The PRA introduces its new Fundamental Rules


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Summary: On 19 June 2014, the Prudential Regulation Authority (PRA) set out its new high level Fundamental Rules. Previously, the PRA applied four of the Principles for Businesses which continue to be applied by the Financial Conduct Authority (FCA). Dual-regulated firms must now have regard to 8 rules, as well as the 11 FCA principles.

On 19 June 2014, the Prudential Regulation Authority (PRA) issued policy statement PS5/14 which, amongst other things, sets out its new high level Fundamental Rules. Previously, the PRA applied four of the Principles for Businesses (the “Principles”) which continue to be applied by the Financial Conduct Authority (FCA).

The policy statement and implementation of the Fundamental Rules follows the PRA’s January 2014 consultation (CP2/14). The Rules came into force with remarkably little publicity on 19 June 2014 and differ in certain respects from the draft consulted on in CP2/14.

The Fundamental Rules are high-level rules, which apply proportionately to firms, based on a firm’s size and sector, and which collectively set out the PRA’s expectations of firms.

The PRA also published new approach documents in relation to banking and insurance supervision which, along with the Fundamental Rules and the statutory Threshold Conditions, are core to the PRA’s supervisory approach and underpin the PRA Rulebook.

The Fundamental Rules only apply to dual-regulated firms and the Principles will still apply under the FCA’s supervision. There are subtle differences between the Principles and the Fundamental Rules which dual-regulated firms will need to keep in mind when considering how they comply with their conduct and prudential requirements. These differences are described in further detail below. The PRA has stated in the policy statement that the separate statutory objectives of the FCA and the PRA necessitate some differences in policies and rules in order to advance the respective mandates of each regulator.

The version of the Fundamental Rules consulted on has been amended to ensure that these rules meet the PRA’s intended purpose, and minimise any divergence in wording from the Principles where it is possible to do so, while preserving the overall goal of better alignment with the PRA’s objectives.

The Rules

Whereas the PRA applied only four of the Principles, dual-regulated firms must now have regard to eight Rules (as well as the 11 FCA Principles):

  1. A firm must conduct its business with integrity.
  2. A firm must conduct its business with due skill, care and diligence.
  3. A firm must act in a prudent manner.
  4. A firm must at all times maintain adequate financial resources.
  5. A firm must have effective risk strategies and risk management systems.
  6. A firm must organise and control its affairs responsibly and effectively.
  7. A firm must deal with its regulators in an open and cooperative way and must disclose to the PRA appropriately anything relating to the firm of which the PRA would reasonably expect notice.
  8. A firm must prepare for resolution so, if the need arises, it can be resolved in an orderly manner with a minimum disruption of critical services.

Amendments to the Fundamental Rules following consultation

The PRA has amended Rules 1 and 2 so they are the same as FCA’s Principles 1 and 2 respectively.

Rules 3, 4, 6 and 8 have not been amended following the consultation.

Rule 3 is a new rule which is designed to reflect the Threshold Conditions and PRA approach documents. The PRA already expects firms to act in a prudent manner. Firms are directed to look at the approach documents for guidance on this rule as the PRA does not intend to issue additional guidance or qualification of the meaning of “prudent”. The PRA rejected views expressed by some consultees that this rule should be qualified by a “reasonableness” test.

Rule 4 is based on the FCA’s Principle 4 but with the inclusion of the words “at all times” to bring it in line with CRD IV and Solvency II requirements. According to the PRA, this does not impose any additional requirement beyond that which already exists on firms.

Rule 5 and Rule 6 are based on the FCA’s Principle 3 but with the introduction of specific reference to firms’ “risk strategies” as well as risk management systems.

Rule 6 aligns with existing detailed rules and is unchanged following consultation. Feedback noted that “must” imposes a significantly higher standard than the Principle 3 wording of “must take reasonable care”; however, the PRA interestingly states that there is “no change of expectation”.

Rules 5 and 7 have been revised following consultation. The inclusion of “sound” in Rule 5 has been removed, as the PRA considers this to be an unnecessary addition. Rule 7 omits the word “timely” as this is deemed to be an implicit requirement of firm’s dealings with regulators.

Rule 7 is almost identical to Principle 11.

Rule 8 is a new rule which will have more of an impact on insurers, as “the resolution regime is less advanced than that for deposit-takers.” The PRA’s approach document for insurers sets out the PRA’s expectation of insurers with regard to resolution.

The draft Rule 9 which provided that “a firm must not knowingly or recklessly give the PRA information that is false or misleading in a material particular” has been deleted entirely, as the PRA believes this requirement is adequately covered by FSMA and other Fundamental Rules.

How this affects you

The PRA has highlighted that it expects boards and senior management to understand the Fundamental Rules, and the more detailed underlying rules in the PRA Rulebook, and establish within their firms a culture that supports adherence to both the spirit and letter of these requirements.

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