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Timeline guidance

MIFIDPRU 7.1 Application

MIFIDPRU 7.1.1 G
  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).

MIFIDPRU 7.1.2 G

1The following table summarises the content of MIFIDPRU 7:

Section

Summary of content

MIFIDPRU 7.2

General requirements relating to a firm’s governance arrangements

2 MIFIDPRU 7.2A

Requirements relating to the risk management function

MIFIDPRU 7.3

Requirements relating to risk, remuneration and nomination committees

MIFIDPRU 7.4

The overall financial adequacy rule and a firm’s baseline obligations in relation to the ICARA process

MIFIDPRU 7.5

The requirements of the ICARA process relating to capital and liquidity planning, stress testing and wind-down planning

MIFIDPRU 7.6

Rules and guidance explaining how a firm should assess and monitor the adequacy of its own funds

MIFIDPRU 7.7

Rules and guidance explaining how a firm should assess and monitor the adequacy of its liquid assets

MIFIDPRU 7.8

Requirements relating to the periodic review of the ICARA process and record keeping requirements

MIFIDPRU 7.9

Requirements for firms to monitor group risk and rules explaining when an investment firm group may operate a group-level ICARA process

MIFIDPRU 7.10

Guidance explaining the FCA’s general approach to the SREP

MIFIDPRU 7 Annex 1G

General guidance on assessing potential harms that is potentially relevant to all MIFIDPRU investment firms

MIFIDPRU 7 Annex 2G

Additional guidance on assessing potential harms that is relevant for MIFIDPRU investment firmsdealing on own account and firms with significant investments on their balance sheet

MIFIDPRU 7 Annex 3R to MIFIDPRU 7 Annex 6R

Notification forms

MIFIDPRU 7 Annex 7G

Table mapping the rules in MIFIDPRU 7 about the ICARA process to their associated guidance provisions

MIFIDPRU 7.1.3 R

1 MIFIDPRU 7 applies as follows:

Section of MIFIDPRU 7

Application to SNI MIFIDPRU investment firms

Application to non-SNI MIFIDPRU investment firms

Application at the level of an investment firm group

MIFIDPRU 7.2 (Internal governance)2

Applies

Applies

Applies to the UK parent entity of an investment firm group to which consolidation applies under MIFIDPRU 2.5

2 MIFIDPRU 7.2A (Risk management function)

Does not apply

Applies to a non-SNI MIFIDPRU investment firm that has a risk management function in accordance with article 23 of the MIFID Org Regulation

Does not apply

MIFIDPRU 7.3 (Risk, remuneration and nomination committees)

Does not apply

Applies if the firm does not qualify for the exclusion in MIFIDPRU 7.1.4R

Does not apply

MIFIDPRU 7.4 (Overall financial adequacy rule and baseline ICARA obligations)

Applies

Applies

Applies if the investment firm group is operating a group ICARA process

MIFIDPRU 7.5 (Capital and liquidity planning, stress testing and wind-down planning)

Applies

Applies

Applies if the investment firm group is operating a group ICARA process

MIFIDPRU 7.6 (Assessing adequacy of own funds)

Applies

Applies

Applies if the investment firm group is operating a group ICARA process

MIFIDPRU 7.7 (Assessing adequacy of liquid assets)

Applies

Applies

Applies if the investment firm group is operating a group ICARA process

MIFIDPRU 7.8 (Periodic review of the ICARA process and record keeping)

Applies

Applies

Applies if the investment firm group is operating a group ICARA process

MIFIDPRU 7.9 (Group risks and the group ICARA process)

Applies

Applies

Applies if the investment firm group is operating a group ICARA process

MIFIDPRU 7.10 (The FCA’s general approach to the SREP)

Applies as guidance

Applies as guidance

Applies as guidance

MIFIDPRU 7.1.4 R
  1. (1)

    1MIFIDPRU 7.3 (Risk, remuneration and nomination committees) does not apply to a non-SNI MIFIDPRU investment firm:

    1. (a)

      where the value of the firm’s on-balance sheet assets and off-balance sheet items over the preceding 4-year period is a rolling average of £100 million or less; or

    2. (b)

      where:

      1. (i)

        the value of the firm’s on-balance sheet assets and off-balance sheet items over the preceding 4-year period is a rolling average of £300 million or less; and

      2. (ii)

        the conditions in (2) are (where they are relevant to a firm) satisfied.

  2. (2)

    The conditions referred to in (1)(b)(ii) are that the:

    1. (a)

      exposure value of the firm’s on- and off-balance sheet trading book business is equal to or less than £150 million; and

    2. (b)

      exposure value of the firm’s on- and off-balance sheet derivatives business is equal to or less than £100 million.

  3. (3)

    For the purposes of paragraph (1), paragraph (4) applies where a non-SNI MIFIDPRU investment firm does not have monthly data covering the 4-year period referred to in that paragraph.

  4. (4)

    Where this paragraph applies, a non-SNI MIFIDPRU investment firm must calculate the rolling averages referred to in paragraph (2) using the data points that it does have.

MIFIDPRU 7.1.5 G
  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.

MIFIDPRU 7.1.6 R
  1. (1)

    1The amounts referred to in MIFIDPRU 7.1.4R must be calculated on an individual basis, and:

    1. (a)

      in the case of on-balance sheet assets, in accordance with the applicable accounting framework;

    2. (b)

      in the case of off-balance sheet items, using the full nominal value.

  2. (2)

    The value of the on-balance sheet assets and off-balance sheet items in MIFIDPRU 7.1.4R(1)(a) and (b) must be the arithmetic mean of the assets and items over the preceding 4 years, based on monthly data points.

  3. (3)

    A firm may choose the day of the month that it uses for the data points in (2), but once that day has been chosen the firm may only change it for genuine business reasons.

MIFIDPRU 7.1.7 R
  1. (1)

    1When calculating the amounts referred to in MIFIDPRU 7.1.4R(1)(a) and (b), a firm must use the total amount of its on-balance sheet assets and off-balance sheet items.

  2. (2)

    A firm must calculate the exposure values referred to in MIFIDPRU 7.1.4R(2)(a) and (b) by adding together the following items:

    1. (a)

      the positive excess of the firm’s long positions over its short positions in all trading bookfinancial instruments, using the approach specified for K-NPR in MIFIDPRU 4.12.2R to calculate the net position for each instrument; and

    2. (b)

      the exposure value of contracts and transactions referred to in MIFIDPRU 4.14.3R, calculated using the approach specified for K-TCD in MIFIDPRU 4.14.8R.

  3. (3)

    Any amounts in foreign currencies must be converted into sterling using the relevant conversion rate.

  4. (4)

    A firm must determine the conversion rate in (3) by reference to an appropriate market rate and must record which rate was chosen.

MIFIDPRU 7.1.8 G

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.

MIFIDPRU 7.1.9 R
  1. (1)

    1This rule applies to a non-SNI MIFIDPRU investment firm that did not meet the conditions in MIFIDPRU 7.1.4R(1)(a) or (b) but subsequently does.

  2. (2)

    MIFIDPRU 7.3 (Risk, remuneration and nomination committees) ceases to apply to the firm in (1) if:

    1. (a)

      the firm has met the conditions in MIFIDPRU 7.1.4R(1)(a) or (b) for a continuous period of at least 6 months (or such longer period as may have elapsed before the firm submits the notification in (b)); and

    2. (b)

      the firm has notified the FCA that it has met the conditions in (a).

  3. (3)

    The notification in (2)(b) must be submitted through the online notification and application system using the form in MIFIDPRU 7 Annex 3R.

MIFIDPRU 7.1.10 G

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.

MIFIDPRU 7.1.11 R

1Where a non-SNI MIFIDPRU investment firm has met the conditions in MIFIDPRU 7.1.4R(1)(a) or (b) but then ceases to do so, it must comply with MIFIDPRU 7.3 within 6 months from the date on which the firm ceased to meet the conditions.

MIFIDPRU 7.1.12 R
  1. (1)

    1Where a non-SNI MIFIDPRU investment firm ceases to meet the conditions in MIFIDPRU 7.1.4R(1)(a) or (b), it must promptly notify the FCA.

  2. (2)

    The notification in (1) must be submitted through the online notification and application system using the form in MIFIDPRU 7 Annex 3R.

MIFIDPRU 7.1.13 G

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.

MIFIDPRU 7.2 Internal governance

MIFIDPRU 7.2.1 R
  1. (1)

    1A MIFIDPRU investment firm must have robust governance arrangements, including:

    1. (a)

      a clear organisational structure with well defined, transparent and consistent lines of responsibility;

    2. (b)

      effective processes to identify, manage, monitor and report the risks the firm is or might be exposed to, or the firm poses or might pose to others; and

    3. (c)

      adequate internal control mechanisms, including sound administration and accounting procedures.

  2. (2)

    1The arrangements in (1) must:

    1. (a)

      be appropriate and proportionate to the nature, scale and complexity of the risks inherent in the business model and the activities of the firm; and

    2. (b)

      be compatible with the requirements in the FCA Handbook relating to risk management and internal governance, for example those in MIFIDPRU 7 and SYSC, that apply to the firm.

MIFIDPRU 7.2.2 G

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.

Governance for risk management

MIFIDPRU 7.2.3 R
  1. (1)

    2The management body of a MIFIDPRU investment firm has overall responsibility for risk management. It must devote sufficient time to the consideration of risk.

  2. (2)

    The management body of a MIFIDPRU investment firm must be actively involved in, and ensure that adequate resources are allocated to, the management of all material risks, including the valuation of assets, the use of external ratings and internal models relating to those risks.

  3. (3)

    A MIFIDPRU investment firm must establish reporting lines to the management body that cover all material risks and risk management policies and changes thereof.

MIFIDPRU 7.2.4 R
  1. (1)

    2A MIFIDPRU investment firm must ensure that the management body in its supervisory function and any risk committee that has been established have adequate access to information on the risk profile of the firm and, if necessary and appropriate, to the risk management function and to external expert advice.

  2. (2)

    The management body in its supervisory function and any risk committee that has been established must determine the nature, the amount, the format, and the frequency of the information on risk which they are to receive.

MIFIDPRU 7.2A Risk management function

MIFIDPRU 7.2A.1 R

1 MIFIDPRU 7.2A.2R and MIFIDPRU 7.2A.3R apply to a non-SNI MIFIDPRU investment firm that has a risk management function in accordance with article 23 of the MIFID Org Regulation.

MIFIDPRU 7.2A.2 R
  1. (1)

    1A firm must ensure that its risk management function is independent from its operational functions and has sufficient authority, stature, resources and access to the management body.

  2. (2)

    The risk management function in (1) must ensure that all material risks are identified, measured and properly reported. It must be actively involved in elaborating the firm’s risk strategy and in all material risk management decisions, and it must be able to deliver a complete view of the whole range of risks of the firm.

  3. (3)

    A firm in (1) must ensure that its risk management function is able to report directly to the management body in its supervisory function, independent from senior management, and that it can raise concerns and warn the management body, where appropriate, where specific risk developments affect or may affect the firm, without prejudice to the responsibilities of the management body in its supervisory and/or managerial functions.

MIFIDPRU 7.2A.3 R

1The head of the risk management function must be an independent senior manager with distinct responsibility for the risk management function. Where the nature, scale and complexity of the activities of the MIFIDPRU investment firm do not justify a specially appointed person, another senior person within the firm may fulfil that function, provided there is no conflict of interest. The head of the risk management function must not be removed without prior approval of the management body and must be able to have direct access to the management body where necessary.

MIFIDPRU 7.3 Risk, remuneration and nomination committees

Risk committee

MIFIDPRU 7.3.1 R
  1. (1)

    1Subject to (2), a non-SNI MIFIDPRU investment firm to which this rule applies must establish a risk committee.

  2. (2)

    Subject to (3), a firm must ensure that:

    1. (a)

      at least 50% of the members of the risk committee are members of the management body who do not perform any executive function in the firm; and

    2. (b)

      the chair of the risk committee is a member of the management body who does not perform any executive function in the firm.

  3. (3)

    The requirements in (2) do not apply to a firm that, solely because of its legal structure, cannot have members of the management body who do not perform any executive function in the firm.

  4. (4)

    Members of the risk committee must have the appropriate knowledge, skills and expertise to fully understand, manage and monitor the risk strategy and the risk appetite of the firm.

  5. (5)

    The risk committee must advise the management body on the firm's overall current and future risk appetite and strategy and assist the management body in overseeing the implementation of that strategy by senior management.

  6. (5A)

    In order to assist in the establishment of sound remuneration policies and practices, the risk committee must, without prejudice to the tasks of the remuneration committee, examine whether incentives provided by the remuneration system take into consideration risk, capital, liquidity and the likelihood and timing of earnings.2

  7. (6)

    Notwithstanding the role of the risk committee, the management body of a firm has overall responsibility for the firm’s risk strategies and policies.

MIFIDPRU 7.3.2 G
  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.

Remuneration committee

MIFIDPRU 7.3.3 R
  1. (1)

    1Subject to (2), a non-SNI MIFIDPRU investment firm to which this rule applies must establish a remuneration committee.

  2. (2)

    The obligation in (1) will be deemed to be satisfied where:

    1. (a)

      the non-SNI MIFIDPRU investment firm is part of an investment firm group that is subject to prudential consolidation in accordance with MIFIDPRU 2.5; and

    2. (b)

      the UK parent entity has established a remuneration committee that:

      1. (i)

        meets the requirements of MIFIDPRU 7.3.3R(3) (read in conjunction with MIFIDPRU 7.3.3R(4));

      2. (ii)

        has the power to comply with those obligations on behalf of the non-SNI MIFIDPRU investment firm; and

      3. (iii)

        has members with the appropriate knowledge, skills and expertise in relation to the non-SNI MIFIDPRU investment firm.

  3. (3)

    Subject to (4), a firm must ensure that:

    1. (a)

      at least 50% of the members of the remuneration committee are members of the management body who do not perform any executive function in the firm; and

    2. (b)

      the chair of the remuneration committee is a member of the management body who does not perform any executive function in the firm.

  4. (4)

    The requirements in (3) do not apply to a firm that, solely because of its legal structure, cannot have members of the management body who do not perform any executive function in the firm.

  5. (5)

    A firm must ensure that the remuneration committee is constituted in a way that enables it to exercise competent and independent judgment on remuneration policies and practices and the incentives created for managing risk, capital and liquidity.

  6. (6)

    The remuneration committee must be responsible for preparing decisions regarding remuneration, including decisions which have implications for the risk and risk management of the firm and which are to be taken by the management body.

  7. (7)

    When preparing the decisions, the remuneration committee must take into account the public interest and the long-term interests of shareholders, investors and other stakeholders in the firm.

MIFIDPRU 7.3.4 G
  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).

Nomination committee

MIFIDPRU 7.3.5 R
  1. (1)

    1A non-SNI MIFIDPRU investment firm to which this rule applies must establish a nomination committee.

  2. (2)

    Subject to (3), a firm must ensure that:

    1. (a)

      at least 50% of the members of the nomination committee are members of the management body who do not perform any executive function in the firm; and

    2. (b)

      the chair of the nomination committee is a member of the management body who does not perform any executive function in the firm.

  3. (3)

    The requirements in (2) do not apply to a firm that, solely because of its legal structure, cannot have members of the management body who do not perform any executive function in the firm.

  4. (4)

    A firm must ensure that the nomination committee:

    1. (a)

      is able to use any forms of resources the nomination committee deems appropriate, including external advice; and

    2. (b)

      receives appropriate funding.

MIFIDPRU 7.3.6 G
  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).

Establishing committees at group level

MIFIDPRU 7.3.7 G
  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.

MIFIDPRU 7.4 Internal capital adequacy and risk assessment (ICARA) process: overview and baseline obligations

MIFIDPRU 7.4.1 R

1This section applies to a MIFIDPRU investment firm.

Purpose

MIFIDPRU 7.4.2 G

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.

MIFIDPRU 7.4.3 G
  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.

MIFIDPRU 7.4.4 G

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.

Proportionality and application to different business models

MIFIDPRU 7.4.5 G

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.

MIFIDPRU 7.4.6 G

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.

Overall financial adequacy rule

MIFIDPRU 7.4.7 R
  1. (1)

    1A firm must, at all times, hold own funds and liquid assets which are adequate, both as to their amount and their quality, to ensure that:

    1. (a)

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

    2. (b)

      the firm’s business can be wound down in an orderly manner, minimising harm to consumers or to other market participants.

  2. (2)

    The requirement in (1) is known as the overall financial adequacy rule.

MIFIDPRU 7.4.8 G
  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.

ICARA process: baseline obligations

MIFIDPRU 7.4.9 R
  1. (1)

    1A firm must have in place appropriate systems and controls to identify, monitor and, if proportionate, reduce all material potential harms:

    1. (a)

      that the ongoing operation of the firm’s business may cause to:

      1. (i)

        the firm’s clients and counterparties;

      2. (ii)

        the markets in which the firm operates; and

      3. (iii)

        the firm itself; and

    2. (b)

      that may result from winding down the firm’s business, to ensure that the firm can be wound down in an orderly manner.

  2. (2)

    If any material potential harms remain after a firm has implemented the systems and controls in (1), the firm must assess whether to:

    1. (a)

      hold additional own funds to address the harms in accordance with MIFIDPRU 7.6.2R; and

    2. (b)

      hold additional liquid assets to address the harms in accordance with MIFIDPRU 7.7.2R.

  3. (3)

    The requirements in this rule apply to a firm’s entire business, including:

    1. (a)

      all regulated activities, irrespective of whether they are MiFID business; and

    2. (b)

      any unregulated activities.

  4. (4)

    The systems, controls and procedures operated by a firm to comply with the requirements in this rule are known as the ICARA process.

MIFIDPRU 7.4.10 R

1A firm’s ICARA process must be proportionate to the nature, scale and complexity of the business carried on by the firm.

MIFIDPRU 7.4.11 R

1A firm must ensure that its ICARA process complies with the requirements in MIFIDPRU 7.4 to MIFIDPRU 7.8 in a consistent and coherent manner.

MIFIDPRU 7.4.12 G
  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.

ICARA process: identifying harms

MIFIDPRU 7.4.13 R

1As part of its ICARA process, a firm must assess its business model and identify all material harms that could result from:

  1. (1)

    the ongoing operation of the firm’s business; and

  2. (2)

    the winding-down of the firm’s business.

MIFIDPRU 7.4.14 G

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.

MIFIDPRU 7.4.15 G
  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.

ICARA process: risk mitigation

MIFIDPRU 7.4.16 G
  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.

MIFIDPRU 7.5 ICARA process: capital and liquidity planning, stress testing, wind-down planning and recovery planning

MIFIDPRU 7.5.1 R

1This section applies to a MIFIDPRU investment firm.

Business model assessment and capital and liquidity planning

MIFIDPRU 7.5.2 R

1As part of its ICARA process, a firm must:

  1. (1)

    have a clearly articulated business model and strategy;

  2. (2)

    have a clearly articulated risk appetite that is consistent with the business model and strategy identified under (1);

  3. (3)

    identify any material risks of misalignment between the firm’s business model and operating model and the interests of its clients and the wider financial markets, and evaluate whether those risks have been adequately mitigated;

  4. (4)

    consider on a forward-looking basis the own funds and liquid assets that will be required to meet the overall financial adequacy rule, taking into account any planned future growth; and

  5. (5)

    consider relevant severe but plausible stresses that could affect the firm’s business and consider whether the firm would still have sufficient own funds and liquid assets to meet the overall financial adequacy rule.

Stress testing and reverse stress testing requirement

MIFIDPRU 7.5.3 G

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.

MIFIDPRU 7.5.4 G
  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.

Recovery actions

MIFIDPRU 7.5.5 R

1As part of its ICARA process, a firm must identify:

  1. (1)

    levels of own funds and liquid assets that the firm considers, if reached, may indicate that there is a credible risk that the firm will breach its threshold requirements; and

  2. (2)

    potential recovery actions that the firm would expect to take:

    1. (a)

      to avoid a breach of the firm’s threshold requirements where the firm’s own funds or liquid assets fall below the levels identified in (1); and

    2. (b)

      to restore compliance with its threshold requirements if the firm were to breach its threshold requirements during a period of financial difficulty.

MIFIDPRU 7.5.6 G
  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.

Wind-down planning and wind-down triggers

MIFIDPRU 7.5.7 R

1As part of its ICARA process, a firm must:

  1. (1)

    identify the steps and resources that would be required to ensure the orderly wind-down and termination of the firm’s business in a realistic timescale; and

  2. (2)

    evaluate the potential harms arising from winding down the firm’s business and identify how to mitigate them.

MIFIDPRU 7.5.8 G

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.

MIFIDPRU 7.5.9 R
  1. (1)

    1A firm must use its wind-down analysis under MIFIDPRU 7.5.7R to assess the amount of own funds and liquid assets that would be required to ensure an orderly wind-down of its business for the purposes of the overall financial adequacy rule.

  2. (2)

    The firm’s assessment in (1) must not result in amounts that are lower than:

    1. (a)

      in the case of own funds, the firm’s fixed overheads requirement; and

    2. (b)

      in the case of liquid assets, the firm’s basic liquid assets requirement.

MIFIDPRU 7.5.10 G
  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.

MIFIDPRU 7.6 ICARA process: assessing and monitoring the adequacy of own funds

MIFIDPRU 7.6.1 R

1This section applies to a MIFIDPRU investment firm.

MIFIDPRU 7.6.2 R

1As part of its ICARA process, a firm must produce a reasonable estimate of the own funds it needs to hold to address:

  1. (1)

    any potential material harms that the firm has identified under MIFIDPRU 7.4.13R and in relation to which it has not taken any measures to reduce the impact of the harms under MIFIDPRU 7.4.9R; and

  2. (2)

    any residual potential material harms that remain after the firm has taken measures to reduce the impact of the harms under MIFIDPRU 7.4.9R.

MIFIDPRU 7.6.3 R
  1. (1)

    1A firm must assess on the basis of its analysis under MIFIDPRU 7.6.2R whether it should hold additional own funds in excess of its own funds requirement to comply with the overall financial adequacy rule.

  2. (2)

    When carrying out the assessment in (1), 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 rule in MIFIDPRU 4 (Own funds requirements) or MIFIDPRU 5 (Concentration risk); or

    2. (b)

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

MIFIDPRU 7.6.4 G
  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:

  6. MIFIDPRU_7_6_4

* 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.

MIFIDPRU 7.6.5 R
  1. (1)

    1Unless (2) applies, a firm must meet its own funds threshold requirement with own funds that satisfy the following conditions:

    1. (a)

      subject to (b), at least 75% of the own funds threshold requirement must be met with any combination of common equity tier 1 capital and additional tier 1 capital; and

    2. (b)

      at least 56% of the own funds threshold requirement must be met with common equity tier 1 capital.

  2. (2)

    The FCA may specify an alternative combination of own funds for the purpose of (1) in a requirement applied to a firm.

MIFIDPRU 7.6.6 G
  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.

MIFIDPRU 7.6.7 G
  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.

MIFIDPRU 7.6.8 G
  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.

  6. (6)

    2Example 4: A non-SNI MIFIDPRU investment firm is appointed as a depositary. The K-CMH requirement and the K-ASA requirement apply only in relation to MiFID business, and therefore do not apply to its activities as a depositary. If the firm identifies a potential material harm that results from its activities as a depositary, it will need to assess the potential financial impact of that harm and hold additional own funds to cover that impact. A firm may have regard to the general methodology for calculating the K-CMH requirement and the K-ASA requirement when carrying out the assessment in MIFIDPRU 7.6.3R for its activities as a depositary.

MIFIDPRU 7.6.9 G
  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.

MIFIDPRU 7.6.10 G
  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.

Requirement to notify the FCA of certain levels of own funds

MIFIDPRU 7.6.11 R
  1. (1)

    1A firm must notify the FCA immediately in each case where its own funds fall below the level of the firm’s:

    1. (a)

      early warning indicator;

    2. (b)

      own funds threshold requirement; or

    3. (c)

      own funds wind-down trigger, or the firm considers that there is a reasonable likelihood that its own funds will fall below that level in the foreseeable future.

  2. (2)

    A notification under (1) must include the following information:

    1. (a)

      a clear statement of the current level of the firm’sown funds in comparison to:

      1. (i)

        its own funds threshold requirement; and

      2. (ii)

        in the case of a notification under (1)(c), the firm’sown funds wind-down trigger;

    2. (b)

      an explanation of why the firm’sown funds have reached the current level;

    3. (c)

      in the case of a notification made under (1)(a), where the firm has identified that its own funds may fall below a level specified by the firm for the purposes of MIFIDPRU 7.5.5R(1), the recovery actions that the firm intends to take, as identified under MIFIDPRU 7.5.5R(2)(a) and 7.5.6G;

    4. (d)

      in the case of a notification made under (1)(a), confirmation of whether the firm expects that its own funds could fall below its own funds threshold requirement in the foreseeable future and an explanation of why the firm expects this to happen;

    5. (e)

      in the case of a notification made under (1)(b), the recovery actions specified for the purposes of MIFIDPRU 7.5.5R(2)(b) and 7.5.6G that the firm has already taken or will take to restore compliance with its own funds threshold requirement; and

    6. (f)

      in the case of a notification made under (1)(c), the firm’s intentions in relation to activating its wind-down plan.

  3. (3)

    A firm must submit the notification in (1) through the online notification and application system using the form in MIFIDPRU 7 Annex 4R.

MIFIDPRU 7.6.12 G

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.

MIFIDPRU 7.6.13 G
  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.

FCA approach to intervention in relation to own funds

MIFIDPRU 7.6.14 G
  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.

MIFIDPRU 7.6.15 G

1This table belongs to MIFIDPRU 7.6.14G.

Intervention point

Purpose

Potential FCA supervisory actions

Early warning indicator:

When the early warning indicator is triggered, the firm must notify the FCA under MIFIDPRU 7.6.11R(1)(a)

This is intended as an early warning to the FCA that the firm may be at risk of breaching its own funds threshold requirement.

This will allow the firm and the FCA to consider any preventative action that may be appropriate.

Where the notification is not the expected result of planned action by the firm, the FCA would normally expect the following to occur:

(a)

a dialogue between the FCA and the firm based on the information provided in the notification to understand the reason for the decline in the firm’sown funds and the firm’s future plans; and

(b)

enhanced monitoring and supervision of the firm by the FCA.

After having considered the information provided by the firm about its proposed actions, if the FCA reasonably considers that the firm may breach its own funds threshold requirement in the foreseeable future, the FCA may consider the following additional actions:

(c)

requesting that the firm cease making discretionary distributions of capital, loans to affiliated entities, payments of dividends or payments of variable remuneration;

(d)

requesting that the firm take some or all of the recovery actions identified by the firm under MIFIDPRU 7.5.5R(2) and 7.5.6G;

(e)

requesting that the firm report additional information to the FCA;

(f)

requesting that the firm improve its internal risk management and systems and controls;

(g)

requesting that the firm cease making acquisitions; or

(h)

where appropriate, inviting the firm to apply for a requirement under section 55L(5) of the Act, or imposing a requirement on the FCA’s own initiative under section 55L(3) of the Act, in relation to (c) – (g) above.

Threshold requirement notification:

Firm holding insufficient own funds to meet its own funds threshold requirement

In the FCA’s view, where a firm is failing to hold sufficient own funds to comply with its own funds threshold requirement, the firm will be failing to meet the appropriate resources threshold condition.

This trigger is intended to prompt the firm and the FCA to address the breach of threshold conditions in a timely manner.

Where appropriate, the focus should be on recovery of the firm (unless the firm chooses to exit the market by voluntarily winding down). However, any proposed actions for recovery must be credible and achievable within a reasonable and realistic timeframe.

The FCA would normally expect that:

(a)

the firm will have taken any relevant recovery actions identified by the firm under MIFIDPRU 7.5.5R(2)(a) and 7.5.6G before breaching its own funds threshold requirement and will be preparing to take, or will have taken, any relevant recovery actions identified under MIFIDPRU 7.5.5R(2)(b); and

(b)

the firm will cease making discretionary distributions of capital, loans to affiliated entities, payments of dividends or payments of variable remuneration.

After having considered the information provided by the firm about its proposed actions, if the FCA reasonably considers that the firm may fail to restore its own funds to the level required by the own funds threshold requirement within a reasonable timeframe, the FCA may consider the following additional actions:

(c)

requesting that the firm cease taking on new business;

(d)

requesting that the firm report additional information to the FCA;

(e)

requesting that the firm’sparent undertaking provides additional own funds for the firm;

(f)

where appropriate, inviting the firm or its parent undertaking to apply for a requirement under section 55L(5) or section 143K(1) of the Act, or imposing a requirement on the FCA’s own initiative under section 55L(3) or section 143K(2) of the Act, in relation to (a) – (e) above; or

(g)

where appropriate, inviting the firm to apply for variation or cancellation of permission under section 55H of the Act, or varying or cancelling the firm’spermission on the FCA’s own initiative under section 55J of the Act.

The FCA would also expect the firm to consider whether it is appropriate to trigger the firm’s wind-down plan under MIFIDPRU 7.5.7R to ensure an orderly wind-down of its business. This may be the case where the firm’s identified wind-down actions will require a reasonable length of time to execute, such as where the firm will need to transfer customers or close out its own positions.

Wind-down trigger notification:

Firm’s own funds fall below its own funds wind-down trigger

The own funds wind-down trigger is intended to specify a level of own funds that is sufficient to ensure an orderly wind-down of the firm.

Where the firm’sown funds requirement is determined by the fixed overheads requirement and the firm has not identified that it needs to hold additional own funds to comply with the overall financial adequacy rule, the own funds wind-down trigger may be equal to the firm’sown funds threshold requirement. In that case, the FCA may proceed directly to applying the interventions in this row, rather than those specified for a breach of the own funds threshold requirement above.

In order to maximise the potential for an orderly wind-down, the FCA expects that firms that breach this trigger should normally commence winding down immediately, unless the firm’sgoverning body and the FCA determine that there is an imminent and credible likelihood of recovery.

The FCA would normally expect the following to occur:

(a)

the firm’sgoverning body will make a formal decision to initiate the firm’s wind-down plan, unless the governing body has a reasonable basis for determining that there is an imminent and credible likelihood of the firm’s recovery; and

(b)

where the firm decides to initiate its wind-down plan, the FCA will invite the firm to apply for a requirement under section 55L(5) of the Act, or will impose a requirement on the FCA’s own initiative under section 55L(3) of the Act, that prevents the firm from taking on any new business.

The FCA may consider the following additional actions if it has concerns that without such actions, the potential risk of harm to consumers or the markets is likely to increase:

(c)

taking appropriate action to protect any client money or client assets, including, where appropriate, inviting the firm to apply for a requirement under section 55L(5) of the Act, or imposing a requirement on the FCA’s own initiative under section 55L(3) of the Act, to achieve any necessary protection; and

(d)

where appropriate, inviting the firm to apply for variation or cancellation of permission under section 55H of the Act, or varying or cancelling the firm’spermission on the FCA’s own initiative under section 55J of the Act.

If a firm refuses to commence an orderly wind-down despite its governing body or the FCA having concluded that there is no imminent and credible likelihood of recovery, the FCA will consider the full range of its supervisory powers. In particular, the FCA may use a combination of its own initiative powers under section 55L(3) and section 55J of the Act to:

(e)

prevent the firm from continuing to carry on any regulated activities; and

(f)

require the firm to take appropriate actions to ensure the fair treatment and appropriate protection of clients and counterparties during any run-off period for its existing regulated business.

MIFIDPRU 7.7 ICARA process: assessing and monitoring the adequacy of liquid assets

MIFIDPRU 7.7.1 R

1This section applies to a MIFIDPRU investment firm.

MIFIDPRU 7.7.2 R
  1. (1)

    1As part of its ICARA process, a firm must produce a reasonable estimate of the maximum amount of liquid assets that the firm would require to:

    1. (a)

      fund its ongoing business operations during each quarter over the next 12 months; and

    2. (b)

      ensure that the firm could be wound down in an orderly manner.

  2. (2)

    The assessment in (1) must take into account any potential material harms that the firm has identified under MIFIDPRU 7.4.9R and been unable to reduce appropriately through its systems and controls.

  3. (3)

    Without prejudice to the ongoing nature of the ICARA process, the firm must update the analysis in (1) immediately following any material change in the firm’s business model or operating model.

  4. (4)

    To produce the estimate in (1), the firm must ensure that it has in place reliable management information systems to provide timely and forward-looking information on its liquidity position.

MIFIDPRU 7.7.3 G
  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.

MIFIDPRU 7.7.4 G
  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.

MIFIDPRU 7.7.5 G
  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:

    MIFIDPRU_7_7_5

* 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.

MIFIDPRU 7.7.6 R
  1. (1)

    1Subject to (2) and (3), a firm may hold the liquid assets necessary to comply with its liquid assets threshold requirement in any combination of:

    1. (a)

      any core liquid asset, except trade receivables under MIFIDPRU 6.3.3R; or

    2. (b)

      any non-core liquid asset, as defined in MIFIDPRU 7.7.8R, provided that the firm applies an appropriate haircut in accordance with MIFIDPRU 7.7.9R.

  2. (2)

    This rule does not apply in relation to the liquid assets that a firm is holding to meet its basic liquid assets requirement, which must be core liquid assets.

  3. (3)

    A firm may only use a non-core liquid asset for the purpose in (1) if the firm is satisfied that the asset can easily and promptly be converted into cash, even in stressed market conditions.

MIFIDPRU 7.7.7 G

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.

MIFIDPRU 7.7.8 R
  1. (1)

    1Except as specified in (2), the following assets are eligible as non-core liquid assets:

    1. (a)

      short-term deposits at a credit institution that does not have a Part 4A permission in the UK to accept deposits;

    2. (b)

      assets representing claims on, or guaranteed by, multilateral development banks and international organisations;

    3. (c)

      assets representing claims on, or guaranteed by, any third country central bank or government;

    4. (d)

      financial instruments; and

    5. (e)

      any other instrument eligible as collateral against the margin requirement of an authorised central counterparty.

  2. (2)

    A firm must not treat any of the following as a non-core liquid asset:

    1. (a)

      any asset that belongs to a client;

    2. (b)

      any other asset that is encumbered; or

    3. (c)

      any asset issued by the firm or any of its affiliated entities, except a short-term deposit with an affiliated credit institution.

MIFIDPRU 7.7.9 R
  1. (1)

    1For the purposes of MIFIDPRU 7.7.8R(2)(a), an asset may belong to a client even if the asset is held in the firm’s own name. Examples of assets belonging to a client include money or other assets held under the FCA’sclient asset rules.

  2. (2)

    For the purposes of MIFIDPRU 7.7.8R(2)(b), an asset may be encumbered if it is pledged as security or collateral, or subject to some other legal restriction (for example, due to regulatory or contractual requirements) which affects the firm’s ability to liquidate, sell, transfer, or assign the asset.

MIFIDPRU 7.7.10 R

1A firm must apply an appropriate haircut to the value of a non-core liquid asset to reflect the potential loss of value when converting the asset into cash during stressed market conditions.

MIFIDPRU 7.7.11 G

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.

MIFIDPRU 7.7.12 G

1This table belongs to MIFIDPRU 7.7.11G.

Non-core liquid asset

Haircut

Short-term deposits at a credit institution that does not have permission in the UK to accept deposits

0%

Assets representing claims on, or guaranteed by, multilateral development banks or international organisations

0%

Assets representing claims on, or guaranteed by, any third country central bank or government

0% - 50%

Regulated covered bonds, or comparable covered bonds regulated in a third country

7% - 30%

Asset-backed securities eligible for ‘STS’ designation under the Securitisation Regulation, and backed by residential loans, personal loans, leases or commercial loans for purposes other than commercial real estate development, or comparable asset-backed securities regulated in a third country

25% - 35%

High quality corporate debt securities

15% - 50%

Shares that form part of a major stock index

50%

Financial instruments not covered above for which there is a liquid market as defined in article 42(1)(17) of MiFIR or article 42(1)(17) of EU MiFIR

55%

Other instruments eligible as collateral against the margin requirement of an authorised central counterparty

25% - 55%

MIFIDPRU 7.7.13 G

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.

Requirement to notify the FCA of certain levels of liquid assets

MIFIDPRU 7.7.14 R
  1. (1)

    1A firm must notify the FCA immediately in each case where:

    1. (a)

      its liquid assets fall below its liquid assets threshold requirement; or

    2. (b)

      its liquid assets fall below its liquid assets wind-down trigger or the firm considers that there is a reasonable likelihood that its liquid assets will fall below its liquid assets wind-down trigger in the foreseeable future.

  2. (2)

    A notification under (1) must include the following information:

    1. (a)

      a clear statement of the current level of the firm’sliquid assets in comparison to:

      1. (i)

        the firm’sliquid assets threshold requirement; and

      2. (ii)

        in the case of a notification under (1)(b), the firm’sliquid assets wind-down trigger;

    2. (b)

      an explanation of why the firm’sliquid assets have reached the current level;

    3. (c)

      in the case of a notification under (1)(a), an explanation of the recovery actions specified for the purposes of MIFIDPRU 7.5.5R(2)(b) and 7.5.6G that the firm has already taken or will take to restore compliance with its liquid assets threshold requirement; and

    4. (d)

      in the case of a notification under (1)(b), the firm’s intentions in relation to activating its wind-down plan.

  3. (3)

    A firm must submit the notification in (1) through the online notifications and applications system using the form in MIFIDPRU 7 Annex 5R.

MIFIDPRU 7.7.15 G
  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.

FCA approach to intervention in relation to liquid assets

MIFIDPRU 7.7.16 G
  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.

MIFIDPRU 7.7.17 G

1This table belongs to MIFIDPRU 7.7.16G.

Intervention point

Purpose

Potential FCA supervisory actions

Threshold requirement notification:

Firm holding insufficient liquid assets to meet its liquid assets threshold requirement

The liquid assets threshold requirement is the amount of liquid assets that the firm needs at any point in time to comply with the overall financial adequacy rule. The FCA will monitor a firm’s assessment of its liquid assets threshold requirement through the information that the firm provides under MIFIDPRU 9.

This notification is intended to prompt the firm and the FCA to address the breach of threshold conditions in a timely manner.

Where a firm has ceased to hold sufficient liquid assets to meet its liquid assets threshold requirement, the focus should be on restoring liquid assets to at least the level of the liquid assets threshold requirement and recovery of the firm (unless the firm chooses to exit the market by voluntarily winding down). However, any proposed actions for recovery must be credible and achievable within a reasonable and realistic timeframe.

The FCA would normally expect that:

(a)

the firm will have considered taking the recovery actions identified under MIFIDPRU 7.5.5R(2)(a) and MIFIDPRU 7.5.6G before breaching its liquid assets threshold requirement and will be considering whether to take, or will have taken, any relevant recovery actions identified under MIFIDPRU 7.5.5R(2)(b);

(b)

the firm’sgoverning body will regularly evaluate whether the firm should take additional actions to restore its level of liquid assets to at least the level of the liquid assets threshold requirement; and

(c)

the FCA will consider whether to request the firm to report additional information to the FCA.

If, having considered the information provided by the firm about its proposed actions, the FCA reasonably considers that the firm may fail to restore its liquid assets to the level required by the liquid assets threshold requirement within a reasonable timeframe, the FCA may consider the following actions:

(d)

requesting that the firm cease making discretionary payments;

(e)

requesting that the firm cease taking on new business;

(f)

requesting that the firm’sparent undertaking provides additional liquid assets for the firm;

(g)

where appropriate, inviting the firm or its parent undertaking to apply for a requirement under section 55L(5) or section 143K(1) of the Act, or imposing a requirement on the FCA’s own initiative under section 55L(3) or section 143K(2) of the Act, in relation to (a) – (f) above; or

(h)

where appropriate, inviting the firm to apply for variation or cancellation of permission under section 55H of the Act, or varying or cancelling the firm’spermission on the FCA’s own initiative under section 55J of the Act.

The FCA would also expect the firm to consider whether it is appropriate to trigger the firm’s wind-down plan under MIFIDPRU 7.5.7R to ensure an orderly wind-down of its business. This may be the case where the firm’s identified wind-down actions will require a reasonable length of time to execute, such as where the firm will need to transfer customers or close out its own positions.

Wind-down trigger notification:

Firm’s liquid assets fall below its liquid assets wind-down trigger

The liquid assets wind-down trigger is an absolute minimum level of liquid assets that a firm must maintain at all times to provide the necessary financial resources to commence wind-down. This is equal to the firm’sbasic liquid assets requirement (or such higher amount as the FCA may have imposed for these purposes in a requirement).

In order to maximise the potential for an orderly wind-down, the FCA expects that firms that breach this trigger should normally commence winding down immediately unless the firm’sgoverning body and the FCA determine that there is an imminent and credible likelihood of recovery.

The FCA would normally expect the following to occur:

(a)

the firm’sgoverning body will make a formal decision to initiate the firm’s wind-down plan, unless the governing body has a reasonable basis for determining that there is an imminent and credible likelihood of the firm’s recovery; and

(b)

where the firm decides to initiate its wind-down plan, the FCA will invite the firm to apply for a requirement under section 55L(5) of the Act, or will impose a requirement on the FCA’s own initiative under section 55L(3) of the Act, that prevents the firm from taking on any new business.

The FCA may consider the following additional actions if it has concerns that without these actions, the potential risk of harm to consumers or the markets is likely to increase:

(c)

taking appropriate action to protect any client money or client assets, including, where appropriate, inviting the firm to apply for a requirement under section 55L(5) of the Act, or imposing a requirement on the FCA’s own initiative under section 55L(3) of the Act, to achieve any necessary protection; and

(d)

where appropriate, inviting the firm to apply for variation or cancellation of permission under section 55H of the Act, or varying or cancelling the firm’spermission on the FCA’s own initiative under section 55J of the Act.

If a firm refuses to commence an orderly wind-down despite its governing body or the FCA having concluded that there is no imminent and credible likelihood of recovery, the FCA will consider the full range of its supervisory powers. In particular, the FCA may use a combination of its own initiative powers under section 55L(3) and section 55J of the Act to:

(e)

prevent the firm from continuing to carry on any regulated activities; and

(f)

direct the firm to take appropriate actions to ensure the fair treatment and appropriate protection of clients and counterparties during any run-off period for its existing regulated business.

MIFIDPRU 7.8 Reviewing and documenting the ICARA process

MIFIDPRU 7.8.1 R

1This section applies to a MIFIDPRU investment firm.

MIFIDPRU 7.8.2 R

1A firm must review the adequacy of its ICARA process:

  1. (1)

    at least once every 12 months; and

  2. (2)

    irrespective of any review carried out under (1), following any material change in the firm’s business model or operating model.

MIFIDPRU 7.8.3 G

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.

MIFIDPRU 7.8.4 R
  1. (1)

    1A firm must notify the FCA of the date on which the firm will submit data item MIF007 (ICARA assessment questionnaire) in accordance with:

    1. (a)

      in the case of a non-SNI MIFIDPRU investment firm, MIFIDPRU 9.2.2R; and

    2. (b)

      in the case of an SNI MIFIDPRU investment firm, MIFIDPRU 9.2.4R.

  2. (2)

    The submission date that the firm notifies under (1) continues to apply unless the firm notifies the FCA of a change of the submission date in accordance with (3).

  3. (3)

    A firm may notify the FCA of a revised submission date for the purpose of (1), provided that the revised date will not result in the firm not submitting data item MIF007 to the FCA for more than 12 months.

  4. (4)

    The notifications in (1) and (3) must be submitted through the online notification and application system using the form in MIFIDPRU 7 Annex 6R.

  5. (5)

    The FCA may direct a firm to submit data item MIF007 on a different date from the date in (2) to ensure that the FCA has access to appropriate and timely information on the firm’s financial position.

  6. (6)

    If the FCA gives a direction to a firm in accordance with (5), the firm must submit data item MIF007 to the FCA on the date specified in that direction until the FCA directs otherwise.

MIFIDPRU 7.8.5 G
  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.

MIFIDPRU 7.8.6 R

1Where a firm carries out a review of its ICARA process in accordance with MIFIDPRU 7.8.2R(2) following a change in its business model or operating model:

  1. (1)

    the firm must submit data item MIF007 to the FCA within 20 business days of the governing body having approved the ICARA document resulting from that review in accordance with MIFIDPRU 7.8.8R; and

  2. (2)

    the requirement in MIFIDPRU 7.8.4R to notify the FCA of the submission date of data item MIF007 does not apply to a data item submitted under (1).

MIFIDPRU 7.8.7 R
  1. (1)

    1A firm must document any review carried out under MIFIDPRU 7.8.2R.

  2. (2)

    The documentation produced by the firm to comply with (1):

    1. (a)

      may consist of multiple documents, provided that the relationship between them is clear, they are prepared on a consistent basis and they can all be provided to the FCA promptly if requested; and

    2. (b)

      is collectively referred to as the ICARA document.

  3. (3)

    The ICARA document must include the following:

    1. (a)

      a clear description of the firm’s business model and strategy and how it aligns with the firm’s risk appetite;

    2. (b)

      an explanation of the activities carried on by the firm, with a focus on the most material activities;

    3. (c)

      where the firm has concluded that the ICARA process is fit for purpose, a clear explanation of why the firm reached this conclusion;

    4. (d)

      where the firm has concluded that the ICARA process requires further improvement, a clear explanation of:

      1. (i)

        the improvements needed;

      2. (ii)

        the steps needed to make those improvements and the timescale for taking them; and

      3. (iii)

        who within the firm is responsible for taking the steps in (ii);

    5. (e)

      a clear explanation of any other changes to the firm’sICARA process that have occurred following the review and the reasons for those changes;

    6. (f)

      an analysis of the effectiveness of the firm’s risk management processes during the period covered by the review;

    7. (g)

      a summary of the material harms identified by the firm under MIFIDPRU 7.4.13R and any steps taken to mitigate them;

    8. (h)

      an overview of the business model assessment and capital and liquidity planning undertaken by the firm under MIFIDPRU 7.5.2R;

    9. (i)

      a clear explanation of how the firm is complying with the overall financial adequacy rule, including a clear breakdown of the following as at the review date:

      1. (i)

        available own funds;

      2. (ii)

        available liquid assets; and

      3. (iii)

        the firm’s assessment of its threshold requirements;

    10. (j)

      a summary of any stress testing and reverse stress testing carried out by the firm;

    11. (k)

      the levels of own funds and liquid assets that, if reached, the firm has identified under MIFIDPRU 7.5.5R(1) may indicate that there is a credible risk that the firm will breach its threshold requirements;

    12. (l)

      the potential recovery actions that the firm has identified under MIFIDPRU 7.5.5R(2) and 7.5.6G; and

    13. (m)

      an overview of the firm’s wind-down planning under MIFIDPRU 7.5.7R, including:

      1. (i)

        any required actions;

      2. (ii)

        the anticipated timelines for actions to be taken; and

      3. (iii)

        any key assumptions or qualifications.

Senior management responsibility for the ICARA process

MIFIDPRU 7.8.8 R
  1. (1)

    1The content of the ICARA document must be reviewed and approved by the firm’sgoverning body within a reasonable period after the review under MIFIDPRU 7.8.2R has been completed.

  2. (2)

    As part of its review under (1), the governing body must specifically review and approve the key assumptions underlying the ICARA document.

MIFIDPRU 7.8.9 G
  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.

Record keeping requirements

MIFIDPRU 7.8.10 R
  1. (1)

    1A firm must keep adequate records of the following:

    1. (a)

      its ICARA document; and

    2. (b)

      the review and approval of the ICARA document by the firm’sgoverning body under MIFIDPRU 7.8.8R.

  2. (2)

    A firm must retain the records in (1) for at least 3 years from the date on which the relevant document was approved.

MIFIDPRU 7.9 ICARA process: firms forming part of a group

MIFIDPRU 7.9.1 G

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.

Analysis of group risk by individual firms

MIFIDPRU 7.9.2 R

1Where a MIFIDPRU investment firm is a part of a group, the firm’sICARA process must take into account any material risks or potential harms that may result from the firm’s relationship with other members of that group or the group as a whole.

MIFIDPRU 7.9.3 G

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.

Group ICARA process

MIFIDPRU 7.9.4 G
  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.

MIFIDPRU 7.9.5 R

1Subject to MIFIDPRU 7.9.7R, an investment firm group (whether it is subject to MIFIDPRU 2.5 or not) may operate a group ICARA process, provided that the following conditions are satisfied:

  1. (1)

    the group ICARA process is consistent with the manner in which the business of the investment firm group, and the risks arising from it, are operated and managed in practice;

  2. (2)

    any assessment under the group ICARA process of own funds or liquid assets that are required to cover the identified risks is allocated between individual firms within the investment firm group on a reasonable basis and that basis is properly documented;

  3. (3)

    each MIFIDPRU investment firm covered by the group ICARA process complies with the overall financial adequacy rule on an individual basis;

  4. (4)

    each MIFIDPRU investment firm covered by the group ICARA process maintains a separate wind-down plan for the purposes of MIFIDPRU 7.5.7R and applies the wind-down triggers on an individual basis;

  5. (5)

    the notification requirements in MIFIDPRU 7.6.11R and 7.7.14R apply in relation to each individual MIFIDPRU investment firm included within the group ICARA process, using the amounts determined in accordance with (2) to (4);

  6. (6)

    the management of any risks on a group basis takes place within one of the following entities:

    1. (a)

      a MIFIDPRU investment firm within the investment firm group; or

    2. (b)

      the UK parent entity of the investment firm group;

  7. (7)

    the governing body of the relevant entity in (6) has accepted overall responsibility for the group ICARA process and for ensuring compliance with this rule;

  8. (8)

    the requirement in MIFIDPRU 7.8.8R for the governing body of an individual MIFIDPRU investment firm to approve the content of the ICARA document applies to the governing body of the relevant entity in (7); and

  9. (9)

    each individual MIFIDPRU investment firm included within the group ICARA process submits data item MIF007 (ICARA assessment questionnaire) to the FCA on an individual basis, reflecting the position of that firm as it results from the conclusions of the group ICARA process.

MIFIDPRU 7.9.6 R

1Except as specified in MIFIDPRU 7.9.5R, a MIFIDPRU investment firm that is included within a group ICARA process is not required to comply with the requirements in MIFIDPRU 7.4 to MIFIDPRU 7.8 on an individual basis.

MIFIDPRU 7.9.7 R
  1. (1)

    1An investment firm group must not:

    1. (a)

      operate a group ICARA process if the FCA has directed the investment firm group to manage or assess the risks arising from its business on a different basis because one or more of the conditions in (2) applies in relation to that investment firm group; or

    2. (b)

      include within a group ICARA process any MIFIDPRU investment firm that the FCA has directed to manage or assess the risks arising from its business on a different basis because one or more of the conditions in (2) applies in relation to that firm.

  2. (2)

    The relevant conditions are that:

    1. (a)

      there is a material risk that potential harms arising in relation to the firm or investment firm group would not be adequately captured through a group ICARA process;

    2. (b)

      there is a material risk that a group ICARA process would result in excessive complexity that would interfere with the FCA’s ability to supervise the compliance of the investment firm group, or any of the individual MIFIDPRU investment firms within it, with its obligations under MIFIDPRU 7; or

    3. (c)

      the investment firm group previously operated, or the firm was previously included within, a group ICARA process that did not meet the requirements in MIFIDPRU 7.9.

MIFIDPRU 7.9.8 R

1Except as otherwise specified in MIFIDPRU 7.9.5R, a group ICARA process must comply with the requirements in MIFIDPRU 7.4 to MIFIDPRU 7.8 as if the references in those sections to a “MIFIDPRU investment firm” are references to the investment firm group operating that group ICARA process.

MIFIDPRU 7.9.9 G
  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.

Combined ICARA documents covering multiple group entities

MIFIDPRU 7.9.10 R

1Where an investment firm group contains multiple MIFIDPRU investment firms, the ICARA document for each firm may be combined within a single document, provided that:

  1. (1)

    to the extent that any risks are managed under a group ICARA process, this is clearly documented and explained; and

  2. (2)

    for any risks that are managed on an individual basis, and for any requirements that MIFIDPRU 7.9.5R specifies must always apply on an individual basis under a group ICARA process, the combined ICARA document clearly explains the position of each individual firm and how it complies with the relevant requirements.

MIFIDPRU 7.9.11 G

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.

MIFIDPRU 7.10 Supervisory review and evaluation process

Application

MIFIDPRU 7.10.1 G
  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.

Purpose

MIFIDPRU 7.10.2 G

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.

Decision to conduct a SREP

MIFIDPRU 7.10.3 G
  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.

Information and factors considered by the FCA when conducting a SREP

MIFIDPRU 7.10.4 G

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.

MIFIDPRU 7.10.5 G

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.

Examples of actions that the FCA may take following a SREP

MIFIDPRU 7.10.6 G
  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.

MIFIDPRU 7.10.7 G

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.

General FCA approach to requiring a firm to hold additional own funds or liquid assets

MIFIDPRU 7.10.8 G
  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.

MIFIDPRU 7.10.9 G
  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.

MIFIDPRU 7.10.10 G

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.

MIFIDPRU 7.10.11 G

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.

MIFIDPRU 7.10.12 G

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.

MIFIDPRU 7.10.13 G

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.

MIFIDPRU 7.10.14 G
  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.

MIFIDPRU 7 Annex 1 Guidance on assessing potential harms that is potentially relevant to all firms

MIFIDPRU 7 Annex 1G

1Purpose

1.1

G

(1)

This annex contains guidance on how a MIFIDPRU investment firm can assess the potential harms arising from its business as part of the ICARA process.

(2)

This guidance is designed to be of relevance to all firms, but not every aspect of this guidance will be relevant to every firm. A firm should consider this guidance in light of its particular business model.

(3)

A firm’sICARA process must be proportionate to the nature, scale and complexity of its activities. This guidance should be interpreted by reference to what is proportionate and appropriate for a particular firm.

General approach to assessing material potential harms

1.2

G

(1)

For the purposes of its ICARA process, a firm should identify potential harms by considering plausible hypothetical scenarios that may occur in relation to the activities that the firm carries on. The firm should also consider the possibility that certain scenarios may occur at the same time or that there may be a correlation between connected scenarios.

(2)

A firm should generally estimate the nature and size of potential harms by using its own knowledge and experience.

(3)

Where appropriate, a firm may use peer analysis to estimate potential harms. In this case, the firm should take into account any material differences between the firm’s business and the business carried on by its peer, and to the extent that it is aware of them, any material differences in their respective systems and controls.

(4)

A firm may, but is not required to, use statistical models to identify potential harms, but where it does, the firm should consider the following factors:

(a)

the importance of ensuring that the statistical model is properly integrated into the firm’s wider approach to mitigating risk under the ICARA process and appropriately takes into account the guidance on assessing harm in MIFIDPRU 7;

(b)

the FCA’s expectation that relevant individuals within the firm who are responsible for the firm’s risk management function or for the oversight of that function should fully understand how the model operates, including any relevant assumptions or limitations and should be able to explain how this contributes to compliance with the overall financial adequacy rule;

(c)

the accuracy of the model depends on ensuring that the inputs into the model are appropriate and properly reflect the firm’s business;

(d)

the importance of periodically checking that the outputs of the model remain appropriate. This includes model validation; and

(e)

the fact that excessive reliance on the model may result in the firm failing to operate wider risk management systems and controls.

(5)

In some cases, it may be reasonable for a firm to take into account the impact of insurance when assessing potential harms and considering how the firm manages risks. However, firms should note that in many cases, insurance may not be an adequate substitute for financial resources that are required to address harm immediately. Firms should also consider the terms of any insurance, including any limitations or exclusions, when assessing the extent to which insurance may be an appropriate and effective risk mitigant.

Examples of situations that may result in material harm to clients

1.3

G

The following are non-exhaustive examples of risks to clients or to the market that may arise from a firm’s business:

(1)

breach of an investment mandate, resulting in clients being exposed to risks outside of their specified tolerance or to investments which are otherwise unsuitable for their objectives;

(2)

trading or dealing errors that result in losses to clients;

(3)

outages in, or other problems with, the firm’s systems that cause disruption to the continuity of the firm’s services (for example, by preventing the firm’sclients from being able to see the value of their investments or from being able to issue trading instructions), leading to financial losses for clients;

(4)

corporate finance advice which results in a legal claim against the firm;

(5)

losses to clients caused by the activities of the firm’stied agents or appointed representatives (including in respect of any business which is not MiFID business for which the firm may be liable as principal) for which the firm is responsible;

(6)

provision of unsuitable investment advice, for example in relation to pension transfers or investments, resulting in clients suffering losses;

(7)

failure to comply with any applicable provisions of CASS, resulting in potential losses to clients; and

(8)

the inability to return money received by the firm by way of title transfer collateral arrangement promptly to a client when required.

Examples of situations that may result in harm to the firm

1.4

G

(1)

Events that result in material harm to a firm may affect the viability of the firm’s business. In turn, that may affect the firm’s ability to meet its obligations to clients or to its other counterparties and may increase the risk of a disorderly wind-down.

(2)

The following are non-exhaustive examples of situations that may result in material harm to a firm:

(a)

claims on tied agents or appointed representatives that result in the firm being liable as principal;

(b)

the failure of significant clients or counterparties upon which the firm relies to generate a significant proportion of its revenue;

(c)

significant operational events, such as the failure of key systems or internal fraud; and

(d)

obligations of the firm relating to liabilities under a defined benefit pension scheme.

Assessing the harm that may result from insufficient liquidity

1.5

G

When assessing potential harms that may occur in connection with its business, a firm should consider any potential impact on its liquid assets. Where a firm has insufficient liquid assets to cover the relevant harm, it may find itself unable to pay its debts as they fall due. In turn, this could trigger an unexpected insolvent wind-down, which has the potential to cause harm to clients, counterparties and the wider markets.

1.6

G

(1)

The systems that the firm uses to identify and monitor liquidity risk should be tailored to its business lines, the currencies in which it operates and its structure (taking into account, for example, whether it operates branches or supports subsidiaries or other group entities). In addition, those systems should consider liquidity costs, benefits and risks, including intra-day liquidity risk.

(2)

The systems that a firm uses to identify and monitor liquidity risk should be proportionate to the complexity, size, structure and risk profile of the firm and the scope of its operations.

1.7

G

When a firm is assessing the quality and amount of liquid assets that it has available, the following is a non-exhaustive list of factors that may be relevant:

(1)

the extent to which assets held by the firm can be converted into cash within a reasonable time period;

(2)

any legal or operational restrictions that may apply to the firm or to particular assets, which may affect the firm’s ability to realise assets or to access cash in a timely manner;

(3)

the extent to which liquid assets may be held, or the proceeds of the firm’s assets may be received, in currencies other than the expected currency of the firm’s liabilities and the ease with which those currencies can be converted (including in stressed market conditions); and

(4)

any legal or practical restrictions on the transferability of funds between the firm and other members of its group, including in stressed market conditions.

1.8

G

When a firm is assessing the amount of liquid assets it may need to address potential harms, the following is a non-exhaustive list of factors that may be relevant:

(1)

any concentration of the firm’s funding arrangements, including in relation to:

(a)

counterparties (or groups of connected counterparties) providing funding;

(b)

products or facilities used to provide funding; and

(c)

currencies;

(2)

the extent to which the firm may be exposed to mismatches between the maturity of its assets and its liabilities;

(3)

whether stressed market conditions could lead to accelerated cash outflows from the firm or longer-term reductions in the availability of liquid assets;

(4)

whether intra-day obligations could affect the firm’s ability to meet its payment and settlement obligations in a timely manner (including potential margin calls in relation to the firm’s own positions, or positions of the firm’sclients in respect of which the firm has an obligation to meet the relevant margin call);

(5)

any requirements on the firm (whether or not they are legally binding) arising from any off-balance sheet arrangements, including:

(a)

commitments under any credit or liquidity facilities (including those which may be cancelled at any time) or guarantees;

(b)

obligations under any liquidity facilities supporting securitisation programmes; or

(c)

obligations in relation to client money;

(6)

payments that the firm may make to maintain its franchise, reputation or brand or to ensure the continued viability of its business, even though the firm may be under no legal obligation to make the payments; and

(7)

the possibility of other unexpected payment obligations, such as:

(a)

direct or indirect costs arising from litigation;

(b)

redress payments; or

(c)

fines or penalties.

1.9

G

(1)

When considering liquidity risk and potential harms, a firm should consider whether it has sufficient diversification in funding sources.

(2)

A firm should consider whether there may be a correlation between different market conditions and the firm’s ability to access funding from different sources.

(3)

When analysing what level of funding diversification is appropriate for its business, a firm should consider the following:

(a)

the maturity date of any funding arrangements;

(b)

the nature of the counterparty providing the funding;

(c)

whether the funding arrangement is secured or unsecured;

(d)

if the funding arrangement is in the form of a financial instrument, the relevant type of instrument;

(e)

the currency of the funding arrangement; and

(f)

the geographical market of the funding arrangement.

(4)

A firm should regularly assess whether its ability to raise short, medium and long-term liquidity is sufficient for its ongoing requirements.

1.10

G

(1)

A firm should consider whether it has appropriately addressed potential harms arising from liquidity risk in relation to the following aspects of the firm’s significant business activities:

(a)

product pricing;

(b)

performance measurement and incentives; and

(c)

the approval process for new products.

(2)

A firm should take into account the liquidity risk arising from any significant business activities and product lines, whether or not they are accounted for on the firm’s balance sheet.

(3)

A firm should clearly identify the liquidity costs and benefits attributable to particular significant business and product lines and relevant individuals within business line management for those areas should have an appropriate understanding of such costs and benefits.

(4)

A firm should address all significant business activities, including those that involve the creation of contingent exposures which may not have an immediate balance sheet impact.

(5)

Incorporating liquidity pricing into a firm’s processes may assist in aligning the risk-taking incentives of individual business lines within a firm with the liquidity risk and potential harms that may result from the activities of those business lines.

1.11

G

(1)

Firms should consider intra-day liquidity positions when considering the liquidity risk and potential harms that may result from their operations.

(2)

As part of their ICARA process, a firm should identify:

(a)

any significant time-critical payment or settlement obligations and any arrangements that are in place to prioritise the payments;

(b)

any significant payment or settlement obligations that the firm may have as a result of acting as a custodian or a settlement agent;

(c)

any potential net funding shortfalls that the firm may have at different points during the day;

(d)

potential significant disruptions to its intra-day liquidity flows and any arrangements in place to deal with these; and

(e)

any arrangements necessary to ensure the proper management of collateral.

1.12

G

When identifying liquidity risk and potential material harms that may result in relation to a firm’s use and management of collateral, the following considerations are relevant:

(1)

the firm’s ability to distinguish clearly at any time between encumbered assets and assets that are unencumbered and available to meet the firm’s liquidity needs, particularly in an emergency situation;

(2)

the jurisdiction in which the assets are based or registered and any legal or regulatory restrictions that may apply to the availability or use of the assets as a result;

(3)

any operational restrictions that may apply in relation to the assets;

(4)

the extent to which collateral deposited by the firm with a counterparty or third party may have been rehypothecated;

(5)

the extent to which the assets available to the firm to use as collateral are likely to be acceptable to the firm’s major counterparties and liquidity providers;

(6)

the impact of any existing financing or security arrangements entered into by the firm (which may contain financial covenants, warranties, events of default or negative pledge clauses) on the firm’s ability to provide collateral; and

(7)

the potential impact of severe but plausible stressed scenarios on the firm’s ability to provide collateral where necessary and on any collateral received by the firm.

1.13

G

A firm that has significant positions in foreign currencies should consider the liquidity risk and potential harms that may arise as a result of the positions.

1.14

G

As part of its assessment under MIFIDPRU 7.9.2R, a firm that forms part of a group should consider the extent to which membership of that group may have an impact on the firm’s own liquidity position.

In-depth stress testing and reverse stress testing

1.15

G

The guidance in MIFIDPRU 7 Annex 1.16G to MIFIDPRU 7 Annex 1.20G is relevant to firms with more complex businesses or operating models.

1.16

G

Stress testing carried out by a firm should involve the following:

(1)

identifying severe but plausible adverse scenarios which are relevant to the firm and the market in which it operates;

(2)

stating clear assumptions, when compared to the firm’s business-as-usual projections, which are consistent with the scenarios identified in (1);

(3)

considering the impact of the scenarios identified in (1) against the firm’s own risk appetite, by reference to:

(a)

individual business lines or portfolios; and

(b)

the overall position of the firm as a whole;

(4)

assessing the impact of the scenarios in (1) on the firm’s:

(a)

available own funds and liquid assets; and

(b)

own funds requirement and basic liquid assets requirement;

(5)

estimating the effects of scenarios identified in (1) on each of the following as they relate to the firm, both before and after taking into account any realistic management actions:

(a)

profits and losses;

(b)

cash flows;

(c)

the liquidity position; and

(d)

the overall financial position; and

(6)

the firm’sgoverning body regularly reviewing the scenarios identified in (1) to ensure that their nature and severity remain appropriate and relevant to the firm.

1.17

G

When considering the impact of the scenarios in MIFIDPRU 7 Annex 1.16G(1) on a firm’s available liquid assets, the FCA considers that the following factors are relevant:

(1)

correlations between funding markets;

(2)

the effectiveness of diversification across the firm’s chosen sources of funding;

(3)

any potential additional margin calls or collateral requirements;

(4)

contingent claims, including potential draws on committed lines extended to third parties or other entities within the firm’sgroup;

(5)

liquid assets absorbed by off-balance sheet vehicles and activities (including conduit financing);

(6)

the transferability of liquid assets;

(7)

access to central bank market operations and liquidity facilities;

(8)

estimates of future balance sheet growth;

(9)

the continued availability of market liquidity in a number of currently highly liquid markets;

(10)

the ability to access secured and unsecured funding;

(11)

currency convertibility; and

(12)

access to payment or settlement systems on which the firm relies.

1.18

G

Reverse stress testing carried out by a firm should involve the following:

(1)

identifying a range of adverse circumstances which would cause the firm’s business model to become unviable;

(2)

assessing the likelihood that the adverse circumstances in (1) will occur;

(3)

determining whether the risk of the firm’s business model becoming unviable is unacceptably high when compared with the firm’s risk appetite or tolerance; and

(4)

where the firm determines under (3) that the risk is unacceptably high, adopting effective arrangements, processes, systems or other measures to prevent or mitigate that risk. This may include making appropriate changes to the firm’s business model or operating model.

1.19

G

For the purposes of reverse stress testing, the following are non-exhaustive examples of when a firm’s business model may become unviable:

(1)

all or a substantial portion of the firm’s counterparties are unwilling to continue transacting with the firm or seeking to terminate their contracts with it. In some circumstances, the failure of a single major counterparty or client may cause a firm’s business to become unviable, particularly if this could result in wider market disruption;

(2)

another member of the firm’sgroup is unable or unwilling to provide the support which is necessary for the firm to continue its business (for example, by withdrawing access to shared services or funding arrangements);

(3)

the firm’s existing shareholders or owners are unwilling to provide new capital when required; or

(4)

a sustained and continued reliance on income or revenue generated from a peripheral activity (for example, interest income derived from client money).

1.20

G

The following table is a simple example of how a firm might analyse and record the outcome of stress testing using the guidance in MIFIDPRU 7 Annex 1.18G.

Example scenario

Likelihood

Mitigants

Failure of a significant counterparty leads to a liquidity shortfall that causes the firm to default on its own obligations

Medium – above firm’s risk appetite

Contingency funding plan

30% drop in revenue over a 6-month period leads to sustained losses and management actions have little impact

Low – in line with firm’s risk appetite

Management actions after a stress event fail to rebuild capital and the firm’sgroup and shareholders are unwilling to inject further capital

Low – in line with firm’s risk appetite

Large numbers of staff and outsourced providers are absent due to illness during a pandemic and the firm is not able to operate revenue-generating activities for a month

High – above firm’s risk appetite

Identify back up outsourcing providers and enable staff to work from home

Cyber-attack results in the firm being unable to access systems and provide services for 3 weeks. This results in loss of revenue, a liquidity shortfall and fines from regulators

Medium – above firm’s risk appetite

Improvements to cyber resilience

1.21

G

A firm’s business model may become unviable long before the firm’s financial resources have been exhausted. The FCA recognises that not every business failure is the result of a lack of financial resources and individual firms may vary in their assessment of when they would be unwilling or unable to continue carrying on their activities. Examples of where a firm’s business model may become unviable before its financial resources are exhausted include:

(1)

the firm has a sustained and continued reliance on income or revenue generated from a peripheral or ancillary activity, such as interest income derived from client money; or

(2)

the firm is reliant on title transfer collateral arrangements to meet its basic liquid assets requirement on a sustained basis.

MIFIDPRU 7 Annex 2 Additional guidance on assessing potential harms that is relevant for firms dealing on own account or firms with significant investments on their balance sheet

MIFIDPRU 7 Annex 2G G

Purpose

2.1

G

(1)

This annex contains guidance on how a MIFIDPRU investment firm should assess the potential harms arising from its business as part of its ICARA process. This guidance is primarily intended to be relevant to firms that deal on own account or hold significant investments on their balance sheets. It should be interpreted in light of the firm’s individual business model.

(2)

Firms are reminded that their ICARA process must be proportionate to the nature, scale and complexity of their activities. This guidance should be interpreted by reference to what is proportionate for a particular firm.

2.2

G

A firm that deals on own account or holds significant investments on its balance sheets may be at increased risk of events that result in significant losses or other harm to the firm. In turn, this may increase the risk of a firm defaulting on its obligations to counterparties or becoming insolvent and entering a disorderly wind-down.

Examples of situations that may result in material harm to the firm

2.3

G

The following are examples of situations that may result in harm to the firm:

(1)

material adverse changes in the book value of the firm’s assets;

(2)

the failure of the firm’sclients or counterparties; and

(3)

losses incurred or payments due in connection with positions taken by the firm in financial instruments, foreign currencies and commodities (irrespective of whether those positions form part of the firm’strading book or not).

2.4

G

When a firm is assessing potential harms connected with material changes in the book value of the firm’s assets, the following non-exhaustive list of factors may be relevant:

(1)

changes in the creditworthiness or the default of a client or counterparty, where that change or default may result in the firm realising assets below their book value or recording impairments, revaluations or write-downs;

(2)

changes in market conditions which may affect relevant prices, indices or rates, including changes in equity, debt or foreign exchange markets or interest rates;

(3)

operational events or natural disasters that may affect the value of the firm’s assets;

(4)

any concentration of the firm’s assets in relation to a specific:

(a)

client or counterparty (or group of connected clients or counterparties);

(b)

economic sector or sub-sector; or

(c)

geographical market.

This concentration assessment should not be limited to the particular risks covered by the requirements in MIFIDPRU 5, but should involve a broader assessment of the risks that may arise in relation to the concentration;

(5)

whether any of the firm’s assets are, or have a value which depends on, complex products, such as interests in securitisations or structured products which are complex or opaque;

(6)

the extent to which the firm has used leverage (including contingent leverage); and

(7)

whether the firm has any exposures under off-balance sheet items, such as commitments or guarantees.

2.5

G

When a firm is assessing potential harms arising from the failure of its clients or counterparties, the following non-exhaustive list of factors may be relevant:

(1)

changes in the creditworthiness or the default of a client or counterparty, which may result in direct losses for the firm or the need to revalue or replace transactions;

(2)

changes in market conditions which may result in the firm incurring greater costs to replace a transaction that the client or counterparty has failed to settle;

(3)

the risk that collateral received from the client or counterparty may not be as effective as expected at covering the losses arising from that client or counterparty’s failure or default; and

(4)

any concentration of the firm’s exposures in relation to the client or counterparty or the economic sector or geographical market in which that client or counterparty is active.

2.6

G

Where a firm is subject to the K-TCD requirement or the K-CON requirement, the FCA would generally expect the firm to consider whether those requirements are sufficient to cover the harms that may result from the failure of its clients or counterparties to fulfil their obligations. In some cases, those requirements may not apply in relation to the client, counterparty or position in question, or may not adequately address the relevant risks. Where this is the case, the firm should consider other measures to address the potential harm.

2.7

G

Where a firm is assessing potential harms arising from the firm’s positions in financial instruments, foreign currencies and commodities, the following non-exhaustive list of factors may be relevant:

(1)

the extent to which the relevant position may involve risks that are not adequately captured by the firm’sK-NPR requirement, K-CMG requirement or K-CON requirement, such as:

(a)

basis risk between certain products;

(b)

risks arising from approximate valuations applied to non-linear products;

(c)

the risk that large movements in pegged currencies may be underestimated; or

(d)

risks arising from inadequate proxy market data;

(2)

whether a position is illiquid or distressed, or whether it may become so under severe but plausible market conditions, and how this may affect the expected holding period for that position;

(3)

the extent to which it is possible to hedge a position under both normal, and severe but plausible, market conditions;

(4)

whether a position is difficult to value because of a lack of recent observable market data;

(5)

whether the intra-day exposure associated with a position differs significantly from the end-of-day exposure;

(6)

any known weaknesses in any model used by the firm to assess the risks arising from the position; and

(7)

the concentration of the portfolio in which the position is held, including by reference to:

(a)

issuers or counterparties;

(b)

economic sectors or sub-sectors; and

(c)

geographical markets.

MIFIDPRU 7 Annex 7 Map of rules and guidance relating to the ICARA process

MIFIDPRU 7 Annex 7R G

17.1

G

(1)

The table in this annex identifies the rules in MIFIDPRU 7 that impose obligations relating to the ICARA process and the guidance provisions corresponding to those rules.

(2)

MIFIDPRU investment firms may find this annex helpful when designing and reviewing their ICARA processes to ensure that all mandatory requirements have been met.

(3)

Firms should not use this table as a substitute for reading and applying the detailed rules and guidance in MIFIDPRU 7.

MIFIDPRU rule

Basic obligation

Associated guidance

Content of guidance

MIFIDPRU 7.4 : baseline ICARA obligations

MIFIDPRU 7.4.7R

The overall financial adequacy rule

MIFIDPRU 7.4.8G

Explanation of the link between the overall financial adequacy rule and the ICARA process

MIFIDPRU 7.4.9R

The requirement to operate an ICARA process to identify, monitor and, if proportionate, reduce all material potential harms relevant to the firm

MIFIDPRU 7.4.16G

Guidance on how firms should seek to mitigate the risk of potential harms

MIFIDPRU 7.4.10R

The requirement for the ICARA process to be proportionate to the nature, scale and complexity of the firm’s business

MIFIDPRU 7.4.11R

The requirement for the ICARA process to be internally consistent

MIFIDPRU 7.4.12G

Explanation of the FCA’s expectations in relation to consistency and coherency of the ICARA process

MIFIDPRU 7.4.13R

The requirement to identify all material harms that may result from the firm’s business

MIFIDPRU 7.4.14G

Explanation of the basic factors that will be relevant when identifying potential harms

MIFIDPRU 7.4.15G

Cross-reference to additional guidance in MIFIDPRU 7 Annex 1R and MIFIDPRU 7 Annex 2R

MIFIDPRU 7 Annex 1G

Guidance on assessing potential harms that is potentially relevant to all firms

MIFIDPRU 7 Annex 2G

Additional guidance on assessing potential harms that is relevant for a firm that is dealing on own account or that has significant investments on its balance sheet

MIFIDPRU 7.5 : Capital and liquidity planning, stress testing, wind-down planning and recovery planning

MIFIDPRU 7.5.2R

Business model assessment and capital and liquidity planning requirements, including stress testing

MIFIDPRU 7.5.3G

Guidance referring to Finalised Guidance FG20/1

MIFIDPRU 7.5.4G

Guidance on stress testing obligations and reverse stress testing for firms with more complex businesses or operating models

MIFIDPRU 7 Annex 1.15G to 7 Annex 1.20G

Additional guidance on more in-depth stress testing and reverse stress testing

MIFIDPRU 7.5.5R

Recovery planning requirements

MIFIDPRU 7.5.6G

Guidance on issues that may be relevant when assessing potential recovery actions

MIFIDPRU 7.5.7R

Wind-down planning requirements

MIFIDPRU 7.5.8G

Guidance referring to the Wind-Down Planning Guide and Finalised Guidance FG20/1

MIFIDPRU 7.5.9R

Requirement to use wind-down analysis to assess levels of own funds and liquid assets required under overall financial adequacy rule

MIFIDPRU 7.5.10G

Explanation of the interaction between the overall financial adequacy rule and the wind-down triggers

MIFIDPRU 7.6 : Assessing and monitoring the adequacy of own funds

MIFIDPRU 7.6.2R

Requirement to produce a reasonable estimate of impact of potential harms on own funds

MIFIDPRU 7.6.4G

Guidance on how the assessment of potential harms interacts with the own funds threshold requirement and the overall financial adequacy rule and how the firm should conduct its assessment

MIFIDPRU 7.6.3R

Requirement to use assessment under MIFIDPRU 7.6.2R to assess if additional own funds required to meet overall financial adequacy rule

MIFIDPRU 7.6.6G

Guidance explaining the circumstances in which the guidance in MIFIDPRU 7.6.7G to MIFIDPRU 7.6.10G is relevant

MIFIDPRU 7.6.7G

Guidance on how a non-SNI MIFIDPRU investment firm should assess whether harms may be covered by its own funds requirement

MIFIDPRU 7.6.8G

Guidance on circumstances in which harms may not be covered by a non-SNI MIFIDPRU investment firm’sown funds requirement

MIFIDPRU 7.6.9G

Guidance on how an SNI MIFIDPRU investment should assess whether harms may be covered by its own funds requirement

MIFIDPRU 7.6.10G

Guidance on how a firm’s assessment of potential harms contributes to determining its own funds threshold requirement

MIFIDPRU 7.6.5R

Requirement to meet own funds threshold requirement with specified types of own funds

MIFIDPRU 7.6.11R

Notification requirements when a firm’sown funds reach certain levels

MIFIDPRU 7.6.12G

Guidance on the FCA’s ability to set an alternative early warning indicator

MIFIDPRU 7.6.13G

Guidance explaining how notifications under MIFIDPRU 7.6.11R interact with general notification obligations under Principle 11 or SUP 15.3

MIFIDPRU 7.6.14G and MIFIDPRU 7.6.15G

Explanation of FCA’s approach to intervention when firm’sown funds reach certain levels

MIFIDPRU 7.7 : Assessing and monitoring the adequacy of liquid assets

MIFIDPRU 7.7.2R

Requirement to produce reasonable estimate of liquid assets required by the firm

MIFIDPRU 7.7.3G

Guidance on the interaction between the overall financial adequacy rule and the liquid assets that a firm must hold

MIFIDPRU 7.7.4G

Guidance on how a firm should assess the liquid assets required for the ongoing operation of its business

MIFIDPRU 7.7.5G

Guidance on the basic liquid assets requirement and how to determine the firm’sliquid assets threshold requirement

MIFIDPRU 7.7.6R

Requirement to meet liquid assets threshold requirement with core liquid assets and non-core liquid assets

MIFIDPRU 7.7.7G

General principles applicable to non-core liquid assets

MIFIDPRU 7.7.8R

Basic definition of non-core liquid assets

MIFIDPRU 7.7.9G

Guidance on exclusions for non-core liquid assets

MIFIDPRU 7.7.10R

Requirement to apply appropriate haircut to non-core liquid assets

MIFIDPRU 7.7.11G and 7.7.12G

Guidance on minimum haircuts for non-core liquid assets

MIFIDPRU 7.7.13G

Guidance on approach to applying haircuts to shares or units in collective investment undertakings

MIFIDPRU 7.7.14R

Notification requirements when a firm’sliquid assets reach certain levels

MIFIDPRU 7.7.15G

Guidance explaining how notifications under MIFIDPRU 7.6.14R interact with general notification obligations under Principle 11 or SUP 15.3

MIFIDPRU 7.7.16G and 7.7.17G

Explanation of FCA’s approach to intervention when firm’sliquid assets reach certain levels

MIFIDPRU 7.8 : Reviewing and documenting the ICARA process

MIFIDPRU 7.8.2R

Requirement to review the ICARA process at least annually

MIFIDPRU 7.8.3G

Guidance on reviewing the ICARA process following a material change in the firm’s business

MIFIDPRU 7.8.4R

Requirement for firm to notify the FCA of the submission date of the firm’s MIF007 (ICARA assessment questionnaire) return

MIFIDPRU 7.8.5G

Guidance on interaction between the firm’sICARA review and its submission date for its MIF007 return

MIFIDPRU 7.8.6R

Requirement to submit MIF007 return following review of ICARA process due to a material change in the firm’s business

MIFIDPRU 7.8.7R

Requirement to document review of the ICARA process and minimum contents of review document

MIFIDPRU 7.8.8R

Requirement for firm’sgoverning body to review and approve the ICARA document

MIFIDPRU 7.8.9G

Guidance on the interaction between the obligations in COCON and the ICARA process

MIFIDPRU 7.8.10R

Record keeping requirements in relation to the ICARA process

MIFIDPRU 7.9 : Firms forming part of a group

MIFIDPRU 7.9.2R

Requirement for any firm that forms part of a group to assess risks arising from that group or its other members

MIFIDPRU 7.9.3G

Guidance on the entities included within a firm’s assessment of group risk

MIFIDPRU 7.9.5R

Ability of investment firm group to operate the ICARA process on a group-level basis

MIFIDPRU 7.9.4G

Guidance that an investment firm group is not required to operate an ICARA process on a consolidated basis

MIFIDPRU 7.9.6R

Disapplication of individual ICARA process requirement in relation to MIFIDPRU investment firm included in a group ICARA process

MIFIDPRU 7.9.7R

Circumstances in which a group ICARA process cannot be used

MIFIDPRU 7.9.9G

Guidance on when the FCA may prohibit the use of a group-level ICARA process in relation to one or more firms

MIFIDPRU 7.9.8R

Application of requirements in MIFIDPRU 7.4 to MIFIDPRU 7.8 to an investment firm group operating a group ICARA process

MIFIDPRU 7.9.10R

Ability to include multiple firms within one ICARA document

MIFIDPRU 7.9.11G

Guidance on when a single ICARA document can be used