On 16 April, the European Parliament adopted in Plenary a Regulation on the prudential requirements for investment firms (IFR) and a Directive on the prudential supervision of investment firms (IFD). IFR/IFD introduces prudential requirements for investment firms, tailored to their activities and asset size. IFR/IFD also revises the MiFID II/MiFIR third-country regime for investment services.
This blog provides a short summary of the changes contained in IFR/IFD. Please see here for our detailed briefing on IFR/IFD.
New prudential regime
The prudential regime that will apply to investment firms under IFR/IFD will depend upon their category (we will refer to these as “classes” for ease of reference, although this is not official IFR/IFD terminology). While firms will need to read the text closely to determine which category applies to them, broadly speaking, firms’ categories will depend upon their asset size and the riskiness of their activities.
“Class 1” and “class 1 minus” firms will be those which deal on their own account and/or underwrite or place financial instruments on a firm commitment basis and satisfy certain threshold criteria. While the text sets out how the asset size thresholds apply to the undertaking itself and, where relevant, other entities in the group, in general, the thresholds are set at EUR 30bn for “class 1” firms and EUR 15bn for “class 1 minus” firms. Subject to certain conditions, firms that do not otherwise meet the “class 1 minus” criteria may be able to “opt in” to the regime, or be placed into it by competent authorities where the total value of their consolidated assets exceeds EUR 5bn. Both “class 1” and “class 1 minus” firms will continue to be subject to CRD 4/CRR (and, in future, CRD 5/CRR 2). While “class 1 minus” firms will remain authorised as investment firms, “class 1” firms will be re-categorised as credit institutions and will need to re-authorise as such, making them subject to the Single Supervisory Mechanism (SSM) if located in the Eurozone.
The “class 2” category comes next in terms of asset size and riskiness of activities and will be the default for all investment firms that do not meet the criteria for the other categories. Finally, the “class 3” category will be made up of “small and non-interconnected firms” which do not undertake any higher risk activities and whose activities fall below relevant thresholds. Firms in these categories will be subject to the new regimes under IFR/IFD and see potential changes across a number of areas, such as own funds requirements, the Internal Capital Adequacy and Risk Assessment Process, the Supervisory Review and Evaluation Process, liquidity requirements, prudential consolidation, governance, disclosure, and remuneration.
While many investment firms will see a tailored regime as a positive step, the implications of the new regime will differ from firm to firm. Each firm will need to assess what the regime change means for it and take action accordingly.
Revisions to MiFID II/MiFIR third-country regime for investment services
The revised regime is not as restrictive in terms of market access as it could have been, based on some of the proposals that were put forward during negotiations. However, in the event that third countries are deemed equivalent in future, firms are likely to face additional requirements. The revisions also pave the way for the possibility of partial equivalence, with national regimes continuing to apply for those services/activities where the European Commission has not granted equivalence.
We expect publication in the Official Journal around Q3 2019. IFR/IFD will apply 18 months after entry into force, although firms should note that the texts contain additional detail on timelines, for example, on a transitional period for “class 2 and 3” firms to adjust to the new prudential regime.
In its 2019/20 Business Plan, the FCA confirmed that it will consult on introducing a new prudential regime for investment firms, aligned to IFR/IFD, in Q4 2019, once the EU IFR/IFD is finalised.
Firms should now review the IFR/IFD requirements and do an initial assessment of which category they will fall into and what the rule changes could mean for them. In addition, firms should also bear in mind how planned strategy and business model changes could affect their “class” category, for example, where firms are building their investment services/activities in the EU.
In many areas, key implications will not be known fully until the supporting delegated acts, implementing acts and technical standards are developed. Therefore, it may be some time before firms truly understand what the rule changes mean for them and how well the new made-to-measure prudential regime really fits.