How to Navigate Major Changes to the Financial Promotion Regime in Early 2024

Background

The promotion of investments in the UK is subject to the so-called “financial promotion restriction” in s 21 Financial Services and Markets Act 2000 (“FSMA”), which stipulates that communication of a “financial promotion” may only be made:

• By a person authorised under FSMA; or
• Where the content has been approved by such an authorised person; or
• In reliance upon an exemption (which refers to the provisions of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (“the FPO”).

The FPO provides tailored exemptions that allow for promotion in limited and carefully defined circumstances. Section 21(5) FSMA prohibits the making of exemptions that open up financial promotion to the public at large.

Many provisions in FSMA supporting s 21 make it a criminal offence to issue a financial promotion in breach of the financial promotion restriction, and entitle affected investors to return of their money and compensation for loss.

What is happening and why

• Firms wanting to offer the approval service must apply swiftly to the FCA by submitting a Variation of Permission application (“VOP”). Applicant firms must be able to demonstrate the capacity (staff, resources, experience etc) to be able to ascertain that promotional material is clear and fair, meets the Consumer Duty rules (where relevant) and is suitable for the type of investor targeted.
• Firms offering this service under the new FCA regime can be expected to greatly increase the costs of this service to issuers of financial promotions seeking approval, as their own compliance costs are likely to rise significantly. In addition, there are several specific reporting requirements for firms to be allowed to approve promotions.
• Specifically, promotional materials for certain categories of financial products or services will require more frequent FCA updates to meet compliance obligations, particularly if a product is subject to a retail mass-marketing ban (e.g. a non-mainstream pooled investment or a speculative illiquid security) or is a qualifying cryptoasset (as these terms are variously defined for the purposes of COBS 4.12A in the FCA Handbook. In all of these cases, there will be an obligation on the approving firm to notify the FCA within 7 days of the approval. There will also be a requirement to submit to the FCA semi-annual reports within 30 days of the end of each reporting period.

The key concern for any financial promotion issuer that currently has approved promotional material in circulation is to check whether the approving firm intends to apply to the FCA under the new regime; if not, then the promotional material must be withdrawn before 7 February 2024.

Changes to the exemptions for HNW and sophisticated investors

In 2021, the Treasury consulted on the exemptions that were added in 2005 for certified high net worth and self-certified sophisticated investors to allow access to private capital-raising among individuals considered to be of sufficient means to undertake the associated risks. The FPO was amended on that occasion to provide a simplified process for the promotion of private debt/equity to:

• Certified HNW individuals (who evidenced this by certifying a minimum annual gross income of £100,000 or net qualifying assets of £250,000 in the preceding fiscal year); and
• Self-certified sophisticated investors (offering four categories for these purposes).

HNW changes

The Treasury has decided to stay with this regime, but with some changes that issuers of investments and their advisers need to be aware that come into force on 31 January 2024. The HNW tests have been increased in line with inflation, so that the minimum gross income test rises to £170,000 and the net assets test rises to £430,000.  Those to whom this applies are no longer called “certified” – in future they will just be “high net worth investors”.  Other noteworthy changes include:

• The form (see FPO Schedule 5 Part 1, as amended) on which the HNW statement is made has changed and is rather more logically argued.
• As well as ticking a box to say that income or assets exceed the net minimum, the investor is required to provide an approximate actual income or asset value. Although this still need not be corroborated, this will make signatories warier about making this statement and may dissuade people from doing so without giving the matter appropriate thought.
• The form clarifies that income does not include one-off receipts.
• The form also clarifies that for “net” assets the investor must deduct or discount associated liabilities. A second home may be included in the calculation, but if its gross value is £1m but there is a mortgage of £900,000, it contributes only £100,000.

Self-certified sophisticated investor changes

Here, one of the previous four tests has been withdrawn.  The revised form in use (Sch. 5 Part 2) asks three alternative questions, paraphrased as follows:

• In the past two years, has the investor worked in a professional capacity in the private equity sector, or in the provision of finance for small and medium enterprises? If YES, then the investor must name the business organisation.
• In the past two years, has the investor been the director of a company with an annual turnover of at least £1.6m? If YES, then the investor must name it and provide its registered number.
• In the past 6 months, has the investor been, and does he/she remain, a member of a network or syndicate of business angels? If YES, the investor must name it.

The requirement for identification of actual companies, organisations or syndicates by name is new, and the turnover level in the second of these examples has been increased; otherwise, these remain as previously provided.  The fourth exemption from the 2005 FPO (having transacted at least one private equity deal in the past 2 years) has been withdrawn, as this was considered subject to abuse.

Several questions still remain unanswered. For example:

• Does working in a professional capacity in the private equity sector include working for agents (such as lawyers or accountants) who provide service to that sector?
• Is the £1.6m annual turnover requirement for the investor’s company applicable to each of two full prior years? Conversely, is there a minimum period requirement for his/her directorship?
• The regulations still do not define what is meant by “a network or syndicate of business angels”. On the whole, it has been understood that any sort of even relatively loose investment club will suffice for this.  Nor is it clear whether this implies active membership (given that many such associations exist, whose members include persons who are little more than passive observers).

Two generally applicable points

First, promotion in reliance upon either of these tests requires that the target investor has made the necessary statement before the de facto promotion is made.   It never was, and still is not, permitted to send out a promotion accompanied by a form for signature to permit participation in the investment promoted.

Second, these exemptions continue to apply to private debt/equity issues only and are not available more generally.

Action to be taken

As the form to be used by any person seeking to promote to HNW or sophisticated investors has changed (Sch. 5 FPO has been entirely rewritten), old stationery must be junked.

Promotional memoranda and pitch-packs still require:

• The “black box” health warning at the very top of the first or title page, where neither form nor content of this has changed; and
• A summary in the disclaimer of what the HNW and sophisticated exemptions cover (here, there are material changes, so these disclaimers should be referred to lawyers for redrafting).

In response to the amendments to the FPO being made by the Treasury, the FCA states that where an FCA-regulated firm makes or approves the content of a financial promotion prior to 31 January 2024 and it is communicated in compliance with the current FPO exemptions, the firm is not required to request an updated investor statement and can continue to engage with the investor concerned after that date in relation to that financial promotion under the rules as they stand. But any financial promotions made from 31 January 2024 must comply with the updated exemptions.

We recommend that all existing promotions (printed or electronic) intended to remain in circulation after 31 January 2024 be revised without delay. Best advice is to pre-comply and make sure that promotions fit the new criteria as soon as possible.

For more information on this topic, please reach out to Daniel Tunkel, Head of Financial Regulation, or Alexandra Heron, Associate.