As negotiations between the EU and the UK continue after the publication of the UK’s White Paper containing proposals for the future UK-EU relationship, the UK government is preparing for Brexit. This includes making the orders required to modify the legal landscape for a post-Brexit future, under the European Union (Withdrawal) Act 2018 (“the Withdrawal Act”). Charles Livingstone discusses what the White Paper proposes for financial services as well as the first batch of proposed orders to be made under the Withdrawal Act.

Last month, HM Treasury (HMT) published a paper setting out its approach to making EU financial services legislation fit for purpose in a post-Brexit UK. On 24 July 2018 HMT published a draft statutory instrument, the EEA Passport Rights (Amendment, etc., and Transitional Provisions) (EU Exit) Regulations 2018 (the “draft Regulations”). Some of the key points are summarised below.

Background: ministerial powers under the Withdrawal Act

With effect from the day the UK leaves the EU, the Withdrawal Act will convert into UK domestic law the existing body of EU law, to provide a functioning statute book. To ensure maximum legal certainty, continuity and control, the Withdrawal Act also gives ministers powers to make statutory instruments “to prevent, remedy or mitigate any failure of EU law to operate effectively, or any other deficiency in retained EU law.” The preparations for bringing EU financial services legislation into domestic law are referred to as “onshoring”.

EEA passporting regimes and EU withdrawal

The UK and EU financial services markets are highly interconnected, largely due to the EU single market and the so-called EU passporting regimes that enable banks and financial services companies authorised in one EU/EEA Member State to trade freely in the others with minimal additional authorisation. Firms based in “third countries” (non-EU countries) do not benefit, or at least not fully, from these facilitating regimes and therefore face significant regulatory barriers to providing cross-border banking and investment services in many EU Member States. The UK’s participation in the passporting system is implemented by the Financial Services and Markets Act 2000.

In the event that the UK leaves the EU without a deal on their future relationship, there would be no agreed legal framework that would allow the passporting system to continue in respect of the UK. In any event, the recently published UK White Paper on the future relationship does not propose to keep the current passporting arrangements References in UK legislation to the EEA passporting system are therefore likely to need modification prior to Brexit.

In the absence of UK legislation to deal with the loss of the current passporting system, EEA banks and financial services companies currently operating in the UK via a passport would lose their permission to do so. As a result, these companies would not be able to continue to carry on regulated activities in the UK, with consequences for them and their UK customers.

The temporary permissions regime under the Withdrawal Act

The published draft Regulations are designed to minimise the disruption faced by EEA firms and UK businesses and consumers due to the loss of EEA passporting rights. They set out the design and structure of a three-year “temporary permissions regime”, enabling EEA companies operating in the UK via a passport to continue their activities in the UK for a limited period after the UK’s withdrawal from the EU.

To enter the “temporary permissions regime”, companies would, prior to ‘exit day’, either need to submit an application for UK authorisation or submit a notification of their intention to enter the regime. The UK regulatory authorities will provide further guidance to financial services firms on how and when affected companies can enter the regime. Once in the regime, EEA companies would be able to carry out regulated activity as they could before Brexit, servicing existing contracts entered into before exit day but also writing new contracts, as if they were fully authorised in the UK. The scope of this activity would be limited to the scope of their pre-Brexit EEA passport. Companies within the regime can be directed by the relevant regulator to make an application for UK authorisation if the company has not already done so within two years from exit day. Companies whose applications for UK authorisation are successful would immediately become fully UK authorised and leave the temporary permissions regime.

The UK regulatory authorities (the Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) have also published updates (FCA guidance, PRA guidance) setting out in more detail how they envisage this temporary regime would operate, including some matters for which the detailed draft legislation has yet to be produced.

Outlook

In the event that a deal is reached between the UK and the EU on financial services, it is quite possible that the draft Regulations will either not be required or would have to be amended. However, it is vital to prepare for all eventualities to ensure there will be no major disruption to either the statute book or the delivery of financial services within the UK when Brexit takes place. There will be many more statutory instruments to come under the Withdrawal Act, both specific to financial regulation and of wider application. Financial services firms should therefore be engaging now to ensure they understand how the regulatory environment could change, and how they can liaise with government to make sure their interests and concerns are taken fully into account in achieving as smooth a legal and commercial transition as possible.

Charles Livingstone is a partner at Brodies LLP