Investment Firms Prudential Regime (IFPR) – One Year On

The new UK Investment Firm Prudential Regime ("IFPR") came into force on 1st January 2022 for all UK MiFID Investment Firms. Just over a year on, we have explored the impact of the imposed changes on the investment industry.

What has changed?

All investment firms who had previously been authorised under MiFID and subject to the Internal Capital Adequacy Assessment Process (“ICAAP”), were, from 1st January 2022, subject to a new structure for prudential risk supervision; the ‘Internal Capital Adequacy and Risk Assessment’ (“ICARA”). The new IFPR process also brought into scope previously exempt firms, including adviser/arranger firms previously known as “exempt-CAD” firms. The level of change has differed depending on how each firm is categorised i.e. ‘small and non-interconnected’ (“SNI”) or ‘Non-SNI’. Approximately 70% of firms fall under the thresholds and are categorised as SNI firms. However, all firms have been subject to:

Updates to firms’ liquidity requirements

• The requirement to undertake an internal capital adequacy and risk assessment (ICARA) process to identify the risk of harm in their operations and assess appropriateness and sufficiency of financial and non-financial resources to mitigate harm, whether as a going concern or when winding down
• Further obligations presented by remuneration policies
• Changes own funds eligibility criteria and gearing ratios
• New thresholds for the initial capital required as well as new own funds requirements

According to the FCA, SNI firms should have a reduction in reporting and more time to spend on the business, mitigating risk and improving service standards for the benefit of its clients.

Impact of changes

The intentions of the new rulebook, originally from the EU legislators and latterly in the FCA’s implementation roadmap, are to bring about a more streamlined and simplified process, with greater consistency, improved governance and greater protection from potential harms faced and posed by investment firms. Some firms have benefitted from the need to perform a detailed risk assessment and wind down plan, enabling them to address risks identified in the short term and take a more proactive approach to medium and long term risk planning. Others have taken the opportunity to harmonise the vast quantity of data from various areas of the business, gaining new insights, adding value to the cost of adapting to the new framework.

Implementation has been a challenge for some with the FCA noting in its April 2022 newsletter a review of initial returns did not meet their expectations, with inaccurate and incomplete data being a common issue. Various firms have found the process to be onerous and time consuming, some citing the additional effort and cost of ensuring compliance as a restriction on growth.

On the 27 February 2023 the FCA published its initial observations and “what good looks like” from its multi-firm review on IFPR implementation. The review is focused on capital adequacy, liquidity adequacy and wind-down planning under the ICARA process, as well as regulatory reporting. The initial observations of this review were summarised by the FCA as follows:

• For firms which are part of investment firm groups, most opted to complete a ‘group ICARA’ process. However, for most of these, there was insufficient consideration of firm-specific risk and harms in the assessment of threshold requirements of individual firms required by MIFIDPRU.
• Among investment firm groups who completed the ICARA process on a ‘consolidated basis’, it was observed that only a few of them also operated solo ICARA processes by independently assessing the financial resource requirements of individual firms in the group, as required by MIFIDPRU.
• The assessments made as part of the ICARA process should be cohesive. They should also be fully integrated in the firm’s approach to managing financial resources to mitigate the risk and harms from its operations. This was not seen to be happening consistently within the initial group of firms reviewed.
• Wind-down planning assessments remained weak in terms of scope and quantification. This was said to reflect an incomplete understanding of the purpose of the exercise and of guidance previously provided.
• The FCA noted it had seen inconsistent and inaccurate data submitted in regulatory reports. Firms should ensure that all data submitted is accurate and of high quality.

Of the findings noted above, the FCA’s report highlighted the wind-down assessment as a particular area of weakness in which insufficient attention has been applied, with little consideration of group membership, incomplete analysis of wind down requirements or considering a backdrop of stress, potentially under estimating resources required.

Their initial observations also noted differing degrees of engagement by firms’ Boards and their delegated committees in the ICARA process. Some firms have aided their senior executive and Boards by providing in-depth training on IFPR. Others were not deemed to have provided sufficient challenge or oversight over key elements of the ICARA process, resulting in a lack of confidence that the firm has adequately identified and addressed risks, and whether harm could be caused by through the failure of the firm. Having adequate support and the exercise of appropriate diligence are fundamental requirements under the Senior Management & Certification Regime (“SM&CR”) and so appears to be an area of consideration for many firms going forward.

Future Impacts

Under the new IFPR public disclosure requirements, which for many firms are due for the first time in 2023, firms are required to disclose their salient elements of their approach to the assessment under the Overall Financial Adequacy Rule (“OFAR”), risk management objectives and policies, investment policy, remuneration policy and governance structure.  This will increase the burden on firms to remain compliant but could be partially offset by familiarity gained during the initial completion of the ICARA process, resulting in “2nd year efficiencies”.

Another layer of consideration will be required for business decisions which could have a direct impact on the amount of financial resources required under the new rules. For example, entering into a long lease agreement could increase a firm’s cost to conduct an orderly wind-down, driving up the minimum amount of own funds and liquid assets to be held, which may present issues, particularly for those operating on the margins.

For previous “Exempt-CAD” firms, the impact on required financial resources was much greater, with the EUR 50K requirement being supplanted by the higher of GBP 75K, fixed overheads requirement (“FOR”)  or K-factor requirement (“KFR”), with the transitional provisions help to smooth this over a period of 5 years as shown below.

Ongoing monitoring and planning for future capital requirements will become increasingly important for many firms on this basis and the FCA will require immediate notification if a firm’s own funds dips below 110% of the corresponding requirement.

Besides the FCA’s objective of ensuring firms are compliant with the IFPR rules, it remains to be seen how the FCA’s aim of refocusing prudential requirements and expectations away from the risks firms face and managing the potential harm firms can pose to consumers and markets, will be achieved.

We can expect the FCA to make use of the additional data gathered under the new regulatory reporting. With increased uniformity in the requirements, the regulator has a large set of data which could be used as a tool to drive thematic reviews and other areas of focus, such as escalation for outliers/exceptions.

Practical solutions and making the most of your efforts:

The FCA is increasing their levels of scrutiny across the investment firm industry. Ensuring you are able to easily access, document and audit your data will be crucial to ensure a smooth working relationship with the regulator. Equally, while undertaking your IFPR obligations, you will be able to realise adjacent holistic benefits.

Get in touch

If you require any help or support with the new requirements or a health check that the work you’ve done to date is fit for purpose, then please get in contact with MHA and/or Centralis, who work together for the benefit of our individual and common clients.

Contact details:

David King, Financial Services Audit Partner - E: [email protected]                         

Mark Hollins, Financial Services Audit Manager - E: [email protected] 

Alexander Prentice, Commercial Director - E: [email protected]