The Financial Services and Markets Bill, which had its second reading in the House of Lords on 8 June, has been subject to significant scrutiny by the legal profession. This relates directly to the government’s proposal to transfer AML regulation from the Solicitors Regulation Authority to the Financial Conduct Authority. The Law Society has rightly made its concerns known, including through a parliamentary briefing. This raises important considerations concerning privilege, regulatory overlap and the potential for the suspicious activity reports (SARs) regime to be undermined.
Fit and proper test
One area where the argument for change has not been satisfactorily made is fit and proper requirements. These tests seek to ensure that individuals running, owning or managing high-risk regulated businesses do not pose a risk of facilitating money laundering or terrorist financing.
Under regulation 26 of the Money Laundering Regulations 2017 (MLRs 2017), no person may be the beneficial owner, officer or manager (BOOM) of a law firm or a sole practitioner unless that person has been approved by their supervisory authority. The government confirms this ‘approvals’ test is in place ‘to prevent bad actors or convicted criminals in relevant areas from operating in key roles’.
Currently, under regulation 58 of the MLRs 2017, supervisory authorities must refuse to register an applicant for registration as a money service business (MSB) or as a trust or company service provider (TCSP), if satisfied that the applicant, an officer or manager or a beneficial owner of the applicant is not a fit and proper person to carry on that business.
This regulation 58 (‘fit and proper’) test currently covers those exercising significant control in TCSPs, MSBs and crypto-asset businesses regulated and supervised by the FCA. However, regulation 58 does not apply to law firms regulated by the SRA.
Proposed changes
The government is now considering amendments to regulation 58, apparently to better align its provisions with those currently set out in regulation 26.
At present, a business applying to operate in a sector listed in regulation 58 cannot undertake relevant activity until its application – including completion of the ‘fit and proper’ test for both the business and the BOOMs – is determined, and the business is included in the register.
The government considers there to be a gap where a new BOOM in a registered business or a BOOM whose circumstances change is not subject to the same requirements as a new business. In particular, the government appears concerned that regulation 58 allows new BOOMs to operate in their roles before they are determined to be fit and proper. This is not the case for the approvals test under regulation 26.
The proposed changes are:
- Providing that new BOOMs cannot act in their role until they have passed the ‘fit and proper’ check, bringing regulation 58 in line with the requirements under regulation 26.
- Adding a requirement to regulation 58 for BOOMs to inform the supervisory authority if they are arrested, charged or convicted of a relevant offence.
- Making it a criminal offence for someone to act as a BOOM without having passed the ‘fit and proper’ test under regulation 58.
- Enabling the FCA to apply to the court for an order requiring the sale of a beneficial owner’s interest in a business, where that individual has been convicted of a relevant offence. This power currently exists under regulation 26 for certain sectors, and the government proposes aligning regulation 58 with regulation 26 in this regard.
Impact
At first glance, these changes might appear sensible and not cause the legal profession undue concern. The courts have already stipulated that the standard of honesty required for solicitors is that they may be ‘trusted to the ends of the earth’ and this underpins SRA regulation.
However, the proposed changes to regulation 58 have the potential to significantly alter the nature of the supervision and regulation of solicitors.
The requirement under regulation 58 places significant powers in the hands of the FCA, as gatekeeper, potentially preventing an applicant firm undertaking relevant activity until its application – including completion of the ‘fit and proper’ test for both the business and the BOOMs – is determined, and the business is included in the register.
As HM Treasury has also highlighted: ‘Supervisors deliver their gatekeeping function in different ways… the FCA operates a broader Senior Managers and Certification Regime through which it supervises financial firms under the Financial Services and Markets Act (FSMA).’
Compliance officers, money laundering reporting officers and money laundering compliance officers within law firms, particularly smaller firms with limited resources, already face a significant regulatory burden. Responsible law firms will necessarily need to understand the FCA’s specific approach to money laundering supervision. This will undoubtedly mean additional direct and indirect costs for law firms – for example, in training (whether provided by external providers or internally), management time, and ongoing support for compliance officers, which may again be through external providers.
Conclusion
The government has said both that it deems law firms to be a high-risk area and that it will develop ‘further detail on the operation of these arrangements’ by working with stakeholders.
It remains to be seen the extent to which the genuine concerns of the profession and the Law Society are taken into account in this area.
Charles Herbert is a partner at Spencer West, London
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