Scope of NEWCOB and rulebook changes

On 31 October, in its latest consultation papers CP06/19 and 06/20, the FSA released its proposals to replace the existing COB rulebook with a new regime (NEWCOB); this will implement the COB requirements in MiFID and also FSA’s own review which is designed to simplify the conduct of business regime for designated investment business. It also sets out other proposed sourcebook changes to Systems and Controls (SYSC), Dispute Resolution: Complaints (DISP), Training and Competence (TC) and Supervision (SUP).

Below we look at the scope of NEWCOB and the changes involved, identify the firms which will be impacted and provide a brief summary of the other sourcebook changes.

1. NEWCOB in context

NEWCOB (also known as “COBS”) reflects:

• FSA’s review of COB and its move to more principles based regulation with less prescriptive processes. This is intended to produce a shorter, simpler and more accessible rulebook.
• Implementation of MiFID, FSA’s decision on the retention of certain existing rules/gold plating (to be notified to the Commission under Article 4 of the implementing directive) and its (incomplete) work on the application of MiFID rules to activities/firms falling outside of the scope of MiFID.

2. Scope of NEWCOB rules

The scope of NEWCOB will be broadly similar to that of COB and will therefore apply to those firms currently subject to COB (whether or not they are within the scope of MiFID). Generally NEWCOB will be relevant to any firm (including an EEA firm) that carries on the following activities from an establishment in the UK:

• accepting deposits;
• designated investment business;
• MiFID business;
• long-term insurance business; and
• Lloyd’s market activities.

This includes investments firms, banks/credit institutions, insurers and introducers/arrangers (MiFID and non-MiFID firms) including oil market participants, energy market participants, trustee firms and firms carrying on corporate finance business or stock lending activities. It will not apply to firms which are only concerned with mortgages and/or general/non-investment insurance (not including long-term care).

For a general overview of the different chapters and the scope of their application, please click here. Firms should check the application provisions in NEWCOB and the provisions in each chapter for the detailed application rules.

3. Application of MiFID rules to Non-EEA firms

Certain provisions of NEWCOB apply to MiFID business of MiFID firms or “equivalent business of a third country investment firm”. This reflects the conclusion that UK branches of firms incorporated outside the EEA – whilst not entitled to the MiFID passport – should be subject to the same COB rules as European firms. This puts such firms on the same footing as that of an incoming EEA firm with a branch in the UK and maintains the status quo which prevailed under Article 5 of the ISD not to treat third country branches more favourably that those of EEA States.

4. Deferred non-scope review

In many cases in the retail sector, FSA has considered the extent to which MiFID rules will apply to non-MiFID firms (such as IFAs) and to non-MiFID activities (such as sales of life products). In some areas, however, FSA has had to defer consideration of this issue until a further consultation in Q2 2007. This will also address the future of the Inter-Professional Conduct code (IPC) in MAR 3 for non-MiFID business. FSA has decided to delete MAR 3 for MiFID business. (Guidance currently in the IPC in relation to transactions at non-market prices may be retained outside of the handbook.)

Broadly, the main areas of non-MiFID activities that are due to be considered in Q2 2007 are;

• Non-scope venture capital/corporate finance business or where this is performed by a non-MiFID firm;
• Commodities derivatives (including non-scope energy market and oil market activity) and ancillary services;
• Sport and leisure – spread betting;
• Lloyd’s business – non-scope designated investment business that is currently subject to COB 12;
• Collective investment undertakings and their operators focussing on the scheme management activity of the operators;
• OPS firms – concerning the provision of services to pension funds (e.g. asset management);
• Provision of investment research by a non-scope firm, a credit institution on a stand alone basis or by a MiFID firm in relation to non-MiFID instruments;
• Locals;
• Service companies in relation to arrangements with professional clients;
• Business falling within the existing regimes for depositories and trustees (except for MiFID business of trustee firms that are MiFID firms);
• Best execution and order handling for non-scope firms;
• Client categorisation rules relating to the professional client/eligible counterparty boundary outside the scope of MiFID;
• Requirements relating to the projections of future returns and the effect of changes for packaged products.

5. The NEWCOB rules

NEWCOB presents firms with four categories of change:

• More principles based regulation – some rules have been drafted in line with the FSA’s more principles based approach, these focus more on the outcome that the rule is seeking to achieve rather than the processes firms should use to achieve it. This provides more flexibility for firms in establishing their processes, but may result in some firms being unsure as to the parameters of the rules. It places greater responsibility on senior management.

To view our recent Law-Now article “FSA gives further guidance on principles – based regulation” please click here.

• New rules – some rules are entirely new to COB and reflect provisions in MiFID (e.g. an appropriateness test for a range of non-advised services);
• No rules – FSA has dropped some rules either in line with its focus on simplification and principles based regulation or because a similar outcome can be achieved through other higher-level rules or guidance.
• Minor or significant? – although some of the changes to the current rules that have been carried across from COB are minor, many are more significant (for example the NEWCOB rules relating to best execution).

In addition:

As part of the re-structuring of COB, certain parts are moved to other sourcebooks where they fit more logically (e.g. general material on conflicts of interest has been moved to SYSC), whilst others have been moved into NEWCOB from smaller sourcebooks (e.g. the Electronic Commerce Directive will now be implemented through NEWCOB as opposed to through the separate ECO sourcebook).

“Key rules” will be developed to epitomise the NEWCOB regime and to make it more accessable for senior management and non-executive directors.

A table of COB “destinations” in NEWCOB appears in annex 2 of CP 06/19. Click here to view the equivalent derivatives from COB for each NEWCOB chapter.

Although widely anticipated, the proposed NEWCOB rules reflect a substantial change to a large part of the current UK regulatory regime. The consultation period has only a short time to run – it closes on November 28th for MiFID implementation and February 23rd for non-MiFID provisions.

6. Other changes in the October CP: SYSC, DISP, TC and SUP

SYSC

The FSA consultation paper also contains further rules to be included in the new SYSC sourcebook previously consulted on in May (CP 06/9) and July (CP 06/13). The rules relate to record-keeping, implementing the MiFID requirement for firms to retain records for a minimum of five years, and rules and guidance on notification and outsourcing of portfolio management for retail clients to service providers in non-EEA states.

These rules are subject to a one-month consultation (closing on 28th November) and will be of interest to firms that fall within the common platform rules in new SYSC and also for those investment firms which carry on portfolio management for retail clients but who outsource this activity to a non-EEA service provider.

DISP

FSA has taken the opportunity at having to implement the MiFID record handling rules to carry out a review and restructuring of the rules in DISP 1 relating to complaints handling, complaints resolution, complaints reporting and making consumers aware of a firm’s complaints procedures. These changes are part of an overall review that the FSA is to undertake on DISP. The change in DISP 1 will be of interest to most firms (except UCITS qualifiers, credit unions and APFs who are outside the scope of DISP). It will also be of interest to licensees under the Consumer Credit Act as, in line with the new jurisdiction of the Financial Ombudsman Service, certain provisions will now apply to these firms.

The rules and guidance in DISP 1 which implement MiFID are subject to a one month consultation period (DISP 1.2 (Complaints handling) and DISP 1.5 (Complaints records) which will close on 28th November. The remaining rules in DISP 1 are subject to longer consultation which will close on 23rd February.

TC

Relatively minor changes are proposed to TC to implement the provisions in MiFID. The exam time limits have been removed and the record keeping requirements for employees carrying on MiFID business has been extended to five years. These changes are at the forefront of a much wider review of TC to take place next year. The consultation period for these changes closes on 28th November

SUP

FSA proposes to make the managers of collective investment undertakings and pension funds subject to MiFID transaction reporting. However, certain exemptions will be available. These changes are not MiFID driven so are subject to the three month consultation period which ends on 23rd February.