1. Investment firms play a key role in modern financial markets and in advising professional and retail clients. In particular they assist in matching investors and funds to be invested with investment opportunities and funding needs. The current market situation combines a structural low interest rate environment on the one hand and an expected surge of projects that need funding or equity. Such surge will not in the least be driven by ESG (environmental sustainability targets in particular) and by the efforts to re-open the economies in Western Europe.
2. In December 2019, the EU Parliament approved the new prudential framework for investment firms in the Investment Firm Directive (“IFD”) [1] and Investment Firm Regulation (“IFR”)[2] to be implemented in the European Union (“EU”) by 26 June 2021. This represents a significant reform in the EU regulatory framework and will have a material impact on most investment firms. In the Belgian regulatory landscape, investment firms are either stockbroking firms (sociétés de bourse / beursvennootschappen) or portfolio management companies(société de gestion de portefeuille et de conseil en investissement / vennootschappen voor vermogensbeheer en beleggingsadvies).
3. The IFD/IFR prudential framework introduces a more proportionate and fit-for purpose regime that redirects the rules away from the existing prudential requirements, which are largely calibrated to preserve the lending capacity of credit institutions through economic cycles and to protect depositors and taxpayers from possible failure. The new framework targets specific vulnerabilities and risks inherent to an investment firm business model and introduces a new, more realistic, categorisation for investment firms and a different level of regulatory requirements per category. The IFD/IFR framework is relevant for any firm undertaking MiFID investment activities[3].
The new classification
4. The new IFD/IFR framework introduces three categories into which investment firms throughout the EU will be classified. The extent to which the new rules will apply to a particular MiFID investment firm depends on each firm’s classification under the new framework. This classification takes into account investment firms’ size, activities and group structure.
First category: “Systemic and bank-like” investment firms
5. The first category set-up by the IFD/IFR framework is divided into three sub-classes:
- systemically important institutions whose total value of the consolidated assets is equal to or exceeds €30 bn and subject to the European Central Bank (“ECB”) supervision;
- MiFID licensed firms providing underwriting and dealing on own account services whose total value of the consolidated assets is between €15 bn and €30 bn. These firms will be subject to CRD/CRR but not to the direct supervision of the ECB under the Single Supervisory Mechanism; and
- MiFID firms providing underwriting and dealing on own account services whose total value of consolidated assets is between €5bn and €15bn, for which national competent authorities can impose the CRD/CRR rules, depending whether the firm’s activities pose a systemic risk or not.
6. For category 1 firms the Capital Requirements Directive[4] (“CRD”) and Capital Requirements Regulation[5] (“CRR”) prudential framework will continue to apply.
7. There are some additional paths for the CRD/CRR framework to apply to certain firms that do not fall within the first category and, in particular, to MiFID subsidiary-firms providing underwriting and dealing on own account services. Indeed, regardless of these firms’ sheet size, if they fall under specific types of group structures (such as a group containing an EU credit institution and subject to consolidated supervision under CRR), they have the possibility to opt for the CRD/CRR framework instead of the new IFD/IFR prudential framework.
Second and residual category
8. Investment firms that do not meet the criteria to be classified into category 1 or 3 will fall into a residual category. The IFD/IFR prudential requirements will fully apply to these category 2 firms.
Third category: “Small and non-interconnected” investment firms
9. Small and Non-interconnected Investment Firms (“SNIFs”) will be subject to the IFD/IFR prudential framework only to a limited and proportionate extent. A firm will be categorised as SNIF if none of the following thresholds are exceeded, on a stand-alone or consolidated basis:
(i) €1.2bn assets under management (including ongoing non-discretionary advisory arrangements),
(ii) €100m/day for cash trades or €1 bn/day for derivatives for client orders handled (or received and transmitted),
(iii) €30m annual gross turnover, and
(iv) €100m on- and off-balance sheet assets.
Key changes
10. The new framework aims at ensuring that investment firms are managed in an orderly way and in the best interests of their clients, taking into account the potential for investment firms and their clients to engage in excessive risk‐taking and the different degrees of risk assumed and posed by investment firms.
11. It also aims to avoid disproportionate administrative burden and to allow a balance between ensuring the safety and soundness of investment firms and avoiding excessive costs that might undermine the viability of their business activities.
12. The new rules will affect the following prudential obligations:
(i) base capital requirements and definition of regulatory capital;
(ii) revised own fund requirements;
(iii) recast liquidity requirements;
(iv) a new version of the Internal Capital Adequacy Assessment Process (ICAAP);
(v) revised rules on prudential consolidation;
(vi) mandatory set of rules on remuneration; and
(vii) enhanced regulatory reporting and public disclosure.
Conclusion
13. Category 1 investment firms will continue to be subject to the current regulatory framework (i.e. the CRD/CRR framework) and will thus not, or only slightly, be affected by the new IFD/IFR prudential framework.
14. Because the new prudential classification is not merely based on the scope of their permitted activities (as is the case to date), stockbroking firms and portfolio management companies might find themselves categorised – based on the new criterion – into either category 2 or 3 of the IFD/IFR prudential framework, regardless of their current categories under Belgian law.
15. The impact of being classified as a category 2 or, on the contrary, a category 3 firm, is not to be underestimated by Belgian investment firms. Having looked in more detail at the firms that are currently authorised in Belgium, our conclusion is that most of these investment firms will need to adjust to the new applicable requirements.
16. On 26 June 2021 the IFR will be directly applicable to all EU Member States, including Belgium, and the IFD will need to have been implemented into Belgian law. How and when will the Belgian legislator implement this new prudential regime? Some draft implementation provisions are included in a draft law that is mainly intended to implement the BRRD 2 and CRD V by making amendments in the Banking Law[6] (the “Draft Implementation Act”), which is being reviewed by the Council of State (Raad van State/Conseil d’Etat). In relation to the IFD/IFR, the Draft Implementation Act principally deals with outlining the rules for Category 1 investment firms.
17. For firms pertaining to categories 2 or 3, the new regulatory set up will be included in a separate law that still needs to be drafted. The latter piece of legislation will deal with the key remaining question: how will the portfolio management companies law[7] be recast taking into account that currently stockbroking firms are subject to the prudential supervision of the National Bank of Belgium and portfolio management companies are subject to the supervision of the FSMA? Could this EU reform affect or upset the current Belgian twin peaks regime, which has now been in place for exactly a decade (since 1April 2011)? Could this also lead to an increase in M&A activity on the (Belgian and/or EU) investment firms’ market?
18. Timely and smooth implementation of the changes brought by the IFD/IFR framework will be key to avoid adverse consequences on the core operations of investment firms in today’s more turbulent markets. If properly and timely implemented, the new IFD/IFR prudential framework could to the contrary put firms in a better (regulatory) shape to maximise their role in the much-needed economic recovery.
Ivan Peeters, Charles-Henri Bernard and Leopoldo Luyten de Alvear
Lawyers PwC Legal
[1] Directive (EU) 2019/2034 of the European Parliament and of the Council of 27 November 2019 on the prudential supervision of investment firms.
[2] Regulation (EU) 2019/2033 of the European Parliament and of the Council of 27 November 2019 on the prudential requirements of investment firms.
[3] See Annex 1, Section D of Directive 2014/65/EU of the European Parliament and of the Council of 15 May 2014 on markets in financial instruments.
[4] Directive 2013/36/EU of the European Parliament and of the Council of 26 June 2013 on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms.
[5] Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and investment firms.
[6] Law of April 25, 2014 on the status and supervision of credit institutions and listed companies.
[7] Law of 25 October 2016 on access to the activity of investment services and on the legal status and supervision of portfolio management and investment advice companies.
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