On 27 July 2016, the Monetary Authority of Singapore (the "MAS") issued new Guidelines on Outsourcing Risk Management (the "new Guidelines"), together with a set of Frequently Asked Questions on Outsourcing (the "FAQs"). The new Guidelines supersede the previous version issued in 2004, as well as the Information Technology Outsourcing Circular issued in 2011.
Revisions to the MAS regulatory regime on outsourcing were first proposed by MAS in two consultation papers published on 5 September 2014, with one paper proposing changes to the existing non-mandatory standards set out in guidelines and the second paper proposing that certain measures be made mandatory and set out in legally binding notices issued to each class of financial institutions (each an "FI") that are regulated by MAS. These initiatives were intended to address evolving cyber threats and increasingly complex outsourcing arrangements.
After considering feedback, MAS has now finalised its policy posture on the guidelines, and in conjunction therewith, issued the new Guidelines and the FAQs.
KEY FEATURES OF THE NEW GUIDELINES
The new Guidelines set out in considerable detail the standards generally expected of an FI that has entered, or is planning to enter, into any outsourcing arrangement in respect of its business activities. In general, MAS expects FIs to develop sound and responsive outsourcing risk management policies and procedures that are commensurate with the nature of risks in, and materiality of, the outsourcing arrangement.
(i) Scope of Application of the new Guidelines
As was previously proposed by MAS, the new Guidelines now apply to all classes of FIs regulated by MAS, as defined in section 27A of the MAS Act. In the case of an FI that is incorporated in Singapore, such FI must ensure that all branches and subsidiaries under its control (wherever located) should observe the new Guidelines so that outsourcing risks are assessed and managed appropriately on a group-wide basis. MAS also clarified that this would extend to non-financial related companies.
(ii) Clarification of definitions
Taking account of feedback, the MAS has either amended existing definitions or included new definitions within the new Guidelines, including the terms "customer", "outsourcing arrangement" and "material outsourcing arrangement".
Significantly, the term "outsourcing arrangement" is now defined as an arrangement in which a service provider provides the institution with a service that may currently or potentially be performed by the institution itself and which includes the following characteristics:
- the institution is dependent on the service on an ongoing basis; and
- the service is integral to the provision of a financial service by the institution or the service is provided to the market by the service provider in the name of the institution.
MAS has removed the previous characteristic of the arrangement having to be one whereby it would be prohibitive to change service providers because substitutes are lacking in the market or because replacement is possible only at significant costs to the institution.
And in relation to the characteristic of ongoing dependency, this had previously been considered to exclude arrangements for the provision of a finished product such as software. However, MAS has now clarified that an arrangement with a software vendor for ongoing support to keep the software updated and relevant could still be considered to be outsourcing.
(iii) Engagement with MAS on Outsourcing
One significant change in the regime is the dispensation with the need for FIs to pre-notify MAS of their intention to enter into material outsourcing arrangements. MAS had explained that with the growing prevalence of outsourcing arrangements and their increasing complexity, it has become less tenable to expect this. With this change, MAS will still continue to monitor and assess each FI's outsourcing risk management program on a post-fact basis. In the event that MAS finds an FI's program to be deficient, the FI may be directed to adopt additional measures to address the deficiencies, to make changes to any particular outsourcing arrangement or to re-integrate the relevant outsourced service into its operational control.
(iv) Outsourcing Risk Management Practices
Taking into account feedback, MAS has made various changes to section 5 of the new Guidelines on the various risk management practices. Certain specific measures will be limited to apply only to outsourcing arrangements that are material outsourcing arrangements.
To recap, the general expectation is that an FI's outsourcing risk management framework should comprise the following elements:
(1) Responsibility of the Board and Senior Management
The board and senior management of an FI bear primary responsibility for implementing a robust outsourcing risk management framework and maintaining effective oversight and governance of outsourcing arrangements.
As was the case previously, the new Guidelines lay out certain responsibilities of the board and local senior management of the FI in relation to outsourcing.
In particular, the FI's board (or a committee delegated by the FI's board, which MAS has emphasised, has to be beyond local senior management) should, among having other responsibilities, approve the framework used to evaluate risks and materiality of outsourcing arrangements and the policies applying to them, and also set a suitable risk appetite to define the nature and extent of risks that the FI would be willing and able to assume. In the consultation paper, MAS had initially proposed that the risk appetite should also be measured by means of limits. However, taking on board the reservations expressed by some respondents as to how such limits could be set in advance, MAS has relented and removed the use of a limits as a means to define risk appetite.
Local senior management is generally responsible for operationalising and executing the outsourcing risk management framework. One element of this is the drawing up and testing of contingency plans. However, one respondent had pointed out that in certain cases, it could be impractical or prohibitive to test contingency plans and the question was thus raised as to whether it might suffice to review and assess whether an action plan is reasonable and achievable. In its response, MAS has acknowledged this, but emphasised that the FI must indeed satisfy itself that the objectives are achievable and furthermore, the FI must put in place appropriate measures to address any residual risk that could arise from a contingency plan not having actually been tested.
(2) Evaluation of risks
The risk evaluation framework required to be in place must also provide for the FI to analyse overall exposure to outsourcing risks.
During the consultation, some respondents had pointed out that analysing risk exposure (particularly concentration risk) might be something left to the FI's Head Office. Clarifications were also sought as to the risk treatment of intra-group outsourcing arrangements. Responding to these concerns, MAS said that while an FI could rely on its Head Office to analyse overall risk exposure, in Singapore the FI would still remain responsible to MAS. Risks from intra-group outsourcing arrangements are also not to be exempt since these could still pose a threat due to different operating, legal and regulatory environments.
(3) Assessment of service providers
MAS had always expected FIs to undertake appropriate due diligence to assess the capabilities of service providers. Some respondents queried how the guidelines would apply where the service provider is selected by the Head Office of the FI. To this, MAS has said that the FI in Singapore still had a part to play in the due diligence process of selecting service providers and had the responsibility to give input to its Head Office to ensure that the service provider is capable of meeting local needs and requirements.
MAS also clarified that onsite visits should be used as a supplement to offsite reviews and should be considered if they are expected to be more effective in enabling the FI to assess the service provider. FIs would be allowed to adopt a risk-based approach when determining whether onsite visits are necessary and the visits can be conducted by the FI itself or by independent third-parties appointed by the FI.
In the consultation paper, in stating that FIs should ensure that employees of service providers and its sub-contractors are fit and proper, MAS appeared to have initially proposed a very stringent standard for employees of service providers. Accepting feedback from some respondents that this might conflict with yellow-ribbon hiring policies of service providers, MAS has now clarified that employees of service providers are not expected to undergo a fit and proper assessment as per the MAS Guidelines on Fit and Proper Criteria. It would suffice that the standards applied to the employees of the service provider be consistent with the standards that would apply to the FI's own employees. Paragraph 5.4.4 of the new Guidelines has been amended to reflect this accordingly. MAS also said that FIs are not expected to conduct checks on the employees of third-party service providers but they do have to ensure that there are acceptable hiring and screening policies in place to ensure that the employees are suitable for the roles they are performing. This would include a higher level of screening in material outsourcing arrangements or where sensitive information is being handled.
In the consultation paper, MAS had also proposed that due diligence undertaken during the assessment process should be re-performed at least on an annual basis. Taking into account feedback on this point, the reference to re-performing due diligence at least on an annual basis has been deleted from paragraph 5.4 of the new Guidelines. The requirement now is for due-diligence to be re-performed periodically under a risk-based approach.
(4) Outsourcing agreements
Even before the consultation paper of September 2014, FIs had been expected to have an outsourcing arrangement properly documented within an agreement so that the relationship, and the roles and responsibilities of parties are clearly defined. MAS has now clarified that even for intra-group outsourcing arrangements, this should be done even if such an agreement might not be strictly enforceable by law.
One particular source of concern when the consultation paper was released was that MAS appeared to have insisted that the outsourcing agreement should give the FI the ability to control the use of sub-contractors by the service provider. Respondents highlighted that this was onerous and it would be cumbersome and unproductive if the FI had to approve sub-contracting of processes in such a manner. It was also pointed out that the operational and practical difficulties would increase with each successive tier of sub-contracting that might occur. Unfortunately, it appears that the MAS has not been persuaded on this point. In its policy response, it emphasised that the rules on sub-contracting were intended to ensure that sub-contracting did not impact the FI's ability to comply with the outsourcing guidelines. Indeed, in its final form, the paragraph on sub-contracting appears to go beyond the version set out in the consultation paper. The FI is now required to ensure that the sub-contracting of any part of a material outsourcing arrangement should be subject to the FI's approval.
(5) Confidentiality and Security
In the previous guidelines as well as the consultation paper, it was stated that an FI had to take steps to ensure that the service provider was able to isolate and clearly identify the FI's customer information, documents, records and assets in order to protect confidentiality, particularly for multi-tenancy arrangements. Responding to feedback, MAS has clarified that logical segregation would be acceptable as a form of control for electronically-held customer information. The reference to isolation and identification has now been removed from the relevant paragraph, which now provides for a more broadly worded obligation to protect confidentiality, particularly in multi-tenancy arrangements.
Despite requests, MAS declined to give more specific guidance as to the frequency of reviews expected over security practices and control processes. Instead, it emphasised in its public response that individual FIs are better placed to perform their own assessment and determine the frequency for such reviews. MAS did point out that such reviews should be conducted by persons with the requisite knowledge and skill and who are independent of the unit or function responsible for the outsourced activity. MAS also made clear that intra-group outsourcing arrangements were not to be specially excluded from the scope of such reviews since such outsourcing arrangements could still pose risks.
(6) Business continuity management
In the form of the guidelines proposed in the consultation paper, MAS had stated that FIs should take part in its service provider's business continuity plans and disaster recovery exercises. This prompted expression of concerns from some respondents. Although the new Guidelines continue to specify that the FI should take part in its service provider's business continuity plans and disaster recovery exercises, MAS did clarify in its policy response that this was something which it would encourage wherever possible as such participation would enable the FI to familiarise itself with its service provider's recovery processes and improve coordination between the parties.
(7) Monitoring and control of outsourcing arrangements
In response to queries from respondents, MAS has now said that as a matter of good risk management, the outsourcing register should cover all outsourcing arrangements, but with those that are material outsourcing arrangements being required to be identified as such and subjected to more specific monitoring. Thus, the dates when material outsourcing arrangements are reviewed either in the course of due diligence or in the course of an independent audit should be noted within the register.
In its policy response, MAS gave some additional guidance as to what is expected in pre-implementation and post-implementation reviews. Pre-implementation reviews are not limited to conducting due diligence on the service provider but could extend to looking at the checks and controls in place to ensure a smooth handover of functions from the FI to the service provider. Post-implementation reviews could include looking at the effectiveness and adequacy of the FI's own controls in monitoring the performance of the service provider and checking that the risks are managed as planned, and would usually be conducted shortly after the commencement of the outsourcing. MAS said it would be up to the FI to decide on what would be suitable time-frames for each of these.
(8) Audit and inspection
One particular significant proposal in relation to audit and inspection that had originally been included in the consultation paper was for the FI to ensure that there was included within the outsourcing agreement a clause to indemnify MAS from any liability to the service provider and to sub-contractors arising from any action taken by MAS to inspect the service provider or sub-contractor. Recognising respondents' concerns, MAS has removed this requirement from the new Guidelines.
In the consultation paper, MAS had also proposed to set a baseline standard of 3 years between independent audits or expert assessments of an FI's outsourcing arrangements. Conceding greater flexibility to FIs, this expectation has been removed, with each FI being left to determine for itself the precise frequency of such audits or expert assessments, having regard to the nature and extent of the risks involved.
Significantly, MAS also clarified that the audits or assessments of the outsourcing arrangement may be conducted either by the service provider and its sub-contractors, by the FI or by both, with the FI having the responsibility to ensure that the audits or assessments are adequate and effective. This clarification by MAS is particularly helpful, as it is conceivable that service providers (particularly those that are large multi-national corporations) would be reluctant to subject themselves to audits or assessments by parties not chosen by them.
(9) Outsourcing outside Singapore
The MAS guidance regime on outsourcing had always placed some emphasis on additional controls required when outsourcing to a service provider in a foreign country. Despite requests from some respondents, MAS declined to give more guidance on this requirement beyond stating outsourcing arrangements should only be entered into with service providers operating in jurisdictions that generally uphold confidentiality clauses and agreements.
MAS has made clear that the specific measures in paragraph 5.10.2 of the new Guidelines apply only to outsourcing arrangements that are material outsourcing arrangements. Paragraph 5.10.2 also applies where sub-contractors are involved.
(10) Outsourcing within a group
Paragraph 5.11.1 of the new Guidelines now make clear that an FI can adopt group-wide risk management policies and procedures in order to meet the expectations set out in the new Guidelines.
Intra-group outsourcing arrangements are not exempt because potential risks may still arise owing to the different operating, legal and regulatory environments across different offices within the group. However, MAS does appear to accept that the level of due diligence required in relation to intra-group outsourcing is not necessarily the same as that for outsourcing to a third-party and has made more specific provisions for this in paragraph 5.11.2.
(11) Outsourcing of the internal audit function
In the new Guidelines, the regulatory position on outsourcing of the internal audit function remains as before – namely, MAS does not consider it to be sound practice for an FI to outsource its internal audit function to the same firm that serves as its external auditors, and that any departure from this norm should be limited to small FIs and be within the bounds of any applicable ethical auditing standards.
(12) Outsourcing of the risk management or internal control function
MAS has also taken the opportunity to reiterate that the outsourcing of the risk management or internal control functions would be considered to be material outsourcing regardless of whether the party performing the function is a third-party or part of the FI's group. This is because these functions are considered to be critical functions that will expose the FI to significant legal, reputational and regulatory risks if the function is not carried out properly.
(v) Guidelines on Cloud Computing
The new Guidelines contain a new section 6 on cloud computing.
MAS said that they had observed that cloud services were increasingly being adopted by FIs to enhance their business operations and service efficiencies because cloud services allow simultaneous access to shared resources. The types of risks associated with cloud services are not dissimilar to risks associated with other forms of outsourcing arrangements. FIs will therefore be expected to apply the due diligence requirements and risk management practices in the new Guidelines when subscribing to cloud services. As with other outsourcing arrangements, a risk-based approach should be adopted to ensure that the level of oversight and controls are commensurate with the materiality of risks posed. In particular, FIs have to be aware of the typical characteristics associated with cloud computing services such as multi-tenancy, data commingling and the propensity for processing to be carried out in multiple physical locations. MAS would therefore expect FIs to take active steps to address the risks associated with these characteristics.
The new Guidelines take immediate effect from its date of issue of 27 July 2016. All FIs subject to the new Guidelines will have 3 months from the said date to carry out self-assessments of their outsourcing arrangements against the new regulatory benchmarks, and 12 months from the said date to remediate deficiencies.
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