Professional Negligence and Liability
Chapter 12
FINANCIAL ADVISERS
I. INTRODUCTION AND GLOSSARY OF TERMS
1. Categories of financial advisers dealt with in this chapter
12.1 This chapter deals with the professional duties owed by financial advisers to their clients and the consequences of a breach of duty. The term “financial adviser” is simply a descriptive term referring to a person who gives advice on financial matters. But this chapter deals only with those whose job it is to give financial advice and who do so either as authorised persons under the Financial Services and Markets Act 2000 (“FSMA”) or in the course of working for such a person in accordance with the requirements of that Act.1 Generally, those advisers will give advice to ordinary members of the public in relation to investments, insurance, mortgages and related matters. 12.2 The advice may be given in many different situations. Thus the focus of the advice may be a specific issue such as inheritance tax and estate planning. Or it may be more in the nature of a general review in the course of which the adviser may recommend that the client buys one or more specific financial products. 12.3 Broadly, there are two categories of financial adviser. There are those who give advice to their clients where that advice is based on a comprehensive and fair analysis of the relevant market and is unbiased and unrestricted in any way. Such advisers are generally known as independent financial advisers or IFAs. The second category consists of those whose advice is restricted in some way. Perhaps the most common kind of restricted adviser is one who can only offer a limited range of financial products, for example, only those of one, or perhaps, a few product providers. Advisers in either category may be individuals or some form of corporate entity. [The next paragraph is 12.5]2. Glossary of terms used in this chapter
12.5 It may assist the reader to set out here some of the more common terms in current usage in connection with financial advisers: The 1986 Act—the Financial Services Act 1986. The 2012 Act—the Financial Services Act 2012. This Act introduced substantial changes to the regulatory arrangements by amendments to FSMA. See paragraph 12.6 below. Appointed representative—a statutory term for a person who represents a principal authorised to carry on investment business and whose contract with the principal satisfies the requirements of section 39 of FSMA. See paragraph 12.15.1 below. COBS or COB—Conduct of Business Sourcebook. This is part of the FCA’s rule book (called The Handbook). COBS applies generally to all firms carrying on investment business. See further paragraph 12.8, below. The version known as COB was in force until 31 October 2007; and then the version known as COBS superseded COB and came into effect on 1 November 2007. Execution-only transaction—a transaction executed by a financial adviser upon the specific instructions of a client where the financial adviser does not give advice on investments relating to the merits of the transaction. See further paragraph 12.60 below. Fact-find—a term for the process by which an adviser or representative establishes the relevant facts relating to the personal and financial circumstances of a client or prospective investor so that the adviser or representative is able to determine what financial product would be appropriate and suitable for the client or investor. The term is also used to refer to the document (often in the form of a questionnaire) which, when completed, contains the information. FCA—The Financial Conduct Authority. The regulator of all conduct related activities carried on by all those who are regulated under FSMA. It also regulates the prudential standards of all those firms whose prudential standards are not governed by the PRA (see below). It is the successor to the FSA which changed its name to the FCA on 1 April 2013. FOS—Financial Ombudsman Service. This is the independent dispute resolution scheme which was established by FSMA to resolve complaints about financial services firms quickly and with a minimum of formality. See paragraph 12.181 below. FSA—The Financial Services Authority. This was, until 1 April 2013, the only regulator of every aspect of matters covered by FSMA. On 1 April 2013, its functions were divided between the FCA (see above) and the Prudential Regulatory Authority (see below) which, as its name suggests, oversees the prudential aspects of regulation under FSMA of large investment firms, insurance companies and banks. FSMA—Financial Services and Markets Act 2000. See paragraph 12.8, below. General prohibition—is that set out in section 19 of FSMA and provides that no person may carry on a regulated activity in the UK unless he or she is authorised to do so or is exempt from the need to be so authorised. It is a criminal offence to carry on a regulated activity if not so authorised or exempt. See paragraph 12.8.1, below. The Handbook—the FCA’s handbook of rules applicable to the conduct issues of all firms regulated by the FCA. Note that the PRA also has its own handbook. IFA—an independent financial adviser. See paragraph 12.3, above and paragraph 12.20, below. MiFID—Directive 2014/65/EU on markets in financial instruments, retained in English law following the UK’s withdrawal from the European Union. PRA—Prudential Regulatory Authority. This body oversees the prudential aspects of regulation under FSMA of large investment firms, insurance companies and banks. RAO—the Regulated Activities Order (Financial Services and Markets Act 2000 (Regulated Activities) Order 2001, SI 2001 No 544) which defines all of the many activities which are regulated, and which may therefore be carried on only by an authorised or exempt person without contravening the general prohibition in section 19 of FSMA and committing a criminal offence. See further paragraphs 12.8.1 and 12.8.3, below. RDR—Retail Distribution Review. In 2006 the FSA began a substantial review into the way in which investment products were distributed to retail consumers. The objectives were to improve standards of the training of financial advisers; to clarify the ways in which firms described their services; and to eliminate methods of remuneration which created conflicts of interests. The resulting rules came into force on 31 December 2012. See paragraph 12.20 below. Regulated activity—FSMA prohibits any person from carrying on any regulated activity by way of business in the UK unless that person is either an authorised or exempt person. It is a criminal offence to act in breach of that general prohibition. Regulated activities are defined in the Regulated Activities Order or RAO. See paragraphs 12.8.1 to 12.8.3, below. Representative—a representative is an individual who is appointed by a person authorised under FSMA or an appointed representative to advise on investments or to arrange deals in investments. SRO—a self-regulating organisation.3. Brexit
12.5.1 Following the exit of the UK from the European Union, and the subsequent transition period, the UK became a “third country” for the purposes of EU law with effect from 1 January 2021. The effect of this on the regulation of UK financial advisers has, to date, been limited. The FCA has introduced a temporary permissions regime for EEA-based firms to continue operating in the UK, where they previously “passported” into the UK,2 and the FCA has exercised a “Temporary Transitional Power” which means that firms can comply with the FCA’s rules by meeting the obligations that applied before 11pm on 31 December 2020.3 12.5.2 EU legislation has been “onshored” (i.e. retained) pursuant to the European Union (Withdrawal) Act 2018. Of particular relevance to financial advisers is the fact that the Directive on Markets in Financial Derivatives (“MiFID”) has been retained, and continues to be referred to in the rules in the FCA’s Handbook. Until such time as the UK starts amending the retained law, the rules and obligations applicable to firms acting within the UK will continue to be governed by the pre-existing law.II. THE FINANCIAL SERVICES AND MARKETS ACT 2000
1. The regulatory system
12.6 Before considering the professional duties of each of the categories of financial adviser, it is necessary to set out some of the background to the present statutory and regulatory regimes so as to provide an understanding of some of the issues which arise in the context of the professional duties of financial advisers. Broadly speaking, although the prudential aspects of banks and insurance companies have been regulated for many years, the financial services industry generally has been regulated since 1988. Today, since the coming into force of the 2012 Act, the prudential aspects of banks are regulated by the Bank of England, and those aspects of large investment companies and insurance companies by the PRA. The FCA regulates the conduct of all authorised persons and the prudential standards of all those not regulated by the Bank of England or the PRA, in accordance with FSMA. As this chapter is concerned with the conduct of financial advisers, it focuses particularly on the regulation by the FCA. et seq. below. [The next paragraph is 12.8] 12.8 The main provisions of FSMA were brought into force on 1 December 2001, and were substantially revised with effect from 1 April 2013 by the 2012 Act. Section 19 of FSMA imposes a general prohibition on the carrying on of any regulated activity without being authorised under the Act to do so, or exempt from the requirement. Regulated activities are defined in a statutory instrument.4 The detailed rules by which all regulated activities are governed, are set out in the FCA’s Handbook which is freely available on the FCA’s website. Those rules most relevant to this chapter are to be found in COBS.5 12.8.1 It is a criminal offence to carry on a regulated activity contrary to the general prohibition,6 or to claim to be either authorised or exempt when not so authorised or exempt.7 To be authorised, the person needs to have been granted permission under Part 4A of FSMA to carry on one or more regulated activities; be an EEA firm taking advantage of the FCA’s temporary permissions regimes following Brexit;8 or a person directly authorised by the Act itself.9 A person may be exempt either by falling within the terms of an exemption order made by the Treasury,10 or by being an appointed representative.11 Most authorised persons will have obtained their status as such as a result of being granted a Part 4A permission to carry on one or more specific regulated activities. An authorised person must not act outside the scope of the permission granted. If such a person does carry on a regulated activity outside the scope of that authorisation, he will be in breach of the FCA’s rules, and if the other party is a private person (or acting for a private person) he or she will have a right of action for breach of statutory duty in respect of any loss suffered as a result of that breach.12 12.8.2 Most of the FCA’s powers of regulation apply only to authorised persons. Thus the FCA’s general rule-making power applies only to authorised persons—- “(a) with respect to the carrying on by them of regulated activities, or
- (b) with respect to the carrying on by them of activities which are not regulated activities,
as appear to [the FCA] to be necessary or expedient for the purpose of meeting any of its operational objectives.13”