1. (1)

   1MIFIDPRU 7 applies to the following:

   1. (a)

      a MIFIDPRU investment firm;

   2. (b)

      a UK parent entity of an investment firm group to which consolidation applies under MIFIDPRU 2.5; and

   3. (c)

      a parent undertaking that operates a group ICARA process in accordance with MIFIDPRU 7.9.5R.

2. (2)

   MIFIDPRU 7.1.3R explains how each section of MIFIDPRU 7 applies to the undertakings in (1).

1. (1)

   1For the purposes of MIFIDPRU 7.1.4R(3), the FCA expects a non-SNI MIFIDPRU investment firm to have insufficient data for a period only where it did not carry on any MiFID business during that period, or where (for periods prior to the application of MIFIDPRU) the firm did not record the relevant data on a monthly basis.

2. (2)

   Where a firm does not have all the monthly data points, the firm should use the data points it has in the way that paints the most representative picture of the period in question. For example, if a firm has monthly data for 2 years of the 4- year period, but prior to that only recorded the relevant data on a quarterly basis, the firm could sensibly calculate its rolling average by using the quarterly figure for each of the three monthly data points in each quarter.

1An example of an appropriate market rate for the purposes of MIFIDPRU 7.1.7R(4) is the relevant daily spot exchange rate against sterling published by the Bank of England.

1The effect of MIFIDPRU 7.1.9R(2)(a) is that a firm may move between meeting the conditions in MIFIDPRU 7.1.4R(3)(a) and (b) during the 6-month period.

1Where a firm ceases to meet the conditions in MIFIDPRU 7.1.4R(1)(a) or (b), but subsequently meets the conditions again within a period of 6 months, the firm will still be subject to MIFIDPRU 7.3 6 months after the date on which it first ceased to meet the conditions. The firm will only cease to be subject to MIFIDPRU 7.3 where it meets the conditions in MIFIDPRU 7.1.9R.

1When establishing and maintaining the arrangements in MIFIDPRU 7.2.1R(1), a firm should consider at least the following:

1. (1)

   the requirements that apply to the firm under MIFIDPRU 7 and SYSC 19G (MIFIDPRU Remuneration Code);

2. (2)

   the legal structure of the firm, including its ownership and funding structure;

3. (3)

   whether the firm is part of a group;

4. (4)

   the type of activities for which the firm is authorised, including the complexity and volume of those activities;

5. (5)

   the business model and strategy of the firm, including its risk strategy, risk appetite and risk profile;

6. (6)

   the types of client the firm has;

7. (7)

   the outsourced functions and distribution channels of the firm; and

8. (8)

   the firm’s existing IT systems, including continuity systems.

1. (1)

   1MIFIDPRU 7.3.1R(2) only applies to firms that are required to establish a risk committee under MIFIDPRU 7.3.1R(1).

2. (2)

   The chair may be included for the purposes of calculating the 50% referred to in MIFIDPRU 7.3.1R(2)(a).

3. (3)

   Where a firm has established a risk committee, its responsibilities should typically include:

   1. (a)

      providing advice to the firm's management body on risk strategy, including the oversight of current risk exposures of the firm, with particular, but not exclusive, emphasis on prudential risks;

   2. (b)

      developing proposals for consideration by the management body in respect of overall risk appetite and tolerance, as well as the metrics to be used to monitor the firm’s risk management performance;

   3. (c)

      overseeing and challenging the design and execution of stress and scenario testing;

   4. (d)

      overseeing and challenging the day-to-day risk management and the executive’s oversight arrangements;

   5. (e)

      overseeing and challenging due diligence on risk issues relating to material transactions and strategic proposals that are subject to approval by the management body;

   6. (f)

      providing advice to the firm’s remuneration committee, as appropriate, in relation to the development, implementation and review of remuneration policies and practices that are consistent with, and promote, effective risk management;

   7. (g)

      providing advice, oversight and challenge necessary to embed and maintain a supportive risk culture throughout the firm.

1. (1)

   1MIFIDPRU 7.3.3R(3) only applies to firms that are required to establish a remuneration committee under MIFIDPRU 7.3.3R(1).

2. (2)

   The chair may be included for the purposes of calculating the 50% referred to in MIFIDPRU 7.3.3R(3)(a).

1. (1)

   1MIFIDPRU 7.3.5R(2) only applies to firms that are required to establish a nomination committee under MIFIDPRU 7.3.5R(1).

2. (2)

   The chair may be included for the purposes of calculating the 50% referred to in MIFIDPRU 7.3.5R(2)(a).

1. (1)

   1A firm may apply to the FCA for a modification under section 138A of the Act to permit the firm to establish a risk committee, remuneration committee, or nomination committee at group level instead of complying with the requirement on an individual basis.

2. (2)

   The FCA may grant a modification under section 138A of the Act if:

   1. (a)

      compliance by the firm with the requirement to establish a committee on an individual basis would be unduly burdensome or would not achieve the purpose for which the rules were made; and

   2. (b)

      granting the modification would not adversely affect the advancement of any of the FCA’s objectives.

3. (3)

   To be satisfied that granting the modification would not affect the advancement of any of the FCA’s objectives under (2)(b), the FCA would normally expect the firm to demonstrate that the committee established at group level:

   1. (a)

      meets the composition requirements in MIFIDPRU 7.3.1R(2), MIFIDPRU 7.3.3R(3) or MIFIDPRU 7.3.5R(2), as applicable; and

   2. (b)

      has members with the appropriate knowledge, skills and expertise in relation to the firm subject to the requirement to establish a committee.

1 MIFIDPRU 7.4 to MIFIDPRU 7.9 contain rules and guidance which supplement the overarching requirements for MIFIDPRU investment firms under:

1. (1)

   the appropriate resources threshold condition in Schedule 6 to the Act (as explained in COND 2.4) under which a firm must have appropriate resources in relation to the regulated activities that it carries on; and

2. (2)

   Principle 4 (Financial prudence) under which a firm must maintain adequate financial resources.

1. (1)

   1The overall purpose of the rules in MIFIDPRU 7.4 to MIFIDPRU 7.9, together with the other requirements in MIFIDPRU, is to ensure that a MIFIDPRU investment firm:

   1. (a)

      has appropriate systems and controls in place to identify, monitor and, where proportionate, reduce all potential material harms that may result from the ongoing operation of its business or winding down its business; and

   2. (b)

      holds financial resources that are adequate for the business it undertakes.

2. (2)

   The requirement for adequate financial resources is designed to achieve 2 key outcomes for MIFIDPRU investment firms:

   1. (a)

      to enable a firm to remain financially viable throughout the economic cycle, with the ability to address any potential material harms that may result from its ongoing activities (including both regulated activities and unregulated activities); and

   2. (b)

      to enable the firm to conduct an orderly wind-down while minimising harm to consumers or to other market participants, and without threatening the integrity of the wider UK financial system.

3. (3)

   The rules and guidance in MIFIDPRU 7.4 to MIFIDPRU 7.9 build on the FCA’s general approach to assessing the adequacy of financial resources explained in Finalised Guidance FG20/1. Firms should also refer to that guidance when considering their obligations under those sections of MIFIDPRU.

1The FCA recognises that:

1. (1)

   there is a vast range of potential harms and it will not be possible for the FCA or firms to eliminate all potential risks and sources of harm;

2. (2)

   the FCA and firms should focus on material harms, adopting a proportionate and risk-based approach to each firm’s business and operating model; and

3. (3)

   some firms may still fail, but the FCA and firms should aim to ensure that any wind-down of those firms occurs in an orderly manner, minimising the impact on consumers and the wider market.

1Although all MIFIDPRU investment firms are subject to the appropriate resources threshold condition and Principle 4, the practical steps that a firm must take to meet these requirements will vary according to the firm’s business model and operating model. Therefore, a firm with a more complex business or operating model should generally take a more detailed approach to the monitoring and management of a wider range of potential harms than a smaller firm carrying on simpler activities.

1 MIFIDPRU 7.4 to MIFIDPRU 7.8 contain a set of core requirements that every MIFIDPRU investment firm should incorporate into its ICARA process. This does not mean that the manner in which each firm implements these core requirements will be identical. When considering the appropriate way to satisfy these core requirements, a firm should focus on the potential material harms that may arise:

1. (1)

   from the ongoing operation of its business; and

2. (2)

   during a wind-down of its business.

1. (1)

   1The overall financial adequacy rule establishes the standard that the FCA applies to determine whether a MIFIDPRU investment firm has adequate financial resources. The amount and quality of own funds and liquid assets that each firm must hold will vary according to its business model and operating model, the environment in which it operates and the nature of its internal systems and controls.

2. (2)

   The remainder of this section explains the basic requirements of the ICARA process. The ICARA process is the collective term for the internal systems and controls that a firm must operate to identify and manage potential material harms that may arise from the operation of its business, and to ensure that its operations can be wound down in an orderly manner.

3. (3)

   A firm should use the ICARA process to identify whether it complies with the overall financial adequacy rule. The focus of the ICARA process is on identifying and managing risks that may result in material harms. Depending on the nature of the potential harms identified, the only realistic option to manage them and to comply with the overall financial adequacy rule may be to hold additional own funds or additional liquid assets above the firm’s own funds requirement or basic liquid assets requirement. However, in other cases, there may be more appropriate or effective ways to manage the potential harms. MIFIDPRU 7.4.16G contains further guidance on reducing the risk of material potential harms.

4. (4)

   MIFIDPRU 7.6 contains rules and guidance about how a firm should use the ICARA process to assess the own funds that the firm requires to comply with the overall financial adequacy rule.

5. (5)

   MIFIDPRU 7.7 contains rules and guidance about how a firm should use the ICARA process to assess the liquid assets that the firm requires to comply with the overall financial adequacy rule.

6. (6)

   MIFIDPRU 7.10 contains guidance on how the FCA will normally conduct a SREP on a firm’s ICARA process or may conduct a thematic review of a sector in which multiple firms are active. Where the FCA considers that the firm’s ICARA process has not adequately identified and managed the risks of material harm, the FCA may require the firm to take corrective action. In appropriate cases, this may include requiring the firm to hold additional own funds or liquid assets to ensure that the firm is complying with the overall financial adequacy rule. The FCA may also take supervisory action in connection with the prudential requirements of a MIFIDPRU investment firm outside the context of a SREP. Where the FCA has conducted a sectoral review, it may impose additional requirements on some or all firms that are active in the relevant sector.

1. (1)

   1MIFIDPRU 7.4.11R requires a firm to ensure that the inputs to, analyses applied by, and conclusions arising from, its ICARA process are properly linked and reflect a consistent and coherent analysis of the firm’s business and operating model.

2. (2)

   The following are examples of the consistency and coherence required by the ICARA process:

   1. (a)

      the potential material harms that the firm identifies under MIFIDPRU 7.4.13R are consistent with the firm’s articulation of its business model and strategy under MIFIDPRU 7.5.2R(1) and with the firm’s stated risk appetite under MIFIDPRU 7.5.2R(2);

   2. (b)

      the firm’s analysis under MIFIDPRU 7.5.2R(4) of the own funds and liquid assets that are necessary to comply with the overall financial adequacy rule is consistent with:

      1. (i)

         the potential impact of the potential material harms that the firm identifies under MIFIDPRU 7.4.13R;

      2. (ii)

         the firm’s projections of its future requirements under MIFIDPRU 7.5.2R(4); and

      3. (iii)

         the impact of the stressed scenarios that the firm has identified under MIFIDPRU 7.5.2R(5);

   3. (c)

      the potential recovery actions specified by the firm under MIFIDPRU 7.5.5R(2) are consistent with the firm’s projections of its future requirements under MIFIDPRU 7.5.2R(4) and the potential stressed scenarios that the firm has identified under MIFIDPRU 7.5.2R(5);

   4. (d)

      the firm’s wind-down planning under MIFIDPRU 7.5.7R is consistent with the levels of own funds and liquid assets that the firm has assessed would be necessary to wind-down the firm for the purposes of the overall financial adequacy rule and with the firm’s assessment of the potential harms that might result from winding down its business under MIFIDPRU 7.4.13R; and

   5. (e)

      the firm's wind-down planning is consistent with the potential recovery actions specified by the firm under MIFIDPRU 7.5.5R(2) and the circumstances in which the firm has concluded that no further recovery actions would be feasible or desirable.

1When assessing potential material harms for the purpose of MIFIDPRU 7.4.13R, the FCA considers that the following non-exhaustive list of considerations will be relevant:

1. (1)

   the level of detail required in the assessment is likely to vary depending on the complexity of the business and operating model. More complex business and operating models are likely to involve a wider range of potential material harms and so will generally require a more detailed assessment;

2. (2)

   the obligation under MIFIDPRU 7.4.13R is to identify all material harms that could result from the firm’s business, even if those harms can be appropriately mitigated. It is important that a firm starts by identifying all potential material harms that could arise from its business and operating model. The issue of how the identified harms can be mitigated should be considered separately, including assessing under MIFIDPRU 7.6 and 7.7 whether the firm should hold additional own funds and liquid assets;

3. (3)

   the potential for harm may evolve throughout the course of an economic cycle. Therefore, the assessment should consider how the risk of harm may develop in the future, rather than simply performing a static assessment based on current economic circumstances;

4. (4)

   risks to the firm itself may result in an increased risk of harm to the firm’s clients or counterparties and therefore should form part of the assessment. For example, if the firm is affected by a significant disruption or suffers a significant loss, this may prevent the firm from providing important services to clients or from being able to meet its liabilities to counterparties. Significant and unexpected financial losses sustained by a firm may also decrease the financial resources available to the firm to address other potential harms and may increase the risk of disorderly wind-down and sudden disruption of services to the firm’s clients; and

5. (5)

   firms should refer to the guidance in Finalised Guidance FG20/1 on “Identifying and assessing the risk of harm” when assessing the impact of potential harms.

1. (1)

   1MIFIDPRU 7 Annex 1 contains additional guidance on identifying potential material harms that are relevant to the business models of most firms.

2. (2)

   MIFIDPRU 7 Annex 2 contains additional guidance on identifying potential material harms that are likely to be relevant to firms that deal on own account or hold significant investments on their balance sheets. This guidance is intended to apply in addition to the general guidance in MIFIDPRU 7 Annex 1.

3. (3)

   The FCA may issue further guidance or publish additional information to reflect its observations of how firms are implementing the ICARA process or to take into account developments in relation to particular products or sectors. Firms should consider any additional guidance or information that the FCA has published when applying the requirements in this section.

1. (1)

   1The ICARA process is an internal risk management process that a MIFIDPRU investment firm must operate on an ongoing basis. As part of that process, a firm should consider whether the risk of material potential harms can be reduced through proportionate measures (other than holding additional financial resources) and, if so, whether it is appropriate to implement the measures. The nature of any potential measures will vary depending on the firm’s business and operating model. Examples may include implementing additional internal systems and controls, strengthening governance and oversight processes or changing the manner in which the firm conducts certain business. A firm will need to form a judgement about what is appropriate and proportionate for its particular circumstances. That judgement will be informed by the firm’s risk appetite.

2. (2)

   A firm must assess whether it should hold additional own funds or additional liquid assets to mitigate any material potential harms that it has identified. This may be the case where the firm cannot identify other appropriate, proportionate measures to mitigate harms, or where it has applied these measures, but a residual risk of material harm remains. Any assessment must be realistic and based on severe but plausible assumptions.

1 MIFIDPRU 7.5.2R(5) requires a firm to use stress testing to identify whether it holds sufficient own funds and liquid assets. Firms should refer to Finalised Guidance FG20/1 for specific guidance on the FCA’s expectations in relation to stress testing.

1. (1)

   As part of their business model assessment and capital and liquidity planning under MIFIDPRU 7.5.2R, firms with more complex businesses or operating models should also undertake:

   1. (a)

      more in-depth stress testing of their business model and strategy; and

   2. (b)

      reverse stress testing.

2. (2)

   Firms should refer to MIFIDPRU 7 Annex 1.15G to MIFIDPRU 7 Annex 1.20G for additional information about the FCA’s expectations in relation to more in-depth stress testing and reverse stress testing.

3. (3)

   The FCA may request individual firms to carry out more in-depth stress testing or reverse stress testing. In appropriate cases, the FCA will consider whether it is necessary or desirable to impose a requirement on a firm to carry out such stress testing. This may involve inviting a firm to apply for the voluntary imposition of a requirement under section 55L(5) of the Act or the FCA imposing a requirement on the FCA’s own initiative under section 55L(3) of the Act.

1. (1)

   1When a firm is considering potential recovery actions that the firm may take for the purposes of MIFIDPRU 7.5.5R, it should consider at least the following:

   1. (a)

      the governance arrangements of the firm, and in particular which individuals will be responsible for taking the relevant decisions within the required timeframe;

   2. (b)

      the key business lines operated by the firm and the critical functions that the firm will need to maintain, and the steps necessary to ensure that these can continue to operate;

   3. (c)

      the level of own funds and liquid assets that the firm is likely to need to restore compliance with the threshold requirements;

   4. (d)

      the options available to the firm to raise additional own funds or liquid assets;

   5. (e)

      the options available to the firm to conserve existing own funds or liquid assets;

   6. (f)

      any significant risks that may arise in connection with proposed recovery actions; and

   7. (g)

      any material impediments that may exist to implementing proposed recovery actions and whether these can be resolved or mitigated.

2. (2)

   A firm should adopt a proportionate approach to identifying potential recovery actions, taking into account the nature, scale and complexity of the firm’s business and operating model. The actions that the firm proposes must be credible and justifiable, taking into account the circumstances in which the actions may be likely to be required.

1When carrying out a wind-down planning assessment under MIFIDPRU 7.5.7R and determining the timeline and any required actions, a firm should refer to the guidance in the FCA’s Wind-Down Planning Guide and in Finalised Guidance FG20/1.

1. (1)

   1The overall financial adequacy rule requires a MIFIDPRU investment firm to hold sufficient own funds and liquid assets to ensure that it can wind-down its business in an orderly manner (as well as operate its business on an ongoing basis). MIFIDPRU 7.5.9R requires a firm to use its wind-down analysis to assess the appropriate level of own funds and liquid assets for these purposes.

2. (2)

   A firm’s assessment of the amounts that it needs to hold under the overall financial adequacy rule to ensure that it can be wound down in an orderly manner must never be lower than its wind-down triggers. The firm may conclude that it requires amounts that are higher than these minimum amounts to ensure an orderly wind-down.

3. (3)

   In appropriate cases, the FCA may consider that either or both of a firm’s wind-down triggers should be set at a higher level. In this case, the FCA may invite a firm to apply for a requirement under section 55L(5) of the Act, or may impose a requirement on the FCA’s own initiative under section 55L(3) of the Act, for the firm to use an alternative wind-down trigger.

4. (4)

   If the firm’s own funds fall below the own funds wind-down trigger or if the firm’s liquid assets fall below the liquid assets wind-down trigger, the FCA would normally expect that the firm would commence winding down, unless the firm’sgoverning body has determined that there is an imminent and credible likelihood of recovery. The supervisory actions that the FCA may take in these circumstances are explained in further detail in MIFIDPRU 7.6 in relation to the own funds wind-down trigger and MIFIDPRU 7.7 in relation to the liquid assets wind-down trigger.

5. (5)

   Where a firm’s own funds or liquid assets fall below the level that is required to ensure an orderly wind-down of the firm, the firm will breach the overall financial adequacy rule. However, as explained further in MIFIDPRU 7.6 in relation to own funds and MIFIDPRU 7.7 in relation to liquid assets, this does not mean that a firm must commence winding down immediately. It is only when the firm breaches one or both of the wind-down triggers that there is a general presumption that the firm should wind-down. Where the firm has breached the overall financial adequacy rule but continues to hold own funds and liquid assets that exceed the wind-down triggers, the FCA would typically take the intervention measures set out in MIFIDPRU 7.6.15G and MIFIDPRU 7.7.17G. However, there may be cases where the firm’s financial position and the projections of its likely future financial resources mean that commencing a wind-down is appropriate, even though the firm has not yet breached the wind-down triggers. The FCA will consider the appropriate supervisory actions according to the facts in each case.

1. (1)

   1The overall financial adequacy rule requires a firm to hold adequate own funds to ensure that:

   1. (a)

      the firm is able to remain financially viable throughout the economic cycle, with the ability to address any potential material harms that may result from its ongoing activities; and

   2. (b)

      the firm’s business can be wound down in an orderly manner.

2. (2)

   To comply with the overall financial adequacy rule, a firm must therefore hold the higher of:

   1. (a)

      the amount of own funds that the firm requires at any given point in time to fund its ongoing business operations, taking into account potential periods of financial stress during the economic cycle; and

   2. (b)

      the amount of own funds that a firm would need to hold to ensure that the firm can be wound down in an orderly manner.

3. (3)

   The own funds threshold requirement is the amount of own funds that a firm needs to hold at any given time to comply with the overall financial adequacy rule.

4. (4)

   The firm’s analysis of potential material harms under MIFIDPRU 7.6.2R is particularly relevant when it is considering the level of own funds that are necessary for the ongoing operation of its business. It is also be relevant when considering how the firm should address potential material harms as part of an orderly wind-down.

5. (5)

   The following diagram summarises the process that a firm should undertake to determine its own funds threshold requirement:

* The own funds threshold requirement cannot be lower than the K-factor requirement or the fixed overheads requirement.

** The K-factor requirement does not apply to SNI MIFIDPRU investment firms and the permanent minimum capital requirement (PMR) is not linked to harm.

*** Unless otherwise specified by the FCA.

1. (1)

   MIFIDPRU 7.6.7G and 7.6.8G explain the approach a non-SNI MIFIDPRU investment firm should apply to carry out the assessment in MIFIDPRU 7.6.3R.

2. (2)

   MIFIDPRU 7.6.9G explains the approach that an SNI MIFIDPRU investment firm should apply to carry out the assessment in MIFIDPRU 7.6.3R.

3. (3)

   MIFIDPRU G explains the approach that all MIFIDPRU investment firms should apply when assessing their own funds threshold requirement.

1. (1)

   1MIFIDPRU 4 and 5 explain how a firm must determine its own funds requirement. Where, as part of its ICARA process, a firm has identified potential material harms that cannot be fully mitigated, the firm should first consider the extent to which the impact of the residual harm on own funds is covered (wholly or partly) by the framework in MIFIDPRU 4 and 5.

2. (2)

   Example 1: If the potential material harm arises from the ordinary course of the firm’s portfolio management business, a non-SNI MIFIDPRU investment firm should consider the potential impact of the harm by comparison with the firm’s K-AUM requirement. If the harm is a harm that might typically arise from portfolio management, the firm may treat the harm as covered by the K-AUM requirement. However, if the harm is unusual in nature or might be particularly severe (for example, fraud or other irregularities), it would be unreasonable for the firm to treat the harm as fully covered by the K-AUM requirement. This is because the K-AUM requirement is designed to address typical harms from ordinary portfolio management, and not every conceivable material harm that might result from this activity.

3. (3)

   Example 2: If the potential material harm arises from the ordinary course of the firm investing its own proprietary capital in positions allocated to the trading book, a non-SNI MIFIDPRU firm should consider the nature of that harm. For example, if the harm relates to the ordinary operational aspects of dealing on own account, the firm may treat the harm as covered by the K-DTF requirement, unless the harm is unusual or particularly severe. If the harm arises from adverse market movements in relation to the firm’strading book positions, the firm may treat the harm as covered by the K-NPR requirement (or K-CMG requirement if the position arises in a portfolio for which the firm has received a K-CMG permission), unless the relevant positions have particular features that mean the harm may be unusual or particularly severe.

4. (4)

   Example 3: Some components of the K-factor requirement, such as the K-CON requirement, reflect specific types of harm. In this case, the firm should consider the purpose of the relevant requirement. As the K-CON requirement is designed to address the potential harm arising from a firm having concentrated exposures to a counterparty or group of connected counterparties, a non-SNI MIFIDPRU investment firm should only compare a harm to the K-CON requirement where that harm arises from, or is connected to, these concentrated exposures.

5. (5)

   Example 4: When assessing harms that may occur during a wind-down of the firm’s business, a non-SNI MIFIDPRU investment firm should consider the potential impact of the harm by comparison with its fixed overheads requirement. In this case, the firm should identify the likely costs of winding down the firm and the potential financial impact of any material harms that might occur while doing so and compare the aggregate amount with the fixed overheads requirement. This will allow a firm to determine whether they are holding sufficient own funds to ensure an orderly wind-down, as required by the overall financial adequacy rule.

1. (1)

   1Some harms may not fit within the own funds requirement framework in MIFIDPRU 4 or 5 because they cannot reasonably be attributed to the activities or risks that the rules in those chapters are designed to address. Where the harms are potentially material in nature, a non-SNI MIFIDPRU investment firm will need to assess their potential financial impact separately and cannot treat those harms as covered (either wholly or partly) by a requirement under MIFIDPRU 4 or 5. This includes potential material harms resulting from any regulated activities that are not MiFID business and from any unregulated activities.

2. (2)

   Example 1: A non-SNI MIFIDPRU investment firm undertakes significant amounts of corporate finance business. The K-factor requirement does not include any components which are designed to address the potential harms arising from this type of business, as none of the K-factor metrics relate to corporate finance business. If the firm identifies potential material harms that may arise from its corporate finance activities, it cannot therefore compare that harm to any part of the K-factor requirement. In this case, the firm will need to assess the potential financial impact of that harm and will need to hold additional own funds to cover that impact.

3. (3)

   Example 2: A non-SNI MIFIDPRU investment firm holds client money in connection with designated investment business that is not MiFID business. The K-CMH requirement applies only to MiFID client money. If the firm identifies potential material harms that result from holding client money for non-MiFID business, it will therefore need to assess the potential financial impact of that harm and hold additional own funds to cover that impact. Similarly, if there are material issues arising from currency mismatches in relation to MiFID client money, this may be a risk that is not adequately covered by the K-CMH requirement.

4. (4)

   A firm is not required to map the financial impact of every potential material harm to components of its K-factor requirement. In some circumstances, it may be impractical or disproportionate to allocate the potential financial impact of harms in this way. Alternatively, it may not be clear that a harm can be allocated to one or more components of the K-factor requirement. A firm may therefore hold an amount that is additional to its K-factor requirement to address a particular harm without determining whether that harm might already be partly covered by the K-factor requirement.

5. (5)

   Example 3: A non-SNI MIFIDPRU investment firm determines that there is a risk of material harm from a cyber incident affecting its IT systems. The firm’s IT systems are used across all its business lines and the firm considers that it is impractical to allocate the financial impact of the cyber incident between particular components of the K-factor requirement. In this situation, the firm may hold an additional amount of own funds (i.e. over and above its K-factor requirement) to cover the potential financial impact of the cyber incident without mapping the impact of the harm to specific components of the K-factor requirement. However, the firm should clearly record the basis on which it has determined the amount of additional own funds that are required.

1. (1)

   1An SNI MIFIDPRU investment firm is not subject to the K-factor requirement. In practice, this means that its own funds requirement is typically determined by the fixed overheads requirement, although for smaller firms, the permanent minimum capital requirement may be determinative.

2. (2)

   An SNI MIFIDPRU investment firm should therefore identify all relevant potential material harms from its ongoing business operations that cannot be mitigated by other means and estimate their impact on the firm’sown funds. It should then compare the aggregate financial impact on own funds with the firm’sfixed overheads requirement (or, if higher, the permanent minimum capital requirement).

3. (3)

   Separately, an SNI MIFIDPRU investment firm should also identify the likely costs of winding down the firm and the potential financial impact of any material harms that might occur while doing so and should compare the aggregate amount with the fixed overheads requirement. This will allow the firm to determine if it is holding sufficient own funds to ensure an orderly wind-down, as required by the overall financial adequacy rule.

4. (4)

   Where an SNI MIFIDPRU investment firm is close to exceeding one or more of the thresholds in MIFIDPRU 1.2.1R that would result in the firm being reclassified as a non-SNI MIFIDPRU investment firm, the firm should begin to compare its assessment of the own funds that it needs to comply with the overall financial adequacy rule with the K-factor requirement that would apply to the firm if it were a non-SNI MIFIDPRU investment firm. The guidance in MIFIDPRU 7.6.7G and 7.6.8G is relevant in these circumstances. Comparison with the future K-factor requirement will ensure that the firm is better prepared to comply with the additional obligations in MIFIDPRU 4 and 5, and that its ICARA process is calibrated appropriately, at the point at which the firm becomes a non-SNI MIFIDPRU investment firm.

1. (1)

   1MIFIDPRU 7.6.7G to MIFIDPRU 7.6.9G explain the approach that a firm should take to determine if a potential harm is covered by the firm’sown funds requirement. Where a firm has identified potential harms that are not covered by its own funds requirement, or are covered only partly by its own funds requirement, the firm should aggregate the estimated financial impact of those harms to determine the overall additional amount of own funds (i.e. above its own funds requirement) that the firm needs to comply with the overall financial adequacy rule.

2. (2)

   Where the FCA disagrees with a firm’s assessment of the amount of own funds that is required by the overall financial adequacy rule, the FCA may provide individual guidance to that firm about the amount of own funds that the FCA considers is necessary to comply with that rule. Alternatively, the FCA may apply a requirement to the firm that specifies an amount of own funds that the firm must hold for that purpose.

3. (3)

   The effect of MIFIDPRU 7.6.3R(2) is that a firm must not:

   1. (a)

      determine that it needs a lower level of own funds for an activity or harm than is required by a component of the own funds requirement that addresses that risk or harm; or

   2. (b)

      use components of the own funds requirement to cover harms that cannot be attributed to that component.

   This is illustrated by the example in (4).

4. (4)

   Example: A non-SNI MIFIDPRU investment firm carries on portfolio management and determines that its K-AUM requirement is £50,000. However, the firm estimates that the actual financial impact of potential harm that may result from its portfolio management activities is only £30,000. The firm also carries on corporate finance advisory business (which does not give rise to a K-factor requirement) and estimates that the financial impact of the potential harm arising from this business is £40,000. The firm should not conclude that its own funds threshold requirement is £70,000. This is because the firm is not permitted to:

   1. (a)

      conclude that the amount of own funds that it holds in relation to its portfolio management activities is less than the K-AUM requirement. This means that the firm is not permitted to substitute its own estimate of £30,000 for the minimum K-AUM requirement of £50,000; or

   2. (b)

      use part of the K-AUM requirement to cover potential material harms that do not arise in connection with portfolio management. This means that the firm cannot reallocate part of the own funds that should be held to cover the K-AUM requirement to cover risks arising from its corporate finance business.

5. (5)

   Instead, assuming that there are no other relevant potential materials harms to be taken into account, the firm should conclude that its own funds threshold requirement is £90,000, which is the sum of the K-AUM requirement and the firm’s estimate of the potential financial impact of harms arising from its corporate finance business.

1In appropriate cases, the FCA may consider that the early warning indicator should be set at a different level from 110% of a firm’sown funds threshold requirement. In this case, the FCA may invite a firm to apply for a requirement in accordance with section 55L(5) of the Act, or may impose a requirement on the FCA’s own initiative in accordance with section 55L(3) of the Act, to provide for notification to the FCA if the firm’sown funds reach the alternative level.

1. (1)

   1The notification requirement in MIFIDPRU 7.6.11R does not replace a firm’s obligations under:

   1. (a)

      Principle 11 to disclose appropriately to the FCA anything relating to the firm of which the FCA would reasonably expect notice; or

   2. (b)

      the general notification requirements in SUP 15.3.

2. (2)

   Where a firm has submitted a notification under MIFIDPRU 7.6.11R, the notification will generally discharge a firm’s obligations under Principle 11 and the general notification requirements in SUP 15.3 in relation to the matters contained in the notification. However, a firm must still consider whether the FCA should be notified of developments before any of the notification indicators in MIFIDPRU 7.6.11R occur. In addition, Principle 11 and SUP 15.3 may require a firm to notify the FCA of additional material information that is not specifically referenced in MIFIDPRU 7.6.11R.

3. (3)

   A MIFIDPRU investment firm should notify the FCA at an early stage of any significant event which creates a material risk of a firm ceasing to hold adequate financial resources, even if the impact of that event has not yet fully materialised.

1. (1)

   1The table in MIFIDPRU 7.6.15G explains the interventions that the FCA would generally expect to make where there is evidence that a MIFIDPRU investment firm may be at risk of breaching the requirements that apply to its own funds. The table sets out the points at which the FCA would normally intervene and what actions it would normally take.

2. (2)

   The FCA would generally expect that the interventions in the table would be cumulative – i.e. in a declining prudential situation, as the firm hits each intervention point in turn, the FCA would take some or all of the actions associated with that particular point. The actions are intended to be proportionate and progressively stronger responses to address the prudential concerns raised by each intervention point.

3. (3)

   However, if a firm experiences a sudden adverse event which causes the firm to hit multiple intervention points simultaneously, the FCA may immediately take the actions associated with the most severe point.

4. (4)

   The actions specified in the table do not prevent the FCA from taking alternative or additional actions in appropriate cases. The purpose of the table is to provide greater clarity for firms on the FCA’s general expectations and approach to interventions, to assist firms’ own planning and responses.

1. (1)

   1The overall financial adequacy rule requires a firm to hold adequate liquid assets to ensure that:

   1. (a)

      the firm is able to remain financially viable throughout the economic cycle, with the ability to address any potential harm that may result from its ongoing activities; and

   2. (b)

      the firm’s business can be wound down in an orderly manner.

2. (2)

   To comply with the overall financial adequacy rule, a firm must therefore hold the sum of the basic liquid assets requirement and the higher of:

   1. (a)

      the amount of liquid assets that the firm requires to fund its ongoing business operations, taking into account potential periods of financial stress during the economic cycle; or

   2. (b)

      the additional amount of liquid assets that a firm would need to hold when commencing its wind-down process to ensure that the firm could be wound down in an orderly manner.

3. (3)

   The firm should use the analysis it produces under MIFIDPRU 7.7.2R to ensure that it complies with the overall financial adequacy rule.

4. (4)

   The liquid assets threshold requirement is the amount of liquid assets that a firm needs to hold at any given time to comply with the overall financial adequacy rule.

1. (1)

   1When considering the liquid assets that are required to fund its ongoing business operations under MIFIDPRU 7.7.2R(1), a firm should consider, among other factors:

   1. (a)

      the ordinary level of liquid assets that would typically be required to operate the firm’s underlying business, taking into account any seasonal variations;

   2. (b)

      any material harms that may realistically occur during the next 12 months and their potential impact on the firm’s liquidity position;

   3. (c)

      any liquid assets that a firm may need to use as collateral or to meet margining requirements; and

   4. (d)

      any estimated gaps in funding, including during periods of severe but plausible stress.

2. (2)

   The liquid assets that a firm requires at any given time during the 12-month period in MIFIDPRU 7.7.2R(1) may fluctuate, depending on the timing of a firm’s expected liabilities and the nature of its business. Therefore, a firm should divide the 12-month period into quarters and assess the highest amount of liquid assets that it would require in each quarter. The FCA accepts that forecasts of the liquid assets that a firm requires may become less accurate for later quarters, but expects firms to use a 12-month time horizon to ensure that adequate attention is given to potential harms and significant liquidity outflows that may occur during that period.

3. (3)

   As a firm’s liquidity requirements are typically dynamic in nature, MIFIDPRU 7.7.2R requires a firm to update its liquid assets assessment where there has been a material change in the firm’s business model or operating model. This ensures that the firm updates its liquidity analysis to reflect material changes in its circumstances that may affect the availability of liquid assets or the firm’s liquidity requirements, while also assessing future needs over a rolling 12-month time horizon.

4. (4)

   As part of its reporting obligations under MIFIDPRU 9, a firm must report liquidity information to the FCA on a regular basis. The FCA will use this information to monitor both the liquid assets that the firm is holding and the firm’s assessment of its liquid assets threshold requirement.

1. (1)

   1A firm’sbasic liquid assets requirement provides a minimum level of core liquid assets that the firm must maintain at all times. The purpose of the basic liquid assets requirement is to ensure that the firm always has a minimum stock of liquid assets to fund the initial stages of its wind-down process if wind-down becomes necessary. The firm cannot, therefore, use the value of the core liquid assets that it holds to meet the basic liquid assets requirement as liquid assets for the liquidity needs of its ongoing business.

2. (2)

   The basic liquid assets requirement may, however, be insufficient to provide the liquid assets that the firm has assessed would be necessary to facilitate an orderly wind-down as part of its wind-down planning under MIFIDPRU 7.5.7R. Therefore, the firm may identify that it needs to hold an additional amount of liquid assets to meet its funding needs as part of the wind-down process. This is not necessarily the whole amount of the liquid assets that would be required to fund the entire wind-down process, because in some circumstances, the firm may reasonably expect to generate additional liquid assets during wind-down. However, the firm should identify if it could have a funding gap during the wind-down process that the firm needs to cover by holding more liquid assets at the point that wind-down begins.

3. (3)

   The following diagram summarises the process that a firm should undertake to determine its liquid assets threshold requirement:

   

* When a firm assesses the amount of liquid assets it needs for ongoing operations, it cannot use the value of the core liquid assets held to meet the basic liquid assets requirement to fund those operations.

** The basic liquid assets requirement may be insufficient to provide the liquid assets that the firm has assessed would be necessary to facilitate an orderly wind-down. Therefore, the firm may identify that it needs to hold an additional amount of liquid assets to meet its funding needs to commence its wind-down process.

*** Unless otherwise specified by the FCA.

1When considering whether a non-core liquid asset meets the requirement in MIFIDPRU 7.7.6R(3), a firm should take into account the following principles:

1. (1)

   low risk: assets that are less risky tend to have higher liquidity. High credit standing of the issuer and a low degree of subordination tends to increase an asset’s liquidity. Low duration, low legal risk, low inflation risk and denomination in a convertible currency with low foreign exchange risk all tend to enhance an asset’s liquidity;

2. (2)

   ease and certainty of valuation: an asset’s liquidity tends to increase if market participants are more likely to agree on its valuation. Assets with more standardised, homogenous and simple structures tend to be more fungible, promoting liquidity. The pricing formula of a high-quality liquid asset should be easy to calculate and not depend on strong assumptions. The inputs into the pricing formula should also be publicly available. In practice, this should rule out the inclusion of most structured or exotic products;

3. (3)

   low correlation with risky assets: the stock of assets should not be subject to wrong-way (highly correlated) risk. For example, assets issued by financial institutions are more likely to be illiquid in times of liquidity stress in the financial sector;

4. (4)

   listed on a developed and recognised exchange: being listed tends to increase an asset’s transparency and liquidity;

5. (5)

   active and sizable market: the asset should have an active market at all times. This means that:

   1. (a)

      there should be historical evidence of market breadth and market depth. This could be demonstrated by low bid-ask spreads, high trading volumes, a large and diverse number of market participants, and the existence of a repo market. Diversity of market participants reduces market concentration and increases the reliability of the liquidity in the market; and

   2. (b)

      there should be robust market infrastructure in place. The presence of multiple committed market makers increases liquidity as quotes will most likely be available for buying or selling the asset;

6. (6)

   low volatility: assets whose prices remain relatively stable and are less prone to sharp price declines over time will have a lower probability of triggering forced sales to meet liquidity requirements. Volatility of traded prices and spreads are simple proxy measures of market volatility. There should be historical evidence of relative stability of market terms (e.g. prices and haircuts) and volumes during stressed periods; and

7. (7)

   flight to quality: historically, the market has shown tendencies to move into these types of assets in a systemic crisis. The correlation between proxies of market liquidity and financial system stress is one simple measure that could be used.

1The FCA considers that a minimum haircut of no less than that in the range specified in the table in MIFIDPRU 7.7.12G is likely to be appropriate for the purposes of MIFIDPRU 7.7.10R.

1For the purposes of applying MIFIDPRU 7.7.10R and 7.7.11G to shares or units in a CIU:

1. (1)

   where a firm is aware of the exposures underlying the CIU, it may look through to the underlying exposures to assign an appropriate haircut;

2. (2)

   where a firm is not aware of the exposures underlying the CIU, it should assume that the CIU invests, up to the maximum amount allowed under its mandate, in the highest risk assets permissible; and

3. (3)

   in either case, a firm should consider applying an additional haircut to reflect any additional loss of value that could result from the underlying exposures being held through a CIU.

1. (1)

   1The notification requirement in MIFIDPRU 7.7.14R does not replace a firm’s obligations under:

   1. (a)

      Principle 11 to disclose appropriately to the FCA anything relating to the firm of which the FCA would reasonably expect notice; or

   2. (b)

      the general notification requirements in SUP 15.3.

2. (2)

   Where a firm has submitted a notification under MIFIDPRU 7.7.14R, the notification will generally discharge a firm’s obligations under Principle 11 and the general notification requirements in SUP 15.3 in relation to the matters contained in the notification. However, a firm must still consider whether the FCA should be notified of developments before any of the notification indicators in MIFIDPRU 7.7.14R occur. In addition, Principle 11 and SUP 15.3 may require a firm to notify the FCA of additional material information that is not specifically referenced in MIFIDPRU 7.7.14R.

3. (3)

   A MIFIDPRU investment firms should notify the FCA at an early stage of any significant event which creates a material risk of a firm ceasing to hold adequate financial resources, even if the impact of that event has not yet fully materialised.

1. (1)

   1The table in MIFIDPRU 7.7.17G explains the interventions that the FCA would generally expect to make where a MIFIDPRU investment firm has breached, or there is evidence that the firm may be at risk of breaching, its liquid assets requirements. The table sets out the points at which the FCA would normally intervene and what actions it would normally take. Note that unlike for own funds, there is no early warning indicator requirement in relation to liquid assets.

2. (2)

   The FCA would generally expect that the interventions in the table would be cumulative – i.e. in a declining prudential situation, as the firm hits each intervention point in turn, the FCA would take some or all of the actions associated with that particular point. The actions are intended to be proportionate and progressively stronger responses to address the prudential concerns raised by each intervention point.

3. (3)

   However, if the firm experiences a sudden adverse event which causes the firm to hit multiple intervention points simultaneously, the FCA may immediately take the actions associated with the most severe point.

4. (4)

   The actions specified in the table do not prevent the FCA from taking alternative or additional actions in appropriate cases. The purpose of the table is to provide greater clarity for firms on the FCA’s general expectations and approach to interventions, to assist firms’ own planning and responses.

1The effect of MIFIDPRU 7.8.2R(2) is that if there is a significant change in the firm’s business model or operating model, the firm should not wait until the next scheduled review of its ICARA process, but should carry out a review promptly. For example, if a firm launches a material new product or business line or merges with another business, the firm should, as part of its preparation for that event, analyse the impact on the firm’sICARA process. Similarly, if a firm’s business undergoes a significant change due to external factors (for example, significant changes in the structure of a market sector), the firm should consider the effects on the firm’sICARA process in a timely manner.

1. (1)

   1Firms may operate different internal arrangements for reviewing the adequacy of their ICARA process. When considering the timetable for a review, a firm should take into account the following 3 dates:

   1. (a)

      the date on which the underlying data used to carry out the review of the ICARA process was prepared (the “reference date”);

   2. (b)

      the date on which the firm’s review of the ICARA process is carried out (the “review date”); and

   3. (c)

      the date on which the firm will submit data item MIF007 to report on its review of the ICARA process (the “submission date”), as notified to the FCA under MIFIDPRU 7.8.4R.

2. (2)

   When deciding on a submission date under MIFIDPRU 7.8.4R, a firm should consider the following:

   1. (a)

      the period between the reference date and the review date should be reasonable, taking into account the time that the firm is likely to need to carry out a robust assessment of its ICARA process to meet the requirements in this section and the importance of using relevant data for these purposes; and

   2. (b)

      the period between the review date and the submission date should also be reasonable, taking into account the importance of the FCA receiving timely information in relation to the firm and the time that is required for the firm to complete data item MIF007 accurately and completely.

3. (3)

   A firm should design its internal timetable for the review of its ICARA process and the submission of data item MIF007 in a reasonable way, reflecting the importance of proper internal risk management. The FCA has provided firms with flexibility under MIFIDPRU 7.8.4R to adopt a review and reporting timetable that fits best with the firm’s internal processes. However, under MIFIDPRU 7.8.4R(5), the FCA may direct a firm to report on an alternative date if the FCA considers that the firm’s proposed review and reporting timetable would not result in the FCA receiving the necessary information in an appropriate and timely manner.

4. (4)

   A firm may change the date on which it submits data item MIF007 by notifying the FCA in accordance with MIFIDPRU 7.8.4R(3). However, a firm is not permitted to specify a revised date that would result in the firm not submitting data item MIF007 to the FCA for more than 12 months. For example, a firm has a submission date of 1 April each year. The firm submits data item MIF007 on 1 April 2023. On 1 March 2024, the firm wishes to change its submission date to 31 December. The firm would not be permitted to change the submission date in this way, as the next submission date would be 31 December 2024, which would be more than 12 months after 1 April 2023. However, the firm could have notified the FCA on, for example, 1 December 2023 that it intended to change its submission date to 31 December. This is because the next submission of data item MIF007 would then have occurred on 31 December 2023, which would be within 12 months of the previous submission on 1 April 2023.

1. (1)

   1Under COCON 2.2.2R, senior conduct rules staff members must take reasonable steps to ensure that the business of the firm for which they are responsible complies with the relevant requirements and standards of the regulatory system.

2. (2)

   In particular, COCON 4.2.12G explains that senior conduct rules staff members should take reasonable steps to ensure that the business for which they are responsible:

   1. (a)

      has operating procedures and systems with well-defined steps for complying with the detail of relevant requirements and standards of the regulatory system; and

   2. (b)

      is run prudently.

3. (3)

   The FCA considers that the ICARA process is a key requirement of the regulatory system for MIFIDPRU investment firms and is an essential part of a firm’s internal systems and procedures for ensuring that the firm’s business is run prudently. Accordingly, senior conduct rules staff members should take an active role in contributing to the analysis required under the ICARA process in respect of the business areas for which they are responsible and in embedding its requirements into those business areas.

4. (4)

   Firms and senior conduct rules staff members should refer to the provisions in COCON, and in particular the guidance in COCON 3 and COCON 4, for further information on the FCA’s general approach to assessing compliance with the relevant conduct rules.

1This section contains:

1. (1)

   a requirement for individual MIFIDPRU investment firms to take into account group risk as part of their ICARA process;

2. (2)

   rules and guidance on the extent to which an investment firm group may manage risks on a group basis and may operate a group ICARA process; and

3. (3)

   rules and guidance on the extent to which the position of multiple MIFIDPRU investment firms may be combined with a single ICARA document.

1The requirement in MIFIDPRU 7.9.2R applies in relation to:

1. (1)

   any group, irrespective of whether that group is an investment firm group; and

2. (2)

   any relationship that the firm has with any member of that group, irrespective of whether the other entity is an authorised person.

1. (1)

   1An investment firm group to which MIFIDPRU 2.5 (Prudential consolidation) applies is not normally required to operate an ICARA process on a consolidated basis.

2. (2)

   However, in exceptional circumstances, the FCA may determine that a particular investment firm group should operate an ICARA process on a consolidated basis . For example, the FCA may conclude that the individual ICARA process operated by a MIFIDPRU investment firm within an investment firm group, or the group ICARA process operated by an investment firm group, does not adequately reflect certain material risks that arise in the context of the investment firm group as a whole. Therefore, in appropriate cases, the FCA may:

   1. (a)

      invite a UK parent entity to apply for the imposition of a requirement to operate a consolidated ICARA process under section 55L(5) or section 143K(1) of the Act; or

   2. (b)

      impose a requirement on the FCA’s own initiative on a UK parent entity to operate a consolidated ICARA process under section 55L(3) or section 143K(3) of the Act.

3. (3)

   Where the FCA decides to impose a requirement on a UK parent entity to operate an ICARA process on a consolidated basis, it will normally discuss its expectations around the operation of that ICARA process in further detail with the UK parent entity.

4. (4)

   In appropriate cases, the FCA may specify that a particular entity (whether or not it is an authorised person) should be excluded from the consolidated situation. Where this is the case, the consolidated ICARA process should reflect the modified scope of the consolidated situation. The FCA may adopt this approach where, for example, the inclusion of the entity within the consolidated situation would result in a misleading assessment of the financial resources available to, or the harms posed by, the relevant investment firm group.

1. (1)

   1Under MIFIDPRU 7.9.7R, if an investment firm group is operating a group ICARA process that is inadequate to address the potential harms arising from its business, the FCA may direct all members of the investment firm group, or individual MIFIDPRU investment firms within it, to apply the ICARA process on an individual basis.

2. (2)

   In addition, a group ICARA process must satisfy the requirements in MIFIDPRU 7.9.5R on an ongoing basis. If any of the conditions in that rule for the use of the group ICARA process are not met, all MIFIDPRU investment firms covered by that group ICARA process must operate individual ICARA processes instead.

3. (3)

   An investment firm group that wishes to operate a group ICARA process must therefore ensure that its risk management processes are sufficiently robust to satisfy the requirements in MIFIDPRU 7.9.5R and that there is appropriate accountability of the responsible governing body in accordance with the requirements of that rule.

4. (4)

   The FCA considers that it is important that there is a proper analysis of how the overall financial adequacy rule and wind-down planning arrangements apply to each individual MIFIDPRU investment firm within the investment firm group. This reflects the fact that the solvency of firms must be assessed on an individual basis and legal entities must be wound down separately.

1The effect of MIFIDPRU 7.9.10R is that even where an investment firm group does not operate a group ICARA process, a single ICARA document can be used to document the individual ICARA processes operated by multiple MIFIDPRU investment firms within that investment firm group. However, the single ICARA document must clearly explain how each MIFIDPRU investment firm meets the applicable requirements on an individual basis.

1. (1)

   1This section contains guidance on the FCA’s approach to the supervisory review and evaluation process (SREP) of the ICARA process.

2. (2)

   Although there are no rules in this section that impose direct obligations on MIFIDPRU investment firms or UK parent entities, these entities may find the guidance in this section helpful in understanding the FCA’s general approach to considering whether MIFIDPRU investment firms are complying with the overall financial adequacy rule and the other requirements of the ICARA process.

3. (3)

   The guidance in this section relates only to the FCA’s approach to the SREP. It does not apply to any other supervisory action that the FCA may take, except where stated.

1The own funds and liquid assets necessary to comply with the overall financial adequacy rule need to be assessed by the firm and, where appropriate, the FCA. This involves:

1. (1)

   the ICARA process applied by the firm, or, in the circumstances set out in MIFIDPRU 7.9, by the investment firm group;

2. (2)

   the FCA’s monitoring of the information provided by a firm under its ongoing reporting obligations in MIFIDPRU 9; and

3. (3)

   in appropriate cases, a SREP, which is conducted by the FCA.

1. (1)

   1There is no mandatory frequency with which the FCA will conduct a SREP on a particular MIFIDPRU investment firm or investment firm group. Instead, the FCA will prioritise its resources to conduct SREPs by taking into account a range of factors, which include:

   1. (a)

      the nature, scale and complexity of the business carried on by a firm or investment firm group;

   2. (b)

      the FCA’s analysis of the risks associated with the firm or investment firm group and its potential to cause harm to consumers or to the financial markets;

   3. (c)

      the information provided by a firm or other members of its group to the FCA under any notification and reporting obligations under MIFIDPRU or other obligations in the Handbook;

   4. (d)

      the history of the firm’s or investment firm group’s interactions with the FCA;

   5. (e)

      any broader concerns about the types of products or services offered by the firm or the investment firm group, or the markets in which it operates; and

   6. (f)

      any concerns relating to the firm or investment firm group which may be notified to the FCA by other regulators (including non-financial services regulators).

2. (2)

   In appropriate cases, the FCA may conduct a review of a particular population of MIFIDPRU investment firms or investment firm groups that share common features (for example, because they are all active in a particular market sector). As a result, the FCA may issue guidance on a sectoral basis or impose additional requirements on all, or only a subset of, the entities included within that review.

3. (3)

   The scale of a SREP that the FCA carries out on an individual MIFIDPRU investment firm or investment firm group may vary, depending on the nature of the FCA’s concerns and the potential degree of risk posed by the firm or investment firm group. In certain cases, the FCA may limit its review to only a subset of the information and factors that it would normally consider under the general approach described in MIFIDPRU 7.10.4G and MIFIDPRU 7.10.5G.

1When conducting a SREP, the FCA will take into the following:

1. (1)

   the firm’s or investment firm group’sICARA document;

2. (2)

   any relevant information provided by the firm or other members of its group as part of its reporting obligations under MIFIDPRU 9 or other obligations in the Handbook;

3. (3)

   any other information or documents requested by the FCA for the purposes of the SREP;

4. (4)

   interviews with members of the firm’sgoverning body, or its employees, advisers, service providers, and auditors;

5. (5)

   information shared by other authorities; and

6. (6)

   any other relevant information that the FCA holds.

1The following is a non-exhaustive list of factors that the FCA will normally consider when conducting its SREP:

1. (1)

   the extent to which the firm’s or investment firm group’s risk management framework includes a clearly defined risk appetite;

2. (2)

   the governance arrangements operated by the firm or investment firm group, including whether there are clear lines of accountability and evidence of appropriate senior management involvement;

3. (3)

   whether the firm or investment firm group has appropriately identified and assessed the materiality of:

   1. (a)

      the harms that may arise from the ongoing operation of the firm’s or group's business;

   2. (b)

      the harms that may result from a disorderly wind-down of the firm or other members of its group;

4. (4)

   whether the firm or investment firm group has adequate systems and controls in place to monitor and manage the risks arising from its business;

5. (5)

   whether the firm or investment firm group has properly integrated its ICARA process into day-to-day decision making within its business;

6. (6)

   whether the firm, and where applicable, other individual members of its investment firm group, have adequate own funds and liquid assets to comply with the overall financial adequacy rule;

7. (7)

   whether the capital and liquidity planning and business model analysis (and, where applicable, stress testing and reverse stress testing) conducted by the firm or investment firm group is based on plausible scenarios that are relevant to the business it undertakes; and

8. (8)

   whether the wind-down planning assessment conducted by the firm, and where applicable, other individual members of its investment firm group, is adequate, contains a clear explanation of the key steps needed to ensure an orderly wind-down and is based on realistic assumptions.

1. (1)

   1Once the FCA has completed a SREP, it will consider whether any corrective action is necessary to ensure that (among other outcomes) a firm:

   1. (a)

      complies with the overall financial adequacy rule;

   2. (b)

      has an appropriate plan in place to ensure an orderly wind-down; and

   3. (c)

      appropriately identifies and manages the material potential harms that may result from the ongoing operation of the firm’s business.

2. (2)

   When considering the action that it may take, the FCA will consider its powers and the potential harms that it has identified during the SREP. The following is a non-exhaustive list of actions that the FCA may take:

   1. (a)

      requiring a firm to hold additional own funds or liquid assets;

   2. (b)

      requiring a firm to implement new risk management or governance arrangements;

   3. (c)

      requiring a firm to provide to the FCA, within a specified period, an improvement plan to ensure that the firm complies with the applicable requirements in the Handbook or other legislation;

   4. (d)

      requiring a firm to apply a particular policy for provisioning or for the treatment of assets when calculating its own funds or own funds requirement;

   5. (e)

      restricting the activities that a firm may undertake as part of its business (which may be on a permanent basis, for a specified period of time, or until certain specified conditions are met);

   6. (f)

      requiring a firm to reduce the level of risk involved in the products or services it provides, including in relation to activities that it has outsourced to third parties;

   7. (g)

      requiring a firm to reduce or limit the amount of variable remuneration it pays;

   8. (h)

      requiring a firm to reduce or limit its distributions of profits;

   9. (i)

      imposing additional or more frequent reporting requirements on a firm;

   10. (j)

       requiring a firm to hold an own funds or liquid assets buffer in excess of the amounts necessary to comply with the overall financial adequacy rule;

   11. (k)

       requiring a firm to make additional public disclosures;

   12. (l)

       requiring a firm to strengthen its data security, confidentiality or data protection processes;

   13. (m)

       requiring a firm to provide additional information to clients or counterparties;

   14. (n)

       withdrawing a permission previously granted under MIFIDPRU to apply a specific treatment (such as a K-CMG permission, or a permission to use an internal model for the purposes of the K-NPR requirement);

   15. (o)

       requiring a firm to use a different wind-down trigger;

   16. (p)

       requiring a firm to modify its legal structure or the structure of its group, where doing so would improve the FCA’s ability to supervise the firm;

   17. (q)

       giving individual guidance to the firm on any of the above matters or on any other matter that the FCA considers is relevant.

1The FCA would normally expect to take the actions described in MIFIDPRU 7.10.6G by using one or more of the following approaches:

1. (1)

   exercising the powers under section 55J of the Act permitting the FCA to vary or cancel a firm’spermission on the FCA’s own initiative;

2. (2)

   inviting a firm to make a voluntary application for the imposition of a requirement under section 55L(5) of the Act;

3. (3)

   imposing a requirement on a firm on the FCA’s own initiative under section 55L(3) of the Act;

4. (4)

   withdrawing a MIFIDPRU permission in accordance with the rules in MIFIDPRU;

5. (5)

   imposing a requirement on a parent undertaking in accordance with section 143K of the Act;

6. (6)

   requiring a firm or parent undertaking to provide additional information to the FCA under section 165 of the Act;

7. (7)

   requiring a report by a skilled person in accordance with section 166 of the Act; or

8. (8)

   giving individual guidance to a firm under section 139A of the Act, as further described in SUP 9.3.

1. (1)

   1Following a SREP, the FCA may conclude that a firm should hold an additional amount of own funds or liquid assets to comply with the overall financial adequacy rule.

2. (2)

   In this case, the FCA will normally specify an amount of own funds and/or liquid assets that the firm should hold by:

   1. (a)

      issuing individual guidance; or

   2. (b)

      imposing a requirement on the firm.

3. (3)

   The amount in (2) normally represents the FCA’s assessment of the firm’s overall own funds threshold requirement or liquid assets threshold requirement. However, in some cases, it may be specified on a different basis (such as by reference to a specific component of the threshold requirement or to a particular risk or harm).

4. (4)

   Where the FCA has undertaken a sectoral review, as described in MIFIDPRU 7.10.3G(2), it may issue guidance to, or impose a requirement on, some or all firms that are active in that sector, without conducting an individual SREP in relation to each firm. The guidance or requirement may relate to:

   1. (a)

      additional amounts of own funds or liquid assets that the firms must hold; or

   2. (b)

      other actions that the firms must undertake.

1. (1)

   1The FCA will determine whether a requirement or guidance is more appropriate. Where the FCA issues guidance, this will normally explain how the FCA will approach supervising the overall financial adequacy rule in relation to the firm. The FCA expects that the firm would normally confirm to the FCA that the firm will treat the amounts specified in that guidance as its threshold requirements going forward (and will therefore hold the relevant of own funds and liquid assets to comply with the overall financial adequacy rule), unless the firm subsequently determines under its ICARA process that higher amounts are required.

2. (2)

   Where the FCA applies a requirement in connection with the overall financial adequacy rule, it may invite a firm to make a voluntary application under section 55L(5) of the Act to impose a requirement on the firm to hold the level of own funds or liquid assets that the FCA has assessed as being the firm’sthreshold requirements.

3. (3)

   If a firm declines to make a voluntary application to impose the relevant requirement, the FCA may use its powers under section 55L(3) of the Act to impose the requirement on the firm on the FCA’s own initiative.

4. (4)

   The FCA may also consider whether it is appropriate to invite a parent undertaking of the firm to make a voluntary application under section 143K(1) of the Act, or to impose a requirement on the parent undertaking on the FCA’s own initiative under section 143K(3) of the Act. This requirement may operate by reference to the status of the investment firm group as a whole. Examples of when the FCA may choose to apply this approach include where:

   1. (a)

      an investment firm group is operating an ICARA process that covers multiple firms in accordance with MIFIDPRU 7.9; or

   2. (b)

      the FCA considers that the potential harms arising from a firm’s membership of its group can be addressed more effectively by imposing a requirement on the parent undertaking.

5. (5)

   Guidance on a threshold requirement issued by the FCA (or, where applicable, a requirement to hold a minimum level of own funds or liquid assets imposed on a firm by the FCA) will apply until the FCA issues guidance on a revised threshold requirement (or varies or removes the requirement relating to own funds or liquid assets) in relation to the firm.

6. (6)

   If a firm subsequently determines, as a result of its ICARA process, that it needs to hold a higher level of own funds or liquid assets to satisfy the overall financial adequacy rule, it must hold that higher level. This is because the FCA’s assessment of a firm’sthreshold requirement (or a requirement applied to the firm by the FCA) reflects an assessment carried out at that point in time and does not relieve the firm of its obligation to comply with the overall financial adequacy rule at all times.

7. (7)

   A firm’s business model or operating model may change significantly, with the result that the firm considers that the threshold requirement specified in the guidance issued by, or the requirement applied by, the FCA exceeds the amount of own funds or liquid assets that the firm requires to comply with the overall financial adequacy rule. In this case, the firm:

   1. (a)

      should undertake its own assessment of the amounts that the firm requires to comply with the overall financial adequacy rule or, where applicable, to address the risks in relation to which the requirement was imposed; and

   2. (b)

      having undertaken the determination in (a), may contact the FCA to request a review of the existing guidance or requirement.

1The following is a non-exhaustive list of situations in which the FCA may assess that a firm must hold additional own funds to comply with the overall financial adequacy rule:

1. (1)

   the business of the firm or investment firm group may result in material harm that is not sufficiently covered by the firm’s assessment of its own funds threshold requirement and has not otherwise been adequately mitigated;

2. (2)

   the firm or investment firm group does not comply with the governance requirements in MIFIDPRU 7.2 or 7.3;

3. (3)

   the firm’s or investment firm group’sICARA process does not comply with the relevant requirements in MIFIDPRU 7;

4. (4)

   the adjustments in relation to the prudent valuation of the firm’s or investment firm group’strading book are insufficient to enable the firm or investment firm group to sell out or hedge its positions within a short period without incurring material losses under normal market conditions;

5. (5)

   the review of the firm’s use of internal models or own estimates of delta for the purposes of the K-NPR requirement or K-TCD requirement indicates that non-compliance with the requirements for applying those models is likely to lead to inadequate levels of own funds;

6. (6)

   the manner in which the firm or investment firm group operates its business suggests that there is a significant risk that it will fail to comply with the overall financial adequacy rule in the foreseeable future; or

7. (7)

   the firm’s wind-down plan does not identify realistic and credible actions for ensuring an orderly wind-down or is based on unreasonable or unrealistic assumptions.

1The FCA may provide guidance on a firm’sown funds threshold requirement (or, where applicable, impose a requirement) by reference to:

1. (1)

   a percentage of the firm’sown funds requirement;

2. (2)

   the requirement that would result from applying a modified co-efficient to one or more K-factor metrics for the purposes of the firm’sK-factor requirement; and/or

3. (3)

   a fixed amount.

1A firm must meet any own funds threshold requirement with own funds that satisfy the conditions in MIFIDPRU 7.6.5R unless the FCA applies an alternative requirement to the firm.

1The following is a non-exhaustive list of situations in which the FCA may assess that a firm needs to hold additional liquid assets to comply with the overall financial adequacy rule:

1. (1)

   the business of the firm or investment firm group may result in material harm that is not sufficiently covered by the liquid assets threshold requirement as assessed by the firm and has not otherwise been adequately mitigated;

2. (2)

   the firm or investment firm group does not comply with the governance requirements in MIFIDPRU 7.2 or 7.3 in one or more material respects;

3. (3)

   the firm’s or investment firm group’sICARA process does not comply with the requirements in MIFIDPRU 7;

4. (4)

   the firm or investment firm group’s funding profile indicates that there may be a significant liquidity mismatch between amounts payable and receivables;

5. (5)

   the manner in which the firm or investment firm group operates its business suggests that there is a significant risk that it will fail to comply with the overall financial adequacy rule in the foreseeable future; or

6. (6)

   the firm’s wind-down plan does not identify realistic and credible actions for ensuring an orderly wind-down or is based on unreasonable or unrealistic assumptions.

1. (1)

   1A firm can normally meet its liquid assets threshold requirement with any type of liquid assets. This is subject to the overriding requirement that in all cases, a firm must meet its basic liquid assets requirement with core liquid assets.

2. (2)

   However, in appropriate cases, the FCA may require a firm to meet all or part of its liquid assets threshold requirement with a more limited subset of liquid assets. For example, in certain cases, the FCA may require a firm to hold core liquid assets to cover particular risks or may disallow the use of certain non-core liquid assets.

3. (3)

   The FCA may also:

   1. (a)

      require a firm to apply modified haircuts to non-core liquid assets; or

   2. (b)

      impose certain requirements relating to a firm’s funding profile and the matching of expected liquidity outflows and inflows.

4. (4)

   Where the FCA wishes to apply the approaches in (2) or (3), it will normally invite the firm to apply for the imposition of a requirement to that effect under section 55L(5) of the Act. In appropriate cases, the FCA may impose such a requirement on its own initiative in accordance with section 55L(3) of the Act.