The FSA, Employment References and Approved Persons - What you need to know

Background

This article was commissioned by Alexandra Kelly of Powerchex following the issue of FSA’s Consultancy Paper (CP10/3) on Effective Corporate Governance. Among other changes proposed in this is formal Guidance on the requirement that regulated firms should always provide information to the FSA on Approved Persons overriding any restriction they may have accepted contractually not to do so in respect of the termination of such a person.

The article is also to cover any contractual restrictions on the giving of references about the employee to a new employer.

It should consider both the theory and practice of these two situations - if there is any difference - at present and in the future under CP10/3.

Introduction

This article considers how far Financial Services Authority (FSA) regulated firms can accept restrictions on providing information, under the wording of the Compromize Agreement with a departing employee, to the FSA or a new regulated employer. It does so under present regulations and practice, and looks into the future at the changes proposed by the FSA in its Consultation Paper 10/3 issued in January this year.

Restrictions on information to the FSA

Current Position

All firms are required to co-operate fully with the FSA and provide the information it requests - “Firms are reminded that they should be open and honest with the FSA as per Principle 11” - FSA’s Notes to the form withdrawing an Approved Person (Form C). The FSA’s Supervision Sourcebook (SUP 10.13) gives more detail on when a withdrawal should be “qualified”. This is where the Approved Person was dismissed, suspended, resigns while under investigation by the firm or the regulator, or where, more generally, “the firm reasonably believes that the information may affect the FSA’s assessment of such a person’s ‘fitness or properness’”. The FSA’s FIT Sourcebook provides more detail with examples on ‘fitness and propriety’.

A firm’s obligations to tell the FSA about the circumstances of the termination is therefore reasonably clear. If it accepts a confidentiality restriction, it should except its obligations to the FSA and other regulators in wide terms. Failure to include it could make the firm vulnerable to a claim from the employee. In practice the employee’s solicitors sometimes try to negotiate the wording to go in the Form C. This is dangerous because the employee’s solicitors may encourage the firm to put in an unqualified withdrawal or slanted description of the termination if qualified, when neither is appropriate. The firm should itself decide what information to give the FSA on the termination, and then, only if it considers it appropriate, give a copy after sending it off to the FSA, to the employee. Even this is unusual, with many firms settling for simply telling the employee whether it is a qualified or unqualified withdrawal.

Future

If the proposed changes to SUP 10.13.7A in the FSA’s Consultation Paper come into force, this restriction on confidentiality clauses will become even clearer. In particular a firm will beach FSA Rules if it agrees to accept any restriction on providing information to the FSA, and a firm failing to provide appropriate information to the FSA - either on its own initiative in Form C , or on specific request - may commit a criminal offence under section 398 of the FSMA.

The Rules and Guidance on whether to make a qualified withdrawal, and what information the firm should provide to the FSA, remain as now. The difference is that the FSA has warned firms that they (1) they must take a hard line and except the FSA from any confidentiality restriction and (2) that they may be called upon to justify the selection of information in the Form C on the termination, with possible penalties if they cannot do so, so should make their own uninfluenced decision on this.

Restrictions in Information to new employers

Present

We are all aware that most employers give minimum information e.g. dates worked and job title(s) on a reference. However this is often of little value to the new employer, and concerns the FSA because an employee who is not ‘fit and proper’ may repeat his or her actions in another firm. Until August 2009 FSA Rules focused on consumer protection so that the old employer was only obliged to give more information if the employee was providing services to them. Since that date this requirement has been extended to cover all Controlled Functions so both retail and wholesale customer functions and all other Approved Person functions are now included. Under the FSA’s Supervision Sourcebook (SUP 10.13.12), the old employer is required to provide all relevant information in prescribed areas, including some set out below -

On customer complaints which are outstanding, justified or upheld;
On the list of problem areas set out in section 5 of the long Form A Application Form such as any breaches of the requirements or standards of the Regulatory System;
The list of problem areas set out in the Fitness and Proper test for Approved Persons (FIT 2.1.3). This is well worth reading since it goes further than the second bullet point e.g. has the employee been interviewed in connection with a regulatory investigation?

These rules are quite clear and the new employer can outsource this request to an agent - for example Powerchex provide a CV checking service. Compromize Agreements since August should limit any agreed form of reference to where the new employer is an unregulated firm, or the employee will not be an Approved Person in it. In any event under FSA Rules, the old employer’s obligation to provide this information is limited by (1) the new employer asking for it (in practice they sometimes do not although they should since they will be submitting a 5 year employment history of the employee, and they will be responsible if it is inaccurate), (2) there is no standard form asking for this information. Therefore the questionnaires are bespoke and may contain questions which the old employer is entitled to refuse to answer and does so, (3) there is no time limit to supply the answers - which means that the new employer may need to proceed with the offer anyway if there is any difficulty or delay, and (4) there is no sanction in practice if the old employer refuses - other than complaining to the FSA who have shown reluctance to be drawn into reference disputes. Therefore, in practice, telephone calls are often made to a person already known in the firm - often without regard to Data Protection and sometimes to the restrictions in the Compromise Agreement, and without notes being made afterwards. This can also breach any fidelity insurance conditions if references are not properly taken and recorded.

Future

The FSA’s Consultation Paper 10/3 does not extend to employee references so the position described earlier continues to apply. However there is a separate future change planned under the Retail Distribution Review (RDR). In Consultation Paper 9/31 issued in December last year, the FSA proposed that the new employer should check the training record of any new Retail Adviser (Paragraph 2.65 of CP09/31). If the FSA confirm this in the Rules attached to their Policy Statement planned for June, this will be a significant new obligation on the new and old employers if the employee cannot provide training records himself or herself, or does not keep the CPD log at a professional body such as the Chartered Institute for Securities & Investment.

Biography

Christopher Bond is the Senior Adviser to the Securities & Investment Institute on Compliance. His responsibilities include writing the stories for the SII Regulatory Update (which covers asset management, corporate finance, hedge funds, investment banking, derivatives, private equity, private wealth management and retail intermediaries), and plays a role in FSA’s initiatives on professionalism such as the Retail Distribution Review. Christopher also supports several such regulated firms as an adviser or non executive director. He speaks frequently at events in the UK and other EU countries on current regulatory issues such as MiFID, Money Laundering, Financial Crime and More Principles-based Regulation for Senior Management. He has been the Compliance Officer in a bank and an investment manager.

Previously Christopher was a senior equity partner in a City Law Firm for many years. In that capacity he had responsibility for financial services for the firm’s clients in many countries in Europe, the US and East Asia including on UK Government sponsored trade missions. He has written many articles on UK Regulation in his career.

“Companies need to recruit and train people in whom they have confidence and whom they can trust. It is confidence and trust that are real safeguards against fraud and disaster, and they can only be fostered and instilled on a sound ethical basis”

Sir Adrian Cadbury, Committee on the Financial Aspects of Corporate Governance, 2002