UK: Restrictions On The Retail Distribution Of Unregulated Collective Investment Schemes ("UCIS") And Close Substitutes

Last Updated: 20 June 2013
Article by Eve Ellis

Last week, the FCA published its policy statement and rules in relation to the promotion of UCIS and close substitutes to retail clients.

What's this all about?

The central aim of the rules is to protect ordinary retail investors from high-risk and complex investments. From 1 January 2014, new rules will be implemented to restrict how FCA authorised firms market certain "non-mainstream pooled investments" ("NMPIs") such as units in UCIS and close substitutes to ordinary retail investors. On the other hand, the promotion of these products to high net worth or sophisticated retail investors will be permitted subject to certain conditions being satisfied (see further details below).

UCIS are broadly defined, but will generally include investment funds, such as private equity, debt, real estate, hedge and infrastructure funds. They can also sometimes include other investment arrangements which are not necessarily funds. As such, the definition of a UCIS should be considered on a case by case basis.

What's changing?

Currently, FCA authorised firms can market UCIS to certain exempt persons set out in statutory exemptions and in the FCA's conduct of business rules ("COBs"). In the context of retail investors, the key statutory exemptions include self-certified high net worth individuals, self-certified sophisticated investors and certified sophisticated investors. However, the two self-certified exemptions can only be used for certain types of UCIS (namely those investing predominantly in unlisted securities). The COBs exemptions include various categories of persons and in the retail context those relevant are:

  • A person who is already a participant in a UCIS or has been in the last 30 months (subject to certain conditions being satisfied) (Category 1).
  • A person who is an established or newly accepted client of the firm and who the firm thinks the investment is suitable for (Category 2).
  • Professional clients (in the retail context, this means a retail client who meets certain criteria and goes through a particular process to be opted up to a professional client) (Category 7).
  • A person who the firm has undertaken an assessment of his expertise, experience and knowledge to provide the firm with reasonable grounds to determine that the person is capable of making his own investment decisions and understanding the risks involved (provided certain conditions are satisfied) (Category 8).

The key change is that these restrictions previously only applied for UCIS and the new policy will extend the products which are caught to include the following (as well as units in UCIS):

  • Units in qualified investor schemes.
  • Traded life policy investments.
  • Securities issued by SPVs pooling investment in assets other than listed or unlisted shares or bonds (for example, to invest in real estate).

The FCA has confirmed that the following products will be outside the scope of the marketing restrictions:

  • Securities issued by SPVs that pool investment in listed or unlisted shares or bonds.
  • Exchange traded products.
  • Overseas investment companies that would meet the criteria for investment trust status if based in the UK.
  • Real estate investment trusts.
  • Venture capital trusts.

The new rules will remove the general ability of firms to promote UCIS to Category 1, Category 2 and Category 8 persons. However, firms will still be able to promote new NMPIs that are intended to replace or absorb an existing scheme.

New suitability-based exemptions will allow firms to promote NMPIs to self certified high net worth individuals, self-certified sophisticated investors and certified sophisticated investors. However, there are detailed rules about assessing suitability and it will not be sufficient for a person merely to satisfy the high net worth or sophistication criteria of these exemptions.

There are also other categories available, including those relating to eligible employees, solicited advice, communications which benefit from a statutory exemption, non recognised UCITS schemes and US persons.

The FCA is also introducing new rules that require firms to keep a record of the basis on which NMPI promotions are made and confirm that they have complied with the marketing restriction for each promotion.

What does this mean in practice?

Many firms would only have marketed these sorts of products to more sophisticated investors. However, the new regime provides for more specific rules which need to be followed. This is particularly the case for those products which were not subject to any restrictions previously. In practice, firms will need to ensure their procedures are consistent with the new rules, which place more emphasis on suitability assessments and record keeping. As such, firms should seek advice on their existing procedures as soon as possible to ascertain what changes need to be made to ensure the necessary changes are put in place in by 1 January next year, to avoid any delay in being able to market their products.

Finally, it is worth bearing in mind that the FCA is keen to stress that there should not be a presumption of general suitability just because a product falls outside the new NMPI definition. Indeed, the FCA notes that it may use a temporary product intervention rule as part of a continuing review of market developments. As such, firms should not ignore the new rules completely for out of scope products.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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