2Other firms should take account of the outsourcing rule (SYSC 8.1.1 R) as if it were guidance (and as if should appeared in that rule instead of must) as explained in SYSC 1 Annex 1.3.3 G.

The application of SYSC 8.1 to relevant services and activities (see SYSC 8.1.1 R (1)) is limited by SYSC 1 Annex 1 (Part 2)2 (Application of the common platform requirements).

SYSC 4.1.1 R requires a firm to have effective processes to identify, manage, monitor and report risks and internal control mechanisms. Except in relation to those functions described in SYSC 8.1.5 R, where a firm relies on a third party for the performance of operational functions which are not critical or important for the performance of relevant services and activities (see SYSC 8.1.1 R (1)) on a continuous and satisfactory basis, it should take into account, in a manner that is proportionate given the nature, scale and complexity of the outsourcing, the rules in this section in complying with that requirement.

2Other firms should take account of the critical functions rules (SYSC 8.1.4 R and SYSC 8.1.5 R) as if they were guidance (and as if should appeared in those rules instead of must) as explained in SYSC 1 Annex 1.3.3 G.

2Other firms should take account of the outsourcing of important operational functions rules (SYSC 8.1.7 R to SYSC 8.1.11 R) as if they were guidance (and as if should appeared in those rules instead of must) as explained in SYSC 1 Annex 1.3.3 G.

As SUP 15.3.8 G explains, a firm should notify the FSA when it intends to rely on a third party for the performance of operational functions which are critical or important for the performance of relevant services and activities on a continuous and satisfactory basis.

[Note: recital

20 of

theMiFID implementing Directive]

The conditions do not apply if the outsourcing only concerns ancillary activities connected with portfolio management, for example IT processes or execution only activities.

If a firm has received no notice of objection or no request for further information from the FSA within one month of the FSA receiving the notification, it may outsource the portfolio management on the basis set out in the notification.

The FSA would use its powers under section 45 of the Act to vary a firm'spermission if it objected to such a notification.

A firm should only make an outsourcing proposal notification to the FSA after it has carried out due diligence on the service provider and has had regard to the guidance set out in SYSC 8.3. The FSA will expect a firm to only submit an outsourcing proposal notification in respect of a service provider that the firm has determined is suitable to carry on the outsourcing activity.

The guidance set out in SYSC 8.3 includes information on what the FSA will expect a firm to check before the submission of a notification.

A notification under this section should include:

1. (1)

   details on which of the conditions is not met;

2. (2)

   if applicable, details and evidence of the service provider's authorisation or regulation including the regulator's contact details;

3. (3)

   the firm's proposals for meeting its obligations under this chapter on an ongoing basis;

4. (4)

   why the firm wishes to outsource to the service provider;

5. (5)

   a draft of the outsourcing agreement between the service provider and the firm;

6. (6)

   the proposed start date of the outsourcing; and

7. (7)

   confirmation that the firm has had regard to the guidance in SYSC 8.3, or if it has not, why not.

Where the FSA has not objected to the outsourcing agreement, the firm should have regard to its obligations under SUP 15 which include making the FSA aware of any matters which could affect the firm's ability to provide adequate services to its customers or could result in serious detriment to its customers or where there has been material change in the information previously provided to the FSA in relation to the outsourcing.

1This guidance is relevant regardless of whether a firmoutsourcesportfolio management directly or indirectly via a third party. However, firms should note that they may notify a secondary or indirect outsourcing in the same notification as the direct outsourcing.

This guidance sets out examples of the type of actions that a firm proposing to outsource should have undertaken when assessing the suitability of the service provider and its ability to carry on the outsourced activity.

[Note: article 15(3) of the MiFID implementing Directive]

If a firm can demonstrate that it has taken the following guidance into account and has satisfactorily concluded that it would be able to continue to satisfy the common platform outsourcing rules and provide adequate protection for consumers despite not satisfying the conditions, the FSA would not be likely to object to that outsourcing.

If the outsourcing allows the service provider to sub-contract any of the services to be provided under the outsourcing, any such sub-contracting shall not affect the service provider's responsibilities under the outsourcing agreement.

The outsourcing agreement should entitle the firm to terminate the outsourcing if the service provider undergoes a change of control or becomes insolvent, goes into liquidation or receivership (or equivalent in its home state) or is in persistent material default under the agreement.

The following should be taken into account where the service provider is not authorised or registered in its home country and/or not subject to prudential supervision.

1. (1)

   The firm should examine, and be able to demonstrate, to what extent the service provider may be subject to any form of voluntary regulation, including self-regulation in its home state.

2. (2)

   The firm should be able to satisfy the FSA that the service provider is committed for the term of the outsourcing agreement to devoting sufficient, competent resources to providing the service.

3. (3)

   In addition to the requirement to ensure that a service provider discloses any developments that may have a material impact on its ability to 2carry out the outsourcing (SYSC 8.1.8 R (6)), where the conditions are not met the developments to be disclosed should include, but are not limited to:

   1. (a)

      any adverse effect that any laws or regulations introduced in the service provider's home country may have on its carrying on the outsourced activity; and

   2. (b)

      any changes to its capital reserve levels or its prudential risks.

4. (4)

   The firm should satisfy itself that the service provider is able to meet its liabilities as they fall due and that it has positive net assets.

5. (5)

   The firm should require that the service provider prepares annual reports and accounts which:

   1. (a)

      are in accordance with the service provider's national law which, in all material respects, is the same as or equivalent to the international accounting standards;

   2. (b)

      have been independently audited and reported on in accordance with the service provider's national law which is the same as or equivalent to international auditing standards.

6. (6)

   The firm should receive copies of each set of the audited annual report and accounts of the service provider. If the service provider expects or knows its auditor will qualify his report on the audited report and accounts, or add an explanatory paragraph, the service provider should be required to notify the firm without delay.

7. (7)

   The firm should satisfy itself, and be able to demonstrate, that it has in place appropriate procedures to ensure that it is fully aware of the service provider's controls for protecting confidential information.

8. (8)

   In addition to the requirement at SYSC 8.1.8 R (10) that the service provider must protect any confidential information relating to the firm or its clients, the outsourcing agreement should require the service provider to notify the firm immediately if there is a breach of confidentiality.

9. (9)

   The outsourcing agreement should be governed by the law and subject to the jurisdiction of an EEA state.

The following should be taken into account by a firm where there is no cooperation agreement between the FSA and the supervisory authority of the service provider or there is no supervisory authority of the service provider.

1. (1)

   The outsourcing agreement should ensure the firm can provide the FSA with any information relating to the outsourced activity the FSA may require in order to carry out effective supervision. The firm should therefore assess the extent to which the service provider's regulator and/or local laws and regulations may restrict access to information about the outsourced activity. Any such restriction should be described in the notification to be sent to the FSA.

2. (2)

   The outsourcing agreement should require the service provider to provide the firm's offices in the United Kingdom2 with all requested information required to meet the firm's regulatory obligations. The FSA should be given an enforceable right under the agreement to obtain such information from the firm and to require the service provider to provide the information directly.

   2