Published: 23rd June 2016

The run up to the Brexit vote seems to be heavy on aspirations but light on detail – what might be the implications for the financial services sector.

In terms of breaking away from the EU the, admittedly high-level, process can be found in the Treaty on European Union (TEU), which together with the Treaty on the Functioning of the European Union (TFEU), was the legislation upon which the EU was founded.

The right of the UK, or indeed of any Member State, to cease to be a Member State of the EU is enshrined in Article 50 of the TEU – see link (the link provided is a consolidated version, the relevant article can be found on page 59).

Withdrawal will require the UK to notify the European Council which in turn will lead to negotiations with the Union to conclude an agreement setting out arrangements for the withdrawal, including a framework for the UK’s future relationship with the Union. Unlike firms grappling with the detail of MiFID, EMIR etc. the UK will not have the comfort ESMA Q&As or Technical Standards to fall back upon to help it ‘conclude an agreement’ – it will be down to hard negotiation on both sides.

Once (or if) a withdrawal agreement is concluded and has entered into force then the ‘Treaties’ (being the TEU and the TFEU) cease to apply. Failing that, the Treaties will cease to apply two years after the notification above – unless the European Council, in agreement with the UK, unanimously decides to extend this period.

Although perhaps not of relevance to the UK case, should a departed Member State change its mind it is entitled to ask to rejoin (Article 50(5)).

The message here is that, like it or loathe it, the UK is still be part of the EU – and, in the absence of a withdrawal agreement, is likely to remain so for at least two years. During this period EU Regulations and Directives will still apply on a ‘business as usual’ basis.

The ‘withdrawal agreement’ is, of course, the most important part of the process, during which the possibility of the UK either going it alone or applying to become a member of the European Economic Area – or perhaps some hybrid – will no doubt be thrashed out. Having said that, like the Government and the EU, no one actually knows what is going to happen so the following is food for thought.

Setting aside requirements based upon the likes of EMIR etc., arguably the foundation stones of the investment world are MiFID, UCITS and AIFMD.

The AIFMD is the most recent of these foundation stones (in our view UCITS V is simply UCITS IV with ‘add-ons’) so we will turn our attention to this.

Being a Directive it was the responsibility of each Member State to transpose the requirements into national law. Although not the only piece of relevant legislation, in the case of the UK we have ‘The Alternative Investment Fund Managers Regulations 2013’ (SI 2013/1773). Like many a Directive, the AIFMD did not come alone and is supported by a Delegated Regulation which adds flesh to areas such as operating conditions, leverage etc. Unlike a Directive, a Regulation does not need to be transposed into national law and instead is binding in its entirety and directly applicable in all Member States.

If the UK was suddenly, somehow, no longer a Member State then we would be in the odd situation that the Regulation would no longer be binding on the UK – but the Directive would because it has been transposed into national law. The FCA Handbook would also need to address the situation. Whilst this may, hopefully, be an unlikely scenario it does provide a simple example of the need for careful planning by relevant parties and to consider the impact upon existing, and the need for new, UK legislation in the light of a withdrawal from the EU.

Although careful planning by the authorities will be essential, no amount of planning can overcome the basic fact that if the UK frees itself from the burden of Directives and Regulations it will also lose the benefits arising from them.

Passporting is a valuable benefit under the AIFMD, both in terms of the right to manage AIFs established in other Member States, whether directly or via a branch, and the right to market AIFs. As a UK AIFM would be transformed into a ‘non-EU AIFM’ the passporting rights would no longer be available. Whilst the AIFMD allows for the extension of the passport regime to non-EU AIFMs in due course, and it is assumed that the UK would be assessed in a favourable light for such an extension, the great unknown would be in the period between the UK no longer being able to benefit under the AIFMD as a ‘EU AIFM’ and the, eventual, extension of the passport to the UK as a ‘non-EU AIFM’. This uncertainty would apply to both UK firms that were hoping to obtain a passport for the first time and UK firms that are already operating under a passport. Although we are looking at the AIFMD, it is not unknown for AIFMs to delegate portfolio management to MiFID firms who of course would also face similar problems on the availability of passports under the MiFID regime.

On a positive note, some of these issues, if not all of them, could well be addressed during the ‘withdrawal agreement’ process, although this would presumably depend upon the tenacity of the UK representatives involved.

On the matter of MiFID, the application of MiFID II (and MiFIR), as we know, has been delayed until 3 January 2018. Now this time frame throws up an interesting, but hopefully hypothetical, scenario especially if the UK provides the European Council with its notification to leave the EU sooner rather than later. As mentioned above, based upon Article 50 of the TEU the UK could cease to be a Member of the EU two years from now, if not earlier. UK firms subject to MiFID II may therefore be in the unfortunate position of having to comply with MiFID II on 3 January 2018, only to find that it ceases to be relevant to them later in 2018 when the ‘two year’ period has expired. Of course, what that would mean in terms of UK legislation that transposed and adopted MiFID II is another question.

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