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Funds Annual Briefing 2020 - Spotlight: on your radar

Funds Annual Briefing 2020 - Spotlight: on your radar

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A focus by the European regulator on the application of the market abuse regime to collective investment undertakings

In October 2019, ESMA published a consultation paper on the Market Abuse Regulation ("MAR") covering a range of issues.

By way of background, the European Commission is required, under Article 38 of MAR, to submit a report to the European Parliament and the Council of the EU to assess various provisions of MAR. In March 2019, it formally requested technical advice from ESMA on the report (the "Commission’s Mandate"). ESMA is consulting in response to this request. The consultation covers the topics included under Article 38 of MAR, together with a set of additional elements arising out of the Commission's request to ESMA. In addition, it incorporates several other issues ESMA has identified as closely linked to some of these topics and connected elements, which ESMA considers should be addressed jointly.

The consultation includes a chapter focussing on collective investment undertakings ("CIUs") (notwithstanding the fact that the Commission’s Mandate refers to all CIUs, ESMA considers the consultation to be of relevance to only those CIUs admitted to trading or trading on a trading venue). ESMA acknowledges that there might be elements making the application of MAR to CIUs vis-à-vis other issuers more difficult: the fact that a significant number of CIUs do not have legal personality, and the role played in CIUs by external companies (e.g. management companies, asset managers, depositaries), the specificities of CIUs in terms of investment strategies and the determination of net asset value (both for CIUs with and without personality), has led ESMA to analyse whether it is necessary to apply the MAR provisions for issuers to them.

ESMA is therefore seeking opinions as to whether there is a need for MAR to be amended to explicitly include or exclude CIUs in respect of the following:


ESMA's preliminary view is that there are grounds to consider that MAR should explicitly include PDMR obligations for CIU management companies.

PDMR obligations

In its mandate, the Commission stated that the definition of a person discharging managerial responsibilities (PDMR) might raise some doubts as to whether it is capable of covering managers in external management companies managing investment funds without a legal personality. The same logic applies to investment funds with a legal personality managed externally. The Commission therefore asked ESMA to assess whether there is a need for the managers of management companies to be covered by the requirement to disclose their transactions and how to best adapt the scope of that requirement to ensure a level regulatory playing field between different management structures. ESMA has identified three areas to consider in respect of this:

  • The need to explicitly cover PDMR obligations to management companies of CIUs: ESMA’s preliminary view is that there are grounds to consider that MAR should explicitly cover PDMR obligations to CIUs and their management companies:

  • The identification of the individuals who should be captured by PDMR obligations: ESMA suggests that, were the PDMR obligations explicitly extended to CIUs, there would be two types of PDMRs (i) the individuals that currently meet the definition of PDMR as they are genuinely ‘within the issuer’, e.g. as members of the administrative body of an investment company; and (ii) the ‘relevant persons’ (the definition of which would mirror the definition in the UCITS Directive) from the management company (or from external service providers acting for the CIU in question). Further, were the PDMR obligations to be extended, ESMA has not found any reason to exclude ‘closely associated persons’ from the scope of the PDMR obligations. ESMA also asks for views on whether entities other than the asset management company (e.g. depositaries) and other entities on which the CIUs has delegated the execution of certain tasks should be captured by the PDMR regime; and

  • The revision of the financial instruments that determine the scope of PDMR obligations: ESMA agrees with the analysis made by the Commission that a strict reading of Article 19(1)(a) leads to the conclusion that it does not apply to CIUs issuing units, because this Article only refers explicitly to shares and debt instruments. To avoid creating an unlevel playing field between those that issue shares and those that issue units, were the PDMR obligations to be extended Article 19(1)(a) should be amended to expressly refer to units.

Disclosure of inside information

In March 2019, ESMA clarified in a Q&A that the disclosure obligation of Article 17 of MAR also applies to financial instruments admitted to trading or traded on a trading venue issued by a CIUs without legal personality, which is considered for these purposes as the ‘issuer’. ESMA also clarified that the management company managing the CIU could be held responsible for a potential infringement of the CIU’s obligation to disclose inside information under Article 17 of MAR.

However, the preparatory analysis carried out by ESMA for the Q&A made clear that in some Member States it might be difficult to enforce these obligations due to the lack of legal personality of the issuer. Consequently, ESMA is seeking views on the need for amending Article 17 of MAR to ensure the disclosure of inside information by CIUs without legal personality. ESMA’s preliminary view is that the management company should be responsible for the publication of inside information, with the other entities involved responsible for reporting to it any information that might be of relevance immediately.

Insider lists

ESMA’s preliminary view is that the MAR provisions on insider lists equally apply to CIUs and that there is no need to further amend Article 18 of MAR in this respect, but it is seeking views on whether specific obligations are needed for ‘elaborating’ insider lists related to CIUs.

PDMR notifications: de-minimis thresholds 

Elsewhere in the consultation, ESMA seeks views on the de-minimis thresholds relating to PDMRs and PCAs notification requirements. MAR currently provides that no notification obligation applies where the financial instrument concerned by the relevant transaction is a unit or share in a CIU in which the exposure to the issuer's shares or debt instruments does not exceed 20% of the assets held by the collective investment undertaking. MAR further provides that the notification obligation does not apply to transactions concerning financial instruments which have exposure to a portfolio of assets in which the exposure to the issuer's shares or debt instruments does not exceed 20% of the portfolio's assets. These provisions were brought in on 1 January 2018; ESMA is seeking views as to whether the thresholds are appropriate or not.

A wide range of other issues are covered in the consultation including:

  • The appropriateness of introducing common rules on the need for all Member States to provide for administrative sanctions for insider dealing and market manipulation;

  • The definition of inside information;

  • The appropriateness of trading prohibitions for PDMRs;

  • The possibility for establishing an EU framework for cross-market order book surveillance in relation to market abuse; and

  • The scope of the benchmark provisions.
Draft new guidelines on open-ended performance fees may be extended to also apply to AIFs

In July 2019, ESMA published a consultation paper in respect of draft guidelines on performance fees (the "Performance Fee Guidelines") applicable to undertakings for collective investments in transferable securities ("UCITS").

Whilst the purpose of the consultation is to harmonise regulations relating to UCITS performance fees across the EU, the consultation also asked if the guidelines should also be applicable to AIFs marketed to retail investors in order to ensure equivalent standards in retail investor protection. In its consultation response, the AIC states that it does not agree with this proposal, stating "it is the role of the board to oversee the investment company and to ensure that the investment manager and other service providers are appropriately remunerated. Commercial fee negotiations are a matter of judgement for the board. It is not the role of the regulator to set parameters around these negotiations or to provide guidelines to standardise the remuneration model used to incentivise investment managers to generate greater returns for shareholders". The consultation ended on 31 October 2019. ESMA states that it will consider the feedback received during Q4 2019, with a view to finalising the guidelines for publication afterwards.

Some new disclosure rules relating to climate change to be brought in by the FCA

In October 2019, the FCA published its Feedback Statement on Climate Change and Green Finance (FS19/6). The Feedback Statement sets out next steps, rather than including any draft rules.

The main areas of interest to investment funds are:

  • Issuer’ climate change disclosures: in early 2020, the FCA will publish a consultation paper proposing new disclosure rules for certain issuers at least initially, on a ‘comply or explain’ basis, and clarify existing disclosure obligations relating to climate change risk. The rules will be aligned with the Financial Stability Board’s Taskforce on Climate-related Financial Disclosures recommendations, which the FCA state are widely regarded as providing a useful framework for climate-related financial disclosures. No details are provided on which categories of issuers will fall within scope of the new rules;

  • Regulated firms’ climate change disclosures: the FCA will consider how best to enhance climate related disclosures by regulated financial services firms that fall outside the scope of its proposed new rules for certain listed issuers;

  • Framework for effective stewardship: the FCA published a Discussion Paper earlier in the year, jointly with the FRC, calling for more strategic input on how best to encourage the institutional investment community to engage more actively in stewardship of the assets in which they invest. The FCA will publish a feedback statement in the coming weeks in response. This work builds on regulatory measures that took effect in June this year, aligned with SRD II. These measures set requirements for asset managers to disclose their shareholder engagement policies and investment strategies, including in relation to climate change and other ESG factors; and

  • Expectations around green financial products and services:  the FCA has carried out diagnostic work that indicates that the ‘sustainable’ label is applied to a very wide range of products and, on the face of it, some of these do not appear to have materially different exposures to products that do not have such a label (often referred to as ‘greenwashing’). The FCA plans to carry out further analysis on greenwashing and challenge firms when it identifies potential greenwashing.
Upcoming amendments to the FCA's technical guidance applicable to listed funds

In October 2019, the FCA published its 24th Primary Market Bulletin, which included consultations on:

  • A proposed new technical note, "Class testing changes to an investment management agreement where there are unquantifiable benefits", to clarify its approach where the benefit of the transaction is unclear and class tests difficult to apply; and

  • The amendment of its technical note, "Master-feeder structures", to clarify that where the applicant is the only feeder into a master fund, LR 15.2.6R (Feeder funds) (and LR 15.4.6R (Feeder funds) on a continuing basis) will not apply, and the full eligibility requirements for LR 15 (Closed-Ended Investment Funds: Premium listing) must be met.

The consultation ended in November 2019.

The following changes were also being made to the Knowledge Base:

  • Technical note "Compliance with the Listing Principles and Premium Listing Principles" has been finalised without further changes;

  • Procedure Note "UKLA standard comments" has been deleted;

  • Procedure Note "Primary Markets Oversight and Listing Transactions – decision making and individual guidance process" has been finalised without further changes;

  • A new Procedure Note "Sponsor Service Enquiry Line" has been finalised as previously consulted upon; and

  • A new Procedure Note "Schemes of Arrangement" has been finalised as previously consulted.

In September 2019, the FCA published its Quarterly Consultation No.25 (CP19/27) which, among other things, proposed amendments to the AIFMD forms in relation to notifications made by UK AIFMs.  The new forms came into use from 1 January 2020.  The  changes to the forms are:

  • A new postal address for forms (to reflect the new FCA address):

  • The removal of the tick box for firms to confirm they have read and understood the declaration to make the process more efficient (firms will still have to complete and sign the form to confirm they have understood the declaration);

  • Changes to the layout and general style of the form;

  • Updates to data protection wording; and

  • Updates to FCA guidance hyperlinks.

In the Quarterly Consultation, the FCA also proposed making an amendment to the rules relating to PAIFs.  The existing rules require the authorised fund manager of a PAIF to take reasonable steps to ensure that no body corporate holds more than 10% of the net asset value of that fund. The FCA proposes to align the text with the underlying tax regulations by clarifying that a body corporate may have an indirect interest in a PAIF of more than 10% where certain conditions are met.

A revised corporate governance AIC Code to apply to listed funds from 2020

In February 2019, the Association of Investment Companies ("AIC") published a revised version of its code of corporate governance (the "Revised AIC Code" or "Code"). The Revised AIC Code will apply in respect of accounting periods beginning on or after 1 January 2019.

The key changes made in the Revised AIC Code are:

Chairman tenure

The Revised AIC Code does not include a limit on chair tenure (this is a departure from the 2018 UK FRC Code which includes a nine-year limit). Instead, the Revised AIC Code states that a board should determine and disclose a policy on the tenure of the chair. A clear rationale for the expected tenure should be provided, and the policy should explain how this is consistent with the need for regular refreshment and diversity.

Board composition and independence

There is a new requirement that at least half the board, excluding the chair, should be non-executive directors whom the board considers independent. The Code includes circumstances considered not independent – this list of circumstances now includes where a director has served on the board for more than nine years from the date of his or her first appointment.

The Chair should be independent, now stated to be as at appointment. Where any of these or other relevant circumstances apply, and the board nonetheless considers that the non-executive director is independent, a clear explanation should be provided.

Board appointments

The Revised AIC Code states that advertising and/or an external search consultancy should generally be used.

Directors overboarding

Previous, Directors were required to ensure that they could devote sufficient time to the fund to carry out his or her duties effectively. The Code now required boards to take into account other demands on directors' time when making new appointments and for significant commitments to be disclosed. Additional external appointments should not be undertaken without prior approval of the board, with the reasons for permitting significant appointments explained in the annual report.

Directors’ re-election

All directors should be subject to annual re-election. A fund's Articles of Association may need to be changed at the next suitable opportunity to reflect this, although funds will be expected to follow the new provision even if his or her articles have not yet been amended.

Board evaluation

The Code contains a list of those that should be subject to a formal and rigorous annual evaluation of performance (being the board, committees and individual directors) which has been expanded to include the Chair. The Chair should also consider having a regular externally facilitated board evaluation (the provision that FTSE 350 companies should have this at least every three years has been retained. A fund's annual report should explain (i) how the board evaluation has been conducted; (ii) the nature and extent of an external evaluator’s contact with the board and individual directors; (iii) the outcomes and actions taken; and (iv) how it has or will influence board composition. The Code also requires the Chair to act on the results of the evaluation by recognising the strengths and addressing any weaknesses of the board. Each director should engage with the process and take appropriate action when development needs have been identified.

Audit committees

The Revised AIC Code allows the chair of the board to sit on the audit committee. Again, this departs from the 2018 UK FRC Code. The position remains that the chair of the board should not chair the committee but can be a member if they were independent on appointment. If the chair of the board is a member of the audit committee, the board must explain in the annual report why it believes this is appropriate.

Nomination committees

Previously, a nomination committee had to consist solely of independent directors. The Revised AIC Code relaxes this requirement by stating that a majority of members of the nomination committee should be independent.

Significant votes against a resolution

Where 20% or more of votes have been cast against a board resolution:

  • The fund should explain, when announcing voting results, what actions it intends to take to consult shareholders in order to understand the reasons behind the result;
  • An update on the views received from shareholders and actions taken should be published no later than six months after the shareholder meeting;
  • The board should then provide a final summary in the annual report and, if applicable, in the explanatory notes to resolutions at the next shareholder meeting, on what impact the feedback has had on the decisions the board has taken and any actions or resolutions now proposed.

This puts a specific figure on the previous concept of a ‘significant’ vote. This threshold reflects the figure used in the Investment Association's Public Register which provides details of significant votes against resolutions and related company updates.

Stakeholder engagement

The Code contains a new requirement that the board should understand the views of key stakeholders (other than those who have cast significant votes against resolutions).

A fund's annual report should contain a description of how his or her interests and the matters set out in s.172 of the Companies Act 2006 (the directors' duty to promote the success of the company) have been considered in board discussions and decision making. The board should keep engagement mechanisms under review to ensure they remain effective.

S.172 of the Companies Act 2006 applies only to UK domiciled companies. The Revised AIC Code clarifies, however, that the intention is that the matters contained in that section apply to all funds, irrespective of domicile, provided this does not conflict with local company law.


A new requirement in the Code is that the annual report should describe the work of the nomination committee including "the policy on diversity and inclusion, its objectives and linkage to fund strategy, how it has been implemented and progress on achieving the objectives".

A revised Stewardship Code to apply to listed entities from 2020

In October 2019, the Financial Reporting Council ("FRC") published its revised Stewardship Code (the "2020 Stewardship Code") which will take effect on 1 January 2020 and will replace the UK Stewardship Code 2012. The 2020 Stewardship Code includes a new definition of ‘Stewardship’: "Stewardship is the responsible allocation, management and oversight of capital to create long-term value for clients and beneficiaries, which leads to sustainable benefits for the economy, the environment and society". The 2020 Stewardship Code contains a set of 12 ‘apply and explain’ principles for asset managers and asset owners, and a (new) separate set of six ‘apply and explain’ principles for service providers. Service providers include investment consultants, proxy advisors, and data and research providers.

As with the 2012 Stewardship Code, investment funds may choose to adhere to the best practice standards in relation to stewardship set out in the AIC Code, or to be signatories to the 2020 Stewardship Code.

Calls for greater transparency in paying dividends

The Investment Association ("IA") has published a report calling for more transparency in the payment of dividends. The report looks at the prevalence of the practice of companies avoiding an annual shareholder vote on dividends by only declaring interim dividends.

Points to note:

  • The report found that of the 628 listed companies examined, 22% of those that paid dividends (interim or final) during the relevant period did not seek shareholder approval for these distributions. A number of reasons were given for there being no corresponding shareholder resolution and the report recognises that there may be legitimate reasons and that making an annual vote mandatory may have an undesirable impact on certain companies and shareholders.

  • The IA recommends that all listed companies should publish a distribution policy which sets out the company's long-term approach to making decisions on the amount, structure and timing of returns to shareholders, including dividends, share buybacks and other capital distributions, in order to promote a more transparent, long-term approach.

  • The IA will establish a working group to develop best practice guidance on distribution policies and make recommendations to the government on whether a shareholder vote on such policy and/or on yearly distributions should be mandatory. It aims to publish policy guidance in the autumn.
Revisions to the Financial Reporting Council's ethical and auditing standards may mean auditors of certain private equity funds can only provide a limited range of non-audit services to that fund

In July 2019, the Financial Reporting Council ("FRC") published a consultation paper seeking views on proposed changes to its Ethical and Auditing Standards. In its response to the FRC’s consultation, the BVCA warned that some of the proposed changes could have unintended consequences. A key proposal is that auditors of a public interest entity ("PIE") could only provide a limited range of non-audit services to that PIE. The definition of PIE is broadly meant to cover publicly traded companies but would also include portfolio companies with listed loan notes. As a result, private equity funds could only procure very limited other services from any accounting firm which provides audit services to any of its portfolio companies or the fund itself. Neither corporate finance advice nor due diligence services are included in the permitted services. The BVCA also objects to the proposed extension of these principles to non-PIEs.

The revised standards include no transition period and are expected to take effect for periods commencing on or after 15 December 2019.

OECD aiming to introduce new international taxing rights that potentially impact the asset management industry at asset manager, fund and portfolio company levels

Throughout 2019 progress has been made on two OECD proposals arising from BEPS Action 1 (addressing the tax challenges arising from digitalisation) that will potentially fundamentally alter the landscape of international taxation. The OECD intends to agree a consensus solution by the end of 2020 and, although that is an ambitious timetable, it appears the political will may exist to meet it.

Importantly, the two proposals ("Pillar One" and "Pillar Two") would potentially impact on all multi-national enterprises ("MNEs") and not just the technology giants such as Facebook and Amazon. The proposed rules focus on the overall position of the MNE group rather than particular group entities.

Pillar One

Pillar One deals with the allocation of taxing rights between jurisdictions and, in October, the OECD published a consultation document seeking views on a proposal to create a new taxing right not based on having a physical location or permanent establishment in a jurisdiction. Broadly, under the proposal, the new taxing right would apply to large MNEs with "consumer" facing businesses that have a sustained and significant involvement in the economy of the relevant jurisdiction. Such involvement is likely to be defined by reference to a revenue threshold in the jurisdiction. Once it is determined that an MNE has the requisite involvement, the relevant jurisdiction will have a right to tax a share of its profit that remains above a deemed routine profit.

Pillar Two

This proposal, known as "GloBE" (Global Anti-Base Erosion), seeks to impose a minimum global tax rate for affected MNE groups. The OECD consider that such a rate reduces the incentives for tax payers to engage in profit shifting and establishes a floor for tax competition among jurisdictions.

In November the OECD published a consultation document in relation to GloBE. A key political issue here will be the agreement of the relevant minimum tax rate, however, the consultation document does not provide a figure, albeit, some examples relating to technical mechanics contained in an annex to the document are based on a rate of 15%.

Impact on asset management

The proposals potentially impact the asset management industry at both fund and portfolio company levels, as well as asset management businesses themselves, so it is unsurprising that Invest Europe, the BVCA and other industry bodies have been active in responding to the consultations and liaising with the OECD.

At the fund level, a key concern is the interplay between the new taxing rights and the tax position of the fund vehicle itself (which typically will not be a tax-paying entity), in particular where the vehicle is not transparent for tax purposes. Clearly an additional layer of tax in the structure could seriously impact on a fund's viability and, accordingly, industry bodies have been emphasizing to the OECD the crucial role that collective investment plays in providing capital for business growth and the importance of respecting established national regimes that provide tax neutral fund structures. In relation to Pillar One, it is hoped that the OECD will accept that funds do not have "consumers" (rather, they have investors) and so should not be within the scope of the regime.

We expect that both Pillars will apply to MNEs owned by funds in the same way that they would apply to other MNEs, but industry bodies have taken care to alert the OECD to the importance of ensuring that separate portfolio businesses are not treated as part of the same MNE group for these purposes just because of their common ownership by the same fund (for example, to ensure that separate businesses that would individually be below any applicable threshold are not aggregated so as to be considered part of the same MNE group that meets the threshold).

For asset managers, in relation to Pillar One, it is (as with fund vehicles themselves) hoped that the OECD accept that they do not have "consumers", and so should not be within the scope of the regime. For Pillar Two, asset managers will be hoping that a size threshold is put in place sufficient to mean that most of them fall outside the scope of new minimum tax rate.

New tax reporting regime for mandatory disclosure of cross-border arrangements (DAC 6) to come into force

EU Directive 2018/822 ("DAC 6") introduces a new tax reporting regime in the UK from 1 July 2020. These rules will come into force regardless of the Brexit process. DAC6 applies to cross border arrangements which satisfy certain "hallmarks". Although the first disclosures are not required until this summer (2020), the rules will apply retrospectively to any arrangements put in place on or after 25 June 2018. The scope of the reportable arrangements under the relevant EU Directive is very wide and not limited to aggressive tax planning – in a number of circumstances, no tax advantage is even needed from the arrangement. If disclosure is required, a substantial amount of information must be provided including the identities of all participants and advisers, and a summary of the arrangement, including explaining why it is caught.

New payroll tax obligations to come into force for businesses which engage consultants through personal vehicles

In July, the Government published draft legislation implementing the expected imposition of new payroll tax obligations on businesses which engage consultants through personal vehicles. The rules will apply to payments made on or after 6 April 2020.

Under the new rules, the client will be responsible for deciding whether or not the rules apply by looking at whether the consultant would be considered to be one of its employees if you ignored the existence of the personal vehicle. If the consultant would be regarded as an employee, the person paying the personal vehicle's fee will generally be required to account for income tax and national insurance contributions (NICs), including employer NICs and the apprenticeship levy. Such payer will be the client, broadly, unless there is at least one intermediary between it and the personal vehicle. However, the rules will not apply to clients that are "small".

For detailed briefings please see:

Further legislation attacking tax avoidance using hybridity to apply from 1 January 2020 in EU member states

The EU's Anti-Tax Avoidance Directive ("ATAD I") was amended in May 2017. This amendment (ATAD II) extends the scope of the directive so that it applies to more hybrid structures. Member states are obliged to apply most of the measures from 1 January 2020 and both Luxembourg and Ireland have enacted implementing legislation. For our thoughts on the initial draft of the Luxembourg legislation please see our briefing Asset management tax: what to know for the new autumn term. 

Asset managers should be reviewing their fund and management structures in light of these new rules.

Practical issues arising for real estate fund managers in relation to the non-resident property gain rules

Real estate fund managers are continuing to get to grips with the non-resident property gains rules (which came into effect on 6 April 2019), with an important deadline of 5 April 2020 approaching for those making elections and a close eye being kept on the forthcoming Budget in March to see if any withholding tax provisions will be introduced. For more on this regime, including a short recap of the rules, upcoming deadlines and issues that are being raised with us by fund managers and investors please click here.

Non-resident corporate landlords to become liable to corporation tax (rather than income tax)

Non-resident corporate landlords are currently liable to income tax – not corporation tax – on net rental profits. However, from 6 April 2020, their rental profits will instead become subject to corporation tax, with different rates, computational rules and payment and filing requirements. For more information on this issue please click here.

Limited market value rule to be introduced for stamp duty and SDRT for transfers of unlisted securities between connected persons

In July 2019 the Government published draft legislation for the introduction of a limited market value rule for stamp duty and SDRT purposes on the transfer of unlisted securities. The rule applies to the transfer (or agreement to transfer) of unlisted securities to a company which is connected with the transferor. However, unlike the similar market value rule that was introduced in October 2018 for transfers of listed securities, the new rule will only apply where the consideration for the unlisted securities includes the issue of shares. Where the rule applies, the consideration is deemed, for stamp duty and SDRT purposes, to be equal to the higher of: (i) the amount or value of the consideration for the transfer; and (ii) the market value of the securities. The new rule is expected to have effect from the date that the Finance Act 2020 is passed.

In July HMRC also confirmed that, bearing in mind feedback received, they would not be taking forward any of the other proposals suggested in their consultation document (published in November 2018) relating to the consideration rules for stamp taxes on shares, for example, aligning the definitions of consideration for stamp duty and SDRT purposes.

A new new regime relating to cross-border distribution of funds is on its way, including a new EU-wide pre-marketing definition

The Regulation on cross-border fund distribution ("CBD Regulation") and the Directive on the cross-border marketing of funds ("CBD Directive") entered into force on 1 August 2019.   The majority of the CBD Regulation applies as from 2 August 2021 and EU Member States must also implement the CBD Directive as from that date. 

Supervisors have had the ability to require the prior notification of AIF marketing communications to retail investors as from 1 August 2019 but, as at the time of writing, the FCA has not yet applied this and we are not currently aware of any other EU Member State doing so.


The new regime will be directly applicable to EU alternative investment fund managers ("AIFMs") and managers of undertakings for collective investment in transferable securities ("UCITS managers"). It is increasingly likely, if not a near certainty, that the UK will no longer be a member of the EU in August 2021.  It therefore remains to be seen to what extent UK fund managers will be affected, at least directly. To the extent that the regime amends the operation of the EU cross-border fund marketing passport regimes the UK may simply decide to revoke the directly-applicable Regulation (this would have been the effect of the Cross-Border Distribution of Funds, Proxy Advisors, Prospectus and Gibraltar (Amendment)(EU Exit) Regulations 2019 which would have come into force on 31 December 2019 had there been a "hard Brexit" then). It is possible, however, that even with such a revocation and no implementation of the Directive there may nonetheless be legislation 'onshoring' certain aspects of the regime into the UK.  At the very least UK and other non-EU fund managers may find that they are affected by consequential amendments that individual EU Member States may decide to make to their national private placement regimes.

We discussed the CBD Regulation and the CBD Directive in more detail in our briefing in May 2019 (here).

'Pre-marketing' by AIFMs

The Alternative Investment Fund Managers Directive ("AIFMD") marketing passport only applies to activities that fall within the AIFMD's definition of ‘marketing’.  Individual member states have taken divergent views about when ‘marketing’ is deemed to begin the CBD Directive attempts to address this by introducing a new definition of ‘pre-marketing’.

In essence, ‘pre-marketing’ is defined as: information or communication relating to investment strategies or investment in order to test investor interest in a fund which is not yet established, is established but is not yet notified for marketing.

An AIFM will ‘not be pre-marketing’ where the information:

  • is sufficient to allow investors to commit to the AIF;

  • amounts to subscription documents in draft or final form; or

  • amounts to final form constitutional or offering documents of a yet-to-be established AIF.
Cross-border distribution of funds

The AIFM will be required to send, within two weeks of the start of its pre-marketing, an 'informal letter' with details of the pre-marketing to its home member state regulator.

The AIFM will be required to send, within two weeks of the start of its pre-marketing, an ‘informal letter’ with details of the pre-marketing to its home member state regulator.

Any third parties which the AIFM uses to pre-market on its behalf will essentially have to be licensed as MiFID investment firms or EU banks and will be subject to same conditions which apply to the AIFM itself.

Restricted reliance on reverse solicitation

Any subscription by investors in units or shares of an AIF that takes place within 18 months of the pre-marketing will be considered to be the result of marketing and the applicable marketing notification procedures under AIFMD will be triggered. This closes down any possibility of arguing that subsequent investments can be considered to result from reverse solicitation.

Marketing to retail investors

New requirements under AIFMD will apply when any AIFM (ie EU or non-EU) is marketing units or shares in an AIF to retail investors.  The AIFM will be required to put in place certain ‘facilities’ in the relevant Member State to perform certain defined tasks.

Where an AIFM proposes to market to retail investors in a particular EU Member State, the regulator in that jurisdiction may require prior notification of the marketing communications which the AIFM intends to use. The relevant national regulator may request the AIFM to amend the marketing communication at any time within 10 working days of being notified.

The current AIFMD rules are unclear on when an AIFM can be considered to have ceased marketing in a Member State. A new provision in AIFMD will clarify that an AIFM may only discontinue the marketing of units or shares of an EU AIF in a jurisdiction in which it has exercised the marketing passport if the following conditions are met:

  • The AIFM has publicised its intention to cease its marketing activities in respect of some or all of its funds in that jurisdiction through a publicly available medium, including by electronic means, which is customary for marketing AIFs and suitable for a typical AIF investor;

  • Any contracts the AIFM has with financial intermediaries or delegates are modified or terminated with effect from the date of de-notification; and

  • The AIFM has made a public offer to repurchase all the units or shares held by the investors in the relevant Member State—this condition does not apply to closed-ended AIFs or European Long-term Investment Funds (ELTIFs).

For 36 months after such de-notification, the AIFM will not be able to engage in any further pre-marketing of the relevant units or shares or of any ‘similar investment strategies or investment ideas’ in the relevant Member State.

Even after de-notification the AIFM must nonetheless continue to provide investor transparency information (e.g. periodic reports) on an ongoing basis to investors.

What fund managers should be doing

Fund managers should monitor the extent to which aspects of the EU regime are 'onshored' into the UK on or following Brexit. They should also look out for any developments that individual EU Member States' may make to their national private placement regimes in consequence of some of the changes introduced by the CBD Regulation and Directive.

New incoming liquidity stress testing guidelines will apply to AIFs and UCITS

The European Securities and Markets Authority ("ESMA") has published its final guidelines on liquidity stress testing ("Liquidity Guidelines").

The Liquidity Guidelines will apply from 30 September 2020.  In terms of scope and application, they will:

  • Apply fully in respect of UCITS and open-ended AIFs, including:

    • exchange-traded funds ("ETFs"), whether they operate as UCITS or AIFs; and

    • leveraged closed-ended AIFs,

and will supplement the existing liquidity management requirements as set out in AIFMD and the UCITS Directive;

  • Apply on a more limited basis to money market funds ("MMFs");

  • Impose an obligation on depositaries to have appropriate verification procedures to check that fund managers have documented LST procedures in place.

Liquidity stress testing ("LST") is a risk management tool, within the overall liquidity risk management framework of a manager, which simulates a range of conditions, including normal and stressed conditions, to assess their potential impact on the funding, assets and overall liquidity of a fund and any necessary follow-up actions.

The Liquidity Guidelines include obligations to design and build LST models and to produce an LST policy.  They also impose governance principles which require LST to be properly integrated and embedded into a fund’s risk management framework and subject to appropriate governance and oversight.  LST should employ historical scenarios, hypothetical scenarios and, where appropriate, reverse stress testing. Where appropriate, managers should aggregate LST across funds under management to better ascertain the liquidiation cost or time to liquidity of each security.

Under the Liquidity Guidelines, LST should occur at least annually but quarterly or more frequent LST is recommended.

Higher regulatory capital requirements, more onerous remuneration rules, and a raft of other governance, disclosure and reporting requirements, will apply to most MiFID investment firms (by way of the Investment Firms Regulation and Directive)

The new Regulation on prudential requirements for MiFID investment firms ("IFR") and the accompanying Directive ("IFD") came into force at the end of 2019 and will apply as of 26 June 2021.  We discussed the IFR/IFD in more detail in our briefing in May 2019 (here).

IFR/IFD introduce a bespoke prudential regime for most MiFID investment firms to replace the one that currently applies under the fourth Capital Requirements Directive and the Capital Requirements Regulation ("CRD IV").   

IFR/IFD will mean higher regulatory capital requirements for firms, subject to some transitional phasing-in in respect of own funds. IFR/IFD will also mean new, more onerous remuneration rules based on those applicable to banks, as well as a raft of internal governance and disclosure and reporting requirements.

Scope and Application

IFR/IFD applies to MiFID investment firms other than those larger firms which deal on own account and/or carry out the activities of underwriting or placing on a firm commitment basis and which by virtue of their size and/or interconnectedness in the financial system are considered to be of systemic importance. Those large firms will be subject to CRD IV instead.

The majority of MiFID investment firms, including portfolio managers and, in all likelihood, many advisers/arrangers, will therefore be subject to IFR/IFD.

Where a MiFID investment firm meets the requirements to be a "small and non-interconnected investment firm", IFR/IFD applies, but on a limited basis.  In particular, the remuneration requirements will not apply to such firms and they will not be required to make use of the K-factors metric when calculating own funds.

For the most part, IFR/IFD does not affect collective investment fund managers directly. However:

  • Depending on future UK government policy, AIFMs with MiFID top-up permissions will - consistent with the approach the UK has previously adopoted in respect of prudential matters - be caught;

  • As summarised below, despite generally not applying to AIFMs directly, the new legislation will nonetheless make a specific amendment to AIFMD in terms of own funds; and

  • IFR/IFD will clearly be relevant to fund management groups which have MiFID firms within their structures.

As with the EU cross-border distribution of funds package, the IFR/IFD regime will likely apply some time after the UK has left the EU.  To a considerable extent, IFR/IFD reflects policy developed in the UK and, for the time being at least, the assumption is that the UK authorities will wish to impose similar domestic legislation. Whether there may be divergences in the detail (for instance, with regards to the imposition of remuneration requirements) depends on the UK's policy on the interrelationship between UK and EU regulation and the degree of 'equivalence' that will be sought. Firms should therefore look out for details of how H.M. Treasury and the FCA intend to 'onshore' the regime in the UK.

Prudential groups and consolidation

All investment firms subject to IFR/IFD must comply with the regime's requirements relating to own funds composition, the calculation of capital requirements, concentration risk, liquidity requirements, disclosure and reporting on a solo (individual firm) basis.

In general, a parent investment firm, parent investment holding company or parent mixed financial holding company in the EU (whether or not regulated) shall also be required to apply all of the above requirements on a consolidated (or group) basis.  For most firms, this does not represent a change to existing group requirements, but it will be new for some, e.g. advisers/arrangers.

By way of derogation to the full prudential consolidation requirement described above, supervisors will have the discretion to apply a simpler and lighter-touch group capital test in the case of group structures which they deem to be "sufficiently simple" and in respect of which no significant risks to clients or to the market will arise from not applying consolidated supervision.

If full prudential consolidation under the IFR applies, then the IFD's requirements relating to internal governance, transparency, treatment of risks and remuneration will also be applied to firms which are subject to the full application of the regime on a solo and consolidated basis (except in relation to certain third-country subsidiaries where it would be unlawful to do this).


The remuneration requirements apply in respect of staff, such as senior management and employees with comparable remuneration, whose professional activities have a material impact on the risk profile of the firm or the assets that it manages.

The requirements relating to remuneration include:

  • A requirement to have a remuneration policy that is proportionate to the size, internal organisation and nature of the firm and the scope and complexity of its activities and which complies with a number of principles.

  • A requirement to set - and publish - appropriate ratios of variable remuneration to fixed remuneration that may be paid to relevant staff, ensuring that the fixed component represents a "sufficiently high proportion" of the total remuneration to enable the operation of a fully flexible policy on variable remuneration components.  

  • A requirement for any variable remuneration to comply with a number of requirements, including as to allocation and deferral as well as malus (i.e. restrictions on vesting) and clawback.

  • A requirement to establish an independent and gender balanced remuneration committee.

  • A requirement to make certain disclosures regarding the remuneration policy and practices as well as providing remuneration information to supervisors.

As stated above, none of the remuneration requirements apply to SNIFs.  In addition, other firms which are below certain certain size criteria will not have to comply with the requirements governing the constitution of variable pay and the deferral of payment or the need to have a remuneration committee.

Quantitative capital requirements

Subject to transitional phasing-in, a firm will generally be required to have own funds at all times at least equal to the highest of its:

  • fixed overheads requirement – at least one quarter of its fixed overheads for the preceding year;

  • permanent minimum requirement – for a portfolio manager or adviser/arranger (which does not hold client money) it is likely to be EUR 75,000 and, for a firm with a principal dealing permission, EUR 750,000; and

  • "K-factor" requirement – a new, activities-based capital requirement based on an aggregation of three risk factors applicable to the firm (each of which has a number of highly detailed components).

In addition to the own funds requirements, firms will be required to hold an amount of liquid assets equal to at least one third of their fixed overheads requirement, which, in practice, will equate to one month's fixed overheads.

Supervisors can also require firms to hold additional capital in certain circumstances such as where they consider that the firm is exposed to risks which are not adequately covered by the standard capital requirements.

Disclosures and public reporting

Firms will also be subject to a wide range of disclosure and reporting requirements under IFR/IFD. These include (but are not limited to) the requirement to make public disclosures about their capital, capital requirements, risk management objectives and policies, internal governance arrangements and remuneration policies and practices.

Public country-by-country reporting rules will also apply as well as a requirement to report certain regulatory capital information to supervisors and for larger firms to disclose certain voting information.

Third country firms and equivalence assessments

IFR/IFD amends the rules on assessing third countries for equivalence in relation to the provision of cross-border services by third country firms under MiFIR to state that when carrying out any equivalence assessment in relation to a third country for those purposes, the Commission must take into account (amongst other factors):

  • Whether firms in that jurisdiction are subject to prudential, organisational and business conduct requirements which are equivalent to those which apply in MiFIR, CRD IV and IFR/IFD; and

  • Whether firms in that third country are subject to effective supervision and enforcement to ensure compliance with those requirements.

Application to AIFM and UCITS

While the new regime does not directly impact upon collective investment fund managers, IFD does nonetheless make specific amendments to both AIFMD and the UCITS Directive to provide that own funds of an alternative investment fund manager or UCITS management company can never be less than the fixed overheads requirement as specified in IFR – i.e. at least one quarter of the fixed overheads of the preceding year.


The rules are likely to be a significant step up for many investment firms, but the biggest impact is likely to be for adviser/arranger firms which will likely face a significant increase in their capital requirements and be subject to new rules on prudential consolidation and detailed remuneration for the first time.

The new regime will also introduce a stricter framework for third-country firms seeking to rely on the equivalence provisions in the Markets in Financial Instruments Regulation (MiFIR).

Firms should monitor implementation of the regime in the UK.

Important changes to money laundering obligations in force from 10 January 2020

The fifth Money Laundering Directive ("MLD 5") had to have been transposed by EU Member States by 10 January 2020.  It will be implemented in the UK by way of changes to the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (the "MLRs").  H.M. Treasury consulted on policy issues regarding the transposition back in April 2019 and it was clear then that it was looking not only at transposition of MLD 5 but also to give effect to some FATF Recommendations.  The Money Laundering and Terrorist Financing (Amendment) Regulations 2019 were finally made on 19 December 2019 and laid before Parliament on 20 December 2019.  For the most part they come into force on 10 January 2020.

The main changes reflected in the amendments to the MLRs are as follows:

  • There are stricter requirements when carrying out customer due diligence; including requirements to obtain and verify additional information when carrying out customer due diligence on a body corporate and to understand the business, ownership and control structure of their customers, however constituted;

  • There are a new set of prescribed enhanced due diligence measures that firms will be required to carry out in relation to new business relationships or transactions involving high risk third countries (i.e. countries which have been identified by the European Commission as high risk third countries in a delegated act adopted under Article 9(2) MLD 4) – these include obtaining additional information on the customer and its beneficial owner, the intended nature of the business relationship and obtaining the approval of senior management for establishing or continuing the business relationship;

  • Where the customer appears on a beneficial ownership register (e.g. the UK PSC Register) relevant firms are required to collect proof of such registration or an excerpt of the register and to report to a relevant person (e.g. the registrar of companies) any discrepancies they discover between the information they hold and the information that appears on the register;

  • Where the firm is part of a group it is already required to establish and maintain policies, controls and policies throughout the group for data protection and the sharing of information; however, the amended MLRs require firms to have to have policies requiring customer, account and transaction information to be provided to them from their branches and subsidiaries; and

  • There is clarification of the circumstances in which firms will be required to refresh customer due diligence on existing customers – broadly this will be when the firm has any legal duty to contact the customer for the purpose of reviewing any information which is relevant to the firm's assessment for that customer and which relates to the beneficial ownership of the customer and/or when the firm is required to contact the customer in order to fulfil any duty under the International Tax Compliance Regulations 2015;

We discussed the changes in more detail in the following briefings: MLD 5: the MLD 4 upgrade and MLD 5: HMT consultation on UK transposition.

The amended MLRs do not contain changes to take account of the MLD 5 requirement that all express trusts should be registered, regardless of whether they generate tax consequences. However, the government will be publishing a more detailed technical consultation early in 2020 which will include draft legislation dealing with the trust registration requirements of MLD 5.

On its webpage, the FCA has said "We expect firms to comply with the new, amended regulations from 10 January 2020".

On 23 December 2019, the FCA published a webpage highlighting some specific new areas that firms will need to comply with under the amended MLRs. Given that the amending statutory instrument was published only three weeks before the date on which the changes to the MLRs come into force, the FCA expressed a limited degree of regulatory forbearance:

"We expect firms to comply with the new, amended regulations from 10 January 2020. In assessing our approach to firms that may not be compliant on that date, we will take into account evidence that they have taken sufficient steps before that date to comply with these new obligations."

In the light of the FCA's comments, firms should prioritise the finalisation of updates to their policies and procedures to ensure they are compliant.

EU wide securities financing transactions' reporting obligations will soon include AIFs and UCITs

The EU Securities Financing Transactions Regulation ("SFTR") has applied from 12 January 2016, although certain of its requirements entered into force on a phased basis. The final set of substantive obligations under the SFTR that have not yet entered into force are those which relate to the requirement for counterparties to SFTs to report details of those transactions to a trade repository.  Legislation has finally been published meaning that such reporting obligations will commence on a staggered basis over the next year depending on the type of institution.  The commencement dates are as follows:

  • 11 April 2020 – credit institutions (such as banks) and investment firms;

  • 11 July 2020 – central securities depositaries (CSDs) and central counterparties (CCPs);

  • 11 October 2020 – all other financial counterparties (FCs) starts – this includes AIFs and UCITS;

  • 11 January 2021 – non-financial counterparties (NFCs)(such as listed and unlisted corporates).

This means that affected firms will have to use the next few months to finalise their preparations so that they are ready to report their SFTs by the relevant start date: this will include having to establish internal procedures and relevant external legal arrangements (regarding, amongst other things, the collection of data and its onward transmission to a trade repository (or to a third party service provider who will report on their behalf)).

Points to note with regards to the reporting obligation include:

  • In terms of territorial scope, the reporting requirement will apply:

    - to the principal counterparty to the transaction where it is established in the EEA; and

    - to an EEA branch of a non-EEA entity where the transaction is concluded through the branch (noting however that a non-EEA AIF would never in practice be operating out of an EEA branch and cannot therefore be within the scope of the SFTR reporting obligation);

    - according to ESMA, to a non-EEA AIF with an AIFM registered or authorised under AIFMD (i.e. regardless of the fact that the AIF is established outside the EEA). However, this was a passing comment from ESMA in its Final Report which accompanied its Guidelines on reporting under Articles 4 and 12 SFTR published on 6 January 2020; but this comment was not reflected in the Guidelines themselves nor does it appear to be consistent with the provisions of SFTR itself);

  • A reporting counterparty may appoint a third-party service provider as its delegate to report on its behalf (although the reporting counterparty will remain responsible and legally liable);

  • Reportable SFTs will include repos, securities and commodities lending transactions/securities and commodities borrowing transactions, buy sell backs and sell-buy backs and margin lending transactions.
The transition to a replacement rate following the discontinuation of LIBOR

The London Interbank Offered Rate ("Libor") is expected to be discontinued by the end of 2021 and there has been increased pressure from the regulators (including the Financial Conduct Authority) to ensure that market participants cease to use this benchmark well in advance of the "big bang" date. Most funds are likely to be affected by the Libor discontinuation – funds might use Libor as benchmark or performance targets, and its administrators, managers and custodians as an input to their valuations and risk assessments. Also, Libor might feature across a fund's investments, as it is commonly referenced in funding arrangements, interest rate derivatives transactions, as well floating rate notes and securitisations. It is important for funds to work closely with their managers, custodians and counterparties to assess their exposure to Libor and determine the steps they will need to take to ensure that the transition to the replacement rate is implemented as smoothly as possible.

The Bank of England's Working Group on Sterling Risk-Free Reference Rates (the "RFR Working Group") has recommended Sterling Overnight Index Average ("SONIA") as its preferred replacement rate for Libor in sterling markets – and it is currently working together with key industry bodies, including the Loan Market Association and International Swaps and Derivatives Association, to establish the parameters and adjustments that should be used by market participants when transitioning their existing contracts to the replacement rate. The RFR Working Group has also been working on the development of a forward looking term SONIA.

Implications for Funds

Funds should:

  • monitor liquidity in Libor-indexed contracts to assess the timing for transition in relation to each asset class – it is expected that liquidity will start to wane ahead of 2021;

  • work on amendments to their existing contracts to deal with Libor fallback mechanics; and

  • assess any regulatory, accounting and tax implications resulting from amending (or opting not to amend) their contracts (e.g. loss of regulatory grandfathering, significant accounting or tax gains or losses).

The industry's work on Libor discontinuation is part of a broader benchmark reform which under the EU Benchmarks Regulation requires certain 'supervised entities' to ensure that they have robust written plans setting out the actions that they would take if a benchmark materially changes or ceases to be provided, and to reflect these plans in their contractual arrangements. Funds should also consider if and how this regulation might apply to their arrangements.

PRIIPs regime: proposed amendments to obligations relating to performance scenarios, past performance information, costs calculation methodologies and multi-option products

In October 2019, the Joint Committee of the European Supervisory Authorities ("ESAs") published a consultation paper on proposed amendments to the PRIIPs Commission Delegated Regulation ((EU) 2017/653) (the "PRIIPs Delegated Regulation"). The PRIIPs Delegated Regulation seeks to address the main regulatory issues that have been identified since the implementation of the PRIIPs KID.

The proposed amendments to the existing regulatory technical standards ("RTS") relate to:

  • proposals to change the methodology for performance scenarios;

  • possible alternative to present illustrative performance scenarios

  • how past performance information could be included in the KID

  • different options to change the methodologies to calculate costs and how these are presented in summary tables;

  • possible changes in view of the exemption in Article 32 of the PRIIPs Regulation being due to expire and the possible use of the PRIIPs KID by UCITS from 1 January 2022

  • specific issues for PRIIPs offering a range of options for investments (so-called "multi-option products"). The consultation paper includes an example KID for such products.

This Consultation Paper follows a previous ESA consultation on the PRIIPs KID in November 2018 (CP 2018 60). The November 2018 consultation paper proposed more targeted amendments to the PRIIPs Delegated Regulation. Based on the feedback received to that consultation, the ESAs decided in February 2019 to defer their review and launch a public consultation on more substantive changes later in 2019.  The ESAs now intend to conclude their review around the end of the first quarter 2020 and submit their final proposals to the European Commission shortly afterwards.

The deadline for consultation responses was 13 January 2020.

ELTIF regime: proposed amendments to the disclosure of costs could require inclusion of carried interest in the presentation of costs

In March 2019, ESMA published a consultation in relation to draft regulatory technical standards ("RTS") to determine the costs disclosure requirements applicable to ELTIF managers under the ELTIF Regulation. In doing so, ESMA has considered the corresponding regulatory technical standards under the PRIIPs Regulation.

In its response to the consultation, Invest Europe highlighted its concerns that the provisions led to unintended (and adverse) consequences for ELTIFs marketed by private equity fund managers, creating confusion for investors. While carried interest is not listed specifically in the ELTIF Regulation, the draft RTS make it clear that it would have to be included within the presentation of costs. Moreover, unlike in the PRIIPS Delegated Regulation, carried interest is not treated separately from performance-related fees in the draft RTS and carried interest may have to be presented as a yearly cost and as a percentage of the capital. Invest Europe state that this proposed approach would not be representative of the real impact of carried interest on investors’ returns.

In December 2019, ESMA published its final report detailing feedback received in relation to the consultation. ESMA also announced the postponement of the RTS being published and coming into force. The RTS will depend to a large extent on the costs section of the PRIIPs KID, which itself  is currently subject to proposed amendments. ESMA has therefore decided to postpone finalising the draft RTS until the outcome of the review of the PRIIPs  regime.

Return to Funds Annual Briefing 2020.

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