PRIIPs KID Regulation - FCA publishes consultation

On 18 July 2016, the FCA published a consultation paper containing proposed changes to its Handbook to reflect the Regulation on key information documents for packaged retail and insurance-based investment products (Regulation 1286/2014) (PRIIPs KID Regulation). The FCA has shed a little light on grey areas but for the most part the consultation adds little beyond the current understanding at European level.

Background

The PRIIPs KID Regulation entered into force in December 2014 and is expected to apply from 31 December 2016. It will require firms to prepare, publish and provide a Key Information Document (KID) in respect of each PRIIP before it is made available to a retail investor in the EEA. In June 2016, the European Commission adopted regulatory technical standards (RTS) specifying the content and underlying methodology of the KID, the draft of which was published by the Joint Committee of the European Supervisory Authorities at the beginning of April 2016.

To access our PRIIPs KID briefings and links to preceding consultation and discussion papers, see our PRIIPs KID website.

FCA Consultation

As an EU regulation, the PRIIPs KID Regulation will have direct application in the UK. Therefore, the FCA will not transpose the relevant terms of the PRIIPs KID Regulation into the FCA Handbook, but will instead refer to them. The purpose of the consultation is the delete, amend or dis-apply certain Handbook terms which are either superseded or incompatible with the PRIIPs KID Regulation, as well as clarify certain other rules. Consultation closes: 19 September 2016 Final rules published: November 2016.

Brexit Impact 

In the consultation paper, the FCA flags uncertainty surrounding Brexit, stating that its proposals are being designed in the context of the existing UK and EU regulatory framework and that it is required to enforce EU Regulations for as long as the UK remains a member of the EU. It notes, however, that this will be subject to review in light of any negotiations following the UK referendum on EU membership. It argues that the tight implementation timetable means it must proceed with the consultation in order to allow firms time to make the necessary changes before the PRIIPs KID Regulation enters into force.

In Scope Products: FCA's Current Thinking

The PRIIPs KID Regulation defines a PRIIP as an investment where, regardless of the legal form of the investment, the amount repayable to the retail investor is subject to fluctuations because of exposure to reference values or to the performance of one or more assets which are not directly purchased by the retail investor.

The FCA acknowledges that identifying whether a particular product is a PRIIP is not always going to be straightforward, as the concept of "exposure to reference values" is wide. Often, consideration of the actual terms of the specific product may be needed. However, the FCA considers the following products to be caught by the definition (some of which overlap):

• regulated collective investment schemes (CISs) that are: non-UCITS retail schemes (NURSs) (authorised unit trusts, open-ended investment companies and authorised contractual schemes); qualified investor schemes (QISs) (same types as CISs); and individually recognised overseas schemes (section 272 FSMA recognised schemes);
• unregulated CISs that are alternative investment funds, including, but not limited to: some unauthorised unit trust schemes; venture capital trusts; private equity schemes;
• unregulated CISs that are not alternative investment funds;
• alternative investment funds that are not CISs, including shares/securities in an investment trust that are held directly by the investor;
• investment trust savings schemes that allow the shares/securities of investment trusts to be held in a managed account;
• European Social Entrepreneurship Funds and European Venture Capital Funds;
• insurance-based investment products such as unit-linked policies, with-profits policies and Holloway sickness policies;
• fluctuating return annuities (that are not pension products) with features that result in fluctuating amounts being paid to the annuitant because of exposure to reference values (such as indices) or to the performance of one or more assets which are not directly purchased by the annuitant (e.g. purchased life annuities with variable returns);
• derivatives: options, futures, and contracts for differences;
• structured investment products (whatever their form) e.g. unregulated CISs, convertible securities, insurance policies or instruments issued by special purpose vehicles (SPVs);
• structured deposits (as defined in MiFID II, Article 4(1)(43));
• securities issued by certain special purpose vehicles (e.g. convertible bonds that convert from equity to debt securities).

Products Outside Scope

The FCA confirms that the following are out of scope:

• non-life insurance/general insurance, and life insurance that only pays benefits on death or incapacity due to injury, sickness or infirmity (i.e. products that have no surrender value, or a surrender value that does not depend on fluctuations in the performance of one or more underlying assets or reference values);
• deposits (other than structured deposits as defined in MiFID II);
• assets that are held directly by the retail investor, such as corporate shares or sovereign bonds;
• pension products – pensions that are recognised under national law as having the primary purpose of providing the investor with an income in retirement (including pension annuities purchased using monies from a pension product recognised under UK law), occupational pension schemes, and individual pension products for which a financial contribution from the employer is required by national law and where the employer or the employee has no choice as to the pension product or provider;

• fixed annuities (that are not pension products) where the amount payable to the annuitant does not fluctuate (e.g. a purchased life annuity that pays a fixed amount of income for life or an annuity that pays a fixed income for a specified term);
• certain securities such as, subject to certain conditions, securities issued by Member States, their regional or local authorities, central banks, public international bodies, non-profit making bodies or credit institutions.

Who is the Manufacturer

Manufacturers are defined in the PRIIPs KID Regulation as entities manufacturing PRIIPs, as well as entities that make changes to an existing PRIIP including, but not limited to, altering its risk and reward profile or the costs associated with an investment in a PRIIP.

The PRIIPs KID Regulation and related RTSs apply to persons who manufacture PRIIPs, requiring them to prepare a KID for every PRIIP that they produce, and to publish each KID on their website.

Where the distributor makes changes to the PRIIP, the requirement to prepare and publish a KID applies to firms that distribute PRIIPs (e.g. where a distributor re-brands or "white-labels" a PRIIP in a way which changes the risk and reward profile or the costs associated with the PRIIP, the distributor is considered a "PRIIP manufacturer").

Other Required Disclosures

The KID will not be the only disclosure document that firms will need to consider. Additional disclosures may be required. For example, a number of FCA's existing rules, such as those derived from MiFID, will be unaffected. The high-level requirements such as the "client’s best interest rule" and the "fair, clear and not misleading rule" will continue to apply in relation to all products.

Third Country Provisions

The FCA has addressed how the new disclosure framework might apply in relation to:

• PRIIPs produced and/or distributed by third-country (i.e. non-EEA) persons, which are being made available to retail investors in the EEA; and
• PRIIPs produced and/or distributed by EEA persons to non-EEA retail investors.

Neither of these scenarios is directly addressed in the text of the PRIIPs KID Regulation.

Application to non-EEA persons dealing with EEA retail clients

The FCA considers that, subject to further clarification from the EU Commission and/or ESAs, the PRIIPs KID Regulation does have application to persons outside the EEA dealing with EEA retail clients. Accordingly, a third-country manufacturer or distributor of a PRIIP to retail clients in the EEA (e.g. an AIFM for schemes from the Channel Islands or Isle of Man) will be required to, respectively, produce and provide a KID.

In practice, this means that before authorised firms (or other persons to whom the PRIIPs KID Regulation applies) can sell or advise on a PRIIP manufactured outside the EEA to UK retail clients, they will need to provide KIDs to their UK retail clients.

Application to EEA persons dealing with non-EEA retail clients

Where a manufacturer or distributor is based in the EEA and targets only non-EEA retail clients, the FCA's view is that the PRIIPs KID Regulation will not apply and a KID will not need to be prepared.

Prospectus Directive Overlap

Where a PRIIP is a transferable security which falls within the scope of the Prospectus Directive (PD), the requirements of the PD (including the requirement to publish an Approved Prospectus) will continue to apply, in addition to the PRIIPs KID Regulation.

Personalised Projections

The FCA notes that current provisions in COBS 13 detail how firms must give "standardised deterministic projections", which can be either "generic projections" or "personal projections", and that the PRIIPs KID Regulation requires the presentation of performance scenarios, but does not provide for personalised projections that reflect the terms of a particular contract with, or to be offered to, a particular client.

It considers the provision of personalised projections to be compatible with the PRIIPs KID Regulation, adding that, as they may aid investors’ understanding of the potential outcomes relevant to them, it is proposing to amend its rules to continue to allow (but not require) firms to provide personalised projections, separate to the KID, prepared in accordance with its rules on projections or future performance (as relevant).

Combined Documents

Current rules permit firms to combine documents (KFDs, Simplified Prospectuses or EEA Simplified Prospectuses) when schemes are offered via platform service (provided the combined document clearly describes the difference between schemes). The FCA considers post-contractual provision of combined documents to be outside the scope of the PRIIPs KID Regulation. It is proposing to continue with its existing practice of allowing (but not requiring) firms to provide information, separate to the KID, combining information about several products offered at the same time (e.g. via platform service).

Use of Colours

The FCA is proposing to include guidance on the rule requiring firms to ensure information does not disguise, diminish or obscure important items, statements or warnings, to clarify how firms should use colours in their disclosure documents. This guidance will state that firms should ensure their disclosure documents use colours that can be printed or photocopied in black and white without diminishing comprehensibility.

MiFID II Overlap - Costs and Charges Disclosure 

MiFID and MiFID II contain disclosure requirements in relation to costs and charges, with MIFID II requiring disclosure by investment firms to all clients of information about costs in connection with an investments service or financial instrument. In the consultation paper, the FCA confirms ESMA's position: the PRIIPs KID Regulation requires a manufacturer of a PRIIP to disclose the costs associated with an investment in the PRIIP, both the direct and indirect costs. In order that MiFID investment firms can fulfil their obligations in relation to the disclosure of costs, they need reliable information about costs and charges from the manufacturer of the product they are distributing.

Recital 78 of MiFID II indicates that firms can rely on costs and charges information that a manufacturer or issuer of a financial instrument is obliged to publish under EU law and the FCA is interpreting this to mean that firms should be able rely on the content (but not completeness) of the costs and charges information published in, for example, an Approved Prospectus, a UCITS KIID, or a KID. 

Structured Deposits

The FCA is proposing to clarify in the Banking Conduct of Business Sourcebook that the PRIIPs KID Regulation may also be relevant in relation to these types of deposit (in addition to existing requirements) and it is also proposing to amend the definition of structured deposit in its Glossary in order to align it with the definition found in MiFID.

Structured Products 

The KID replaces the requirement to produce KFIs and the FCA is proposing to remove the provision in COBS 13.1.3R(3)(d) containing an exemption from the requirement for firms to produce a KFI when the return on the investment is linked by a pre-set formula to the performance of a specified asset or index or combination of assets or indices (i.e. when the investment is a structured product).

UCITS & NURS

UK UCITS schemes fall within the PRIIPs definition but benefit from an exemption until 31 December 2019. Therefore, firms will need to continue to apply existing Key Investor Information Document (KIID) requirements in COBS and COLL. The three-year period of exemption is available for non-UCITS funds offered to retail investors, such as NURSs. The FCA is proposing rules and guidance that will apply from 31 December 2016 to allow NURS managers the flexibility, until 31 December 2019, to produce either a KID or a document equivalent to the UCITS KIID: a NURS-KII document.

Rules requiring firms to draw up and publish a pre-sale scheme prospectus for authorised funds (authorised unit trusts, authorised contractual schemes and investment companies with variable capital (ICVCs)) will continue to apply in relation to funds that are UCITS schemes or EEA UCITS schemes, these provisions will continue to apply as a result of the UCITS Directive.

In relation to schemes that are NURSs or section 272-recognised schemes, the FCA is proposing to continue to require firms to produce a scheme prospectus (or similar document) in addition to the KID (or NURS-KII document).

The FCA is proposing to remove the requirement to produce a simplified prospectus where a scheme is a simplified prospectus scheme. As a result, firms will not be required to offer professional investors in such schemes any document other than the full prospectus. The FCA is also proposing to remove the requirement for firms to prepare and provide a KFD in relation to a Qualified Investor Scheme for professional clients. It proposing to introduce guidance to clarify that, where retail investors are concerned, firms will be obliged to produce a KID as well as a prospectus.

AIFs

Full scope UK AIFM

The FCA comments that certain PRIIPs will be Alternative Investment Funds (AIFs) and as such, in addition to the PRIIPs KID Regulation, measures in FUND that implement the AIFMD will apply in relation to them where the AIF is managed by a full-scope UK AIFM. These provisions require a full-scope UK AIFM to ensure that, for each UK AIF or EEA AIF it manages, and for each AIF it markets in the EEA, certain specified information is made available to investors before they invest. This requirement applies when the AIF is marketed to professional as well as to retail investors. Currently, some or all of this information may be detailed in a scheme prospectus or, in the case of a non-UCITS retail scheme, a NURS-KII document or simplified prospectus (or KFD if used).

The FCA is consulting on guidance at FUND 3.2.4BG to clarify that, where an AIFM makes the AIF it manages available to retail clients in the UK, compliance with the PRIIPs KID Regulation will require that, in addition to the prior disclosure of information set out at FUND 3.2.2R and FUND 3.2.3R, the AIFM must prepare: a key information document; or where the AIF is a non-UCITS retail scheme, a key information document or a NURS-KII document.

Full-scope UK AIFM: unauthorised fund documents for retail clients

Currently, full-scope UK AIFMs marketing unauthorised AIFs to retail clients are required to offer and, if requested, provide additional pre-contractual information to supplement the mandatory disclosures set out in FUND 3.2. The FCA proposing to provide guidance so that such firms are not required to offer or provide information that duplicates information already disclosed in the KID. Fund information will still need to be made available to supplement the contents of the KID.

Small authorised UK AIFM and residual CIS operator: unauthorised fund documents for retail clients

The FCA is proposing to amend the application it disclosure rules so as to clarify that small authorised UK AIFMs of unauthorised AIFs/residual CIS operator accepting retail clients as investors will still be required to offer and, if requested, produce fund information to retail clients. However, the fund information for retail clients is expected to supplement rather than duplicate the contents of the KID.

Non-EEA manufacturers

The FCA is proposing to amend a direction to require the operator of a third-country fund, when applying for individual recognition under section 272 of FSMA, to provide the KID as part of the information and documents the FCA needs to receive to consider the application.