Framework

Post Brexit, the government has been working on the Future Regulatory Framework (FRF) Review, to determine how the UK could adapt its UK regulatory framework to take advantage of its position outside the EU. The FRF Review is to be delivered through the Financial Services and Markets Bill (FSM Bill) which is currently making its way through parliament. A key element of the FSM Bill is the repeal of retained EU Law (REUL) and to provide how this repealed regulation will be replaced with a tailored regulatory framework designed for the UK.

As part of driving forward this regulatory change, at the same time as the Edinburgh Reforms the government published a policy statement “Building a smarter financial services framework for the UK” which builds on the FRF Review to determine how the UK financial services regulatory framework should adapt post-Brexit. The policy statement sets out the plan and the tools the government intends to use to implement this new UK financial services regulatory framework. This is necessarily a major task and in order to try to manage this transformation the government will deliver the programme by splitting REUL into "tranches" and to deal with them in a stage-by-stage manner. Tranche 1 is underway with the outcomes arising from the Wholesale Markets Review, the Listing Review, Securitisation review and the Review into the Solvency II Directive.

The second tranche which is set out in the policy statement will include reform of MiFID II, Solvency II reforms, MMF Regulation reform, IDD reform, CRD IV reforms and reform of the consumer information rules in the Payment Accounts Regulations 2015. The government states that it "expects to make significant progress on tranches 1 and 2 by the end of 2023". What this means in practice is yet to be seen, however as most of the announcements in the Edinburgh Reforms relate to consultations on the items listed in the tranches.

New secondary objectives of growth and competitiveness for FCA and PRA

The FSM Bill will introduce new secondary objectives for the FCA and PRA to provide for a greater focus on growth and international competitiveness while maintaining their existing primary objectives. These additional objectives are set out in the new remit letters for the FCA and the PRA. 

A number of the above elements have been already on the regulator’s mind, in particular it is clear the FCA’s new Consumer Duty links to the “commitment to securing better outcomes for all consumers…” noted above. For further information on the Consumer Duty please see our guide here.

These additional objectives emphasise the importance of the financial sector to the economic growth of the UK and the importance of maintaining and improving the competitiveness of the sector. It is also a clear sign from the government that that it believes that the sector can now move on from the fallout of the financial crisis, when the focus was purely on the protection of consumers and the financial system to prevent loss. The government is signalling the importance of its growth agenda in one of the UK’s leading industries. As to what impact they have in practice we will have wait and see.

2. Reforms to Banking Regulation

Ring-fencing regime

In another sign that the government believes that the banking sector can move on from the financial crisis of 2007/2008, the government’s response to the independent Skeoch review on ring fencing and proprietary trading the government is planning to consult in 2023 on a number of reforms to the ring fencing regime including:

• take banking groups without major investment banking operations out of the regime,
• removing requirements from retail-focused banks where ring-fencing does not provide financial stability benefits,
• permitting ring-fenced banks to establish operations or service customers outside the EEA, and
• increasing the threshold at which the ring-fencing regime applies from £25 billion to £35 billion.

The government is also planning to review and update the list of activities which ring-fenced banks are not allowed to conduct to see whether these activities could be carried out by ring-fenced banks in order to improve the supply of financial services to consumers and businesses. For example, whether to allow ring-fenced banks to hedge mortality risk to provide lifetime mortgages and whether to allow ring-fenced banks to provide inflation swaps to facilitate more project finance, including infrastructure.

The government is also reviewing the practicalities of aligning the ring-fencing and resolution regimes, as the independent review found that the benefits of the ringfencing regime would decline over time as the resolution regime is embedded and deals with the problem of banks who are “too big to fail.” The government intends to issue a public Call for Evidence in the first quarter of 2023, which will inform measures the government intends to take during this parliament.

Non-performing exposures

In his Edinburgh Reforms, the Chancellor stated that the PRA intends to consult on removing rules for the capital deduction of certain non-performing exposures (NPEs) held by banks. The government believes that this would allow the PRA to apply a judgement-led approach to address the adequacy of firms’ provisioning for NPEs, help to simplify the UK rulebook and avoid the unnecessary gold plating of prudential standards. The Chancellor specifically identified this as a Brexit reform that would not have been possible without the UK leaving the EU.

3. Reforms aimed at Consumers and Businesses

Reform of the Consumer Credit Act 1974

The long overdue reform of the Consumer Credit Act and associated consumer lending rules was also announced as part of the Edinburgh Reforms, and HMT published consultation a on these reforms at the same time. The consultation is open until 17 March 2023. The consultation builds on both the FCA’s Retained Provisions Report and the Woolard Review.  Key elements highlighted for consultation and engagement with industry include:

• whether and to what extent the retained revision parts of the CCA should be replaced with FCA Rules
• whether the business lending scope of the CCA should be altered including should the £25,000 threshold for the business purpose exemption be removed
• whether more flexibility could be given to the form and timing of pre and post contractual information given to consumers
• whether the Consumer Understanding outcome specified in the new Consumer Duty substitutes the need for prescription to a certain extent
• what types of breaches of CCA rules should be subject to sanctions

Regulated financial advice and guidance

The Chancellor also announces that the government will work with the FCA to examine the boundary between regulated financial advice and financial guidance with the objective of improving access to helpful support, information and advice, while maintaining strong protections for consumers. This follows on from the FCA’s consultation in CP22/24 Broadening access to financial advice for mainstream investments.

Payment Accounts Regulations

A consultation on the information requirements in the Payment Account Regulations (PARs) was announced and is due to run until 17 February 2023.  

The consultation examines proposals to remove unnecessary customer information requirements related to bank accounts imposed by the EU in the PARs. Given the differences between EU and UK bank account models, e.g., the predominance of fee free banking provided the account remains in credit, a lot of these information requirements are not as relevant in the UK.

Plans to repeal PRIIPs

The government is also planning to repeal the UK PRIIPs regulation. It argues that industry feedback has demonstrated that it is not fit for purpose with its complex interaction with legislation and FCA rules and the over standardisation of the KID. Therefore HMT has consulted on a proposed alternative framework for retail disclosure in the UK. The government believes that the new regime should:

• reduce prescriptiveness and allow firms more flexibility in their disclosures
• integrate the UCITs and PRIIPs disclosure into a coherent UK retail disclosure framework
• remove the obligation to have comparability across a wide range of investment products

The government intends that the new retail disclosure rules will sit within the FCA’s remit, so we can expect further consultation from them in the future. Firms should also be aware that while the plans to repeal PRIIPs are to be prioritised, the incoming changes to the UK PRIIPs regime which take effect on 1 January 2023 are still going ahead. It will also be interesting to see how this regime will interact with the Consumer Duty, in particular the Consumer Understanding outcome element.

4. Reforms to the Senior Managers and Certification Regime (SMCR)

The chancellor has an announced a review of the SMCR with a Call for Evidence expected to be launched by HMT in Q1 2023. The Call for Evidence will look for views on the regime’s “effectiveness, scope and proportionality…” and to see how the regime could be reformed and improved. The FCA and PRA will also review the regulatory framework contained in their rulebooks. It is unlikely that there will be substantial changes to the regime as a result of this review and in any event any changes will be subject to rounds of consultation and policy statements, so any changes will take time.

The most immediate impact from this announcement is likely to be that further extension of the SMCR to Financial Market Infrastructures, payments and e-money firms is delayed. It may also mean that initiatives relating to SMCR, such as the FCA’s guidance on non-financial misconduct is deferred.

5. ESG announcements

Sustainable finance remains a priority for the government. The Chancellor stated that the government wants the UK to be the "world’s premier financial centre for sustainable finance". While there have been several developments in the ESG sphere in the UK in 2022 (see our timeline here) there is further work to be done and the Chancellor has announced the following steps:

• an updated Green Finance Strategy is to be published in early 2023 – this may provide more guidance on transition plans and the UK’s green taxonomy
• ESG ratings providers are to be brought into the regulatory perimeter – there will a consultation in Q1 2023

6. Reforms aimed at the Funds sector

The rationale for the Edinburgh reforms is that the government believes that these measures will "unleash the sector to drive investment and growth". As part of this drive for growth there are plans to simplify aspects of the regulatory system that affect various aspects of fund management:

• VAT treatment of fund management – a consultation has been launched with proposals for legislative reform intended to codify existing policy to give clarity and legal certainty. The consultation closes on 3 February 2023. It is worth noting that there is no reference to model portfolio management services being part of this review.
• New tax rules for REITs – with effect from April 2023, new rules will remove the requirement for a REIT to own at least three properties where they hold a single commercial property worth at least £20 million.
• Investment Manager Exemption to include cryptoassets – in line with the HMRC response to its earlier consultation the government will expand the Investment Manager Exemption to include cryptoassets which will facilitate their inclusion in the portfolios of overseas funds managed in the UK. This change will be made through HMRC regulations before the end of 2022.

7. Other reforms

We have highlighted above what we consider to be the most relevant reforms for our clients, but there were numerous other announcements made in the Chancellor’s speech including:

• Digital Pound Sterling: the Chancellor announced the publication of a consultation "in the coming weeks" to explore the case for a central bank digital currency – a sovereign digital pound.
• Regulating cryptoassets: the FSM Bill will bring a broader range of investment-related cryptoasset activities into the regulatory perimeter.
• Building Societies: when parliamentary time allows, the government intends to amend the Building Societies Act 1986 to give building societies in the UK greater flexibility to raise wholesale funds, enabling them to grow and compete on a more level playing field with retail banks.
• MiFID II: currently a regulation is before parliament to implement the changes to investor reporting as set out in the response to the Wholesale Market Review
• Short Selling Regulation: the government has published a Call for Evidence on a new short selling regulation to understand how to improve the regime. The Call for Evidence closes on 4 March 2023.
• Prospectus Regime: to help increase retail involvement in the ownership of public companies and to improve the attractiveness of the UK for IPOs the government will implement changes set out in the UK Listings Review in 2021.
• Securitisation Regulation: the government will work with the FCA and PRA to implement the reforms identified in the HMT’s 2021 review of the Securitisation Regulation.
• European Long-Term Investment Fund (ELTIF): this fund structure, which post Brexit was renamed UK Long-Term Investment Fund (UKLTIF) is being repealed. No ELTIFs or UKLTIFs were ever launched in the UK. Further, since Brexit the UK has launched the Long-Term Asset Fund (LTAF), and this is believed to be a more appropriate vehicle for the UK market. For more information on the LTAF, please see our briefing here.
• Solvency II: the government plans to reform Solvency II which it believes will unlock more than £100bn for UK insurers to invest in long-term productive assets.
• Local Government Pension Scheme: the Chancellor confirmed that there will be a consultation on new guidance in early 2023 around asset pooling in England and Wales.
• Pensions and Value for Money Framework: in 2023 the DWP alongside the FCA and Pensions Regulator, will consult on setting required metrics and standards in key areas such as investment performance, cost and charges and quality of service that all schemes must meet.

Conclusion

Firms and indeed the regulators themselves would be forgiven for thinking that they were already dealing with a weighty regulatory in-tray, without bumper additional regulation and its accompanying compliance costs. However, it is worth noting that many of the 30 Edinburgh Reforms have already been well trailed and will be on firm’s horizons, for example the changes flagged in the Wholesale Markets Review and its response. In addition, many of the changes aimed at improving and simplifying regulation aimed at consumers will likely interact with the obligations firms will have under the new Consumer Duty.

In terms of timing, most of the reforms are in the consultation phase, and the government implementation timetable indicates that this will be a long-term project. For firms that have significant involvement with the CCA, they should carefully consider the questions in the CP as this is a real opportunity to be feed into the much-needed reform of the consumer credit regulation in the UK.

We will be keeping a watching brief to see how the consultations develop in 2023 and the extent of “divergence" with the EU. While it is clear that the government does not want a “bonfire of regulation,” there should be scope for a more UK tailored financial services regulatory regime – for those UK firms without an EU offering this is likely to be welcome. However, for UK firms with both a UK and an EU offering a diverging UK regime is likely to mean further investment and additional costs in complying with a UK standalone regime.

If you require further information about anything covered in this briefing, please contact Grania Baird, or your usual contact at the firm on +44 (0)20 3375 7000.

This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.

© Farrer & Co LLP, December 2022