The UK exit from the EU would likely to have a significant impact on the financial services sector in the UK. The nature and extent of that impact would be heavily dependent on the model of EU-UK co-operation adopted as an alternative to EU membership and the nature of the UK's access to EU markets after the UK's exit.
Currently, a UK authorised firm has the right to carry on business in another EEA state, with or without a branch, provided the requirements of the single market directive under which the activities will be carried out are met. This important "passporting" right allows UK authorised firms, including banks, investment firms, asset managers, insurers, insurance intermediaries, payment services providers and E-money firms, free access to EU markets.
Depending on the nature of the exit, leaving the EU could mean either restricted EU market access for the UK, with "third country" status following an exit, or continued access to EU markets but without the ability to vote on financial services legislation e.g. as an EEA/EFTA member.
What "third country" status means in practice will need to be considered on a legislation-by-legislation basis. As an example, looking forward, the Markets in Financial Instruments Directive II (MiFID II) allows EU Member States the option to require third country firms to establish a branch in that State before being permitted to provide services to retail clients and certain professional clients. This means that UK firms wishing to provide services to these clients across the EU may be required to set up branches in different Member States before being able to do so. Access to EU eligible counterparties and certain professional clients will be possible under MiFID II without establishing a branch, but will be subject to the delay and uncertainty involved in seeking an EU Commission decision on equivalence.
To maintain full access to EU markets, some firms would need to set up subsidiaries in the EU – subsidiaries will have the EU passport but being a subsidiary comes with costly capital implications. For other firms, it could be necessary to move parts of the firms' operations out of the UK into the EU. EEA firms currently passported into the UK or which would like to gain access to the UK market after the UK's exit from the EU would face similar uncertainties.
Almost the entirety of UK financial services legislation over the past ten years has EU legislation as its source. The move towards the European Single Rulebook has also meant that many EU rules are now directly applicable in the UK.
While it is not difficult to imagine the swift repeal of particular UK "bugbears", such as the bonus cap imposed by the Capital Requirements Directive IV (CRD IV), and various other tweaks to rules and legislation, it seems unlikely, although not impossible, that a UK exit would trigger a mass overhaul or repeal of EU-based financial services legislation, especially in cases where implementation is recent (e.g. MiFID II – January 2017) and involved costly systems and operational changes.
The PRA and FCA handbooks would need to be amended to take into account UK's exit.
Directly applicable EU financial services regulations: If the UK were to leave the EU, then unless alternative provisions were made, EU financial services regulations which were directly applicable would no longer have effect. UK implementation of the Market Abuse Regulation (coming into operation in June 2016), for example, requires changes to the current legislation, which would need to be reversed or maintained on a UK exit. The UK would need to consider the extent to which such EU measures should be replicated following UK's exit. Factors to consider will include whether or not the measures are necessary for the financial stability of firms and the UK financial system, or are necessary to ensure UK's competitiveness or to meet an International commitment (e.g. CRD IV partly implements Basel III; the European Market Infrastructure Regulation (EMIR) is Europe's response to the G20 commitment to have standardized OTC (over-the-counter) derivatives cleared through a central counterparty). The UK is independently committed to these measures.
If UK regulatory policy began to diverge significantly from the EU approach, this would create additional burdens for firms with cross-border interests who would need to comply with yet another set of regulatory requirements.
The contents of this publication, current at the date of publication set out above, are for reference purposes only. They do not constitute legal advice and should not be relied upon as such. Specific legal advice about your specific circumstances should always be sought separately before taking any action based on this publication.
© Herbert Smith Freehills LLP 2015
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