Managers await impact of Brexit: AIFMD passporting rules and exit model negotiated by UK and EU will be vital

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Political fallout following the Brexit vote on 23 June was immediate – but the impact on the regulation of the UK’s financial services industry will not be clear for a considerable period.

One of the primary concerns for UK financial services firms will be their ability to continue to access the European Union (EU) market post-Brexit. The passporting benefits of both the Alternative Investment Fund Managers Directive (AIFMD) and Undertakings for Collective Investment in Transferable Securities (UCITS) could potentially be lost to UK managers and funds.

UCITS funds must be EU domiciled, so funds established as UCITS in the UK could lose their UCITS status along with the UCITS EU marketing passport. UK managers of UCITS funds could also be impacted as these funds can only be self-managed or managed by an EU management company. One solution could be for UK UCITS funds and/or management companies to move to an EU domicile.

With AIFMD there is a possibility of passporting by non-EU funds and non-EU managers, so-called ‘third country’ funds and managers. However, the extension of the AIFMD passport to third country funds and managers is dependent upon an equivalence assessment by the European Securities and Markets Authority (ESMA). On 19 July 2016, ESMA issued unqualified positive assessments of Guernsey, Japan, Jersey, Canada and Switzerland as third country candidates for the AIFMD passport extension, along with qualified positive assessments of Australia, Hong Kong, Singapore and the USA.

The UK could be similarly assessed in future but a key consideration would be the timing of implementation. ESMA has suggested that implementation could be delayed to allow for further assessments, which may open a window of opportunity for the UK to be granted equivalence ahead of the planned abolishment of national private placement regimes in 2018. Third countries will also need to consider the member state of reference requirements following Brexit.

Brexit will also impact the Markets in Financial Instruments Directive (MiFID) licencing passport, which allows for the cross-border provision of investment services from a firm licenced in one member state throughout the EU. As with AIFMD, third country access rules are being introduced under MiFID 2/Markets in Financial Instruments Regulation (MiFIR), which will come into effect in 2018. An equivalence assessment would be required if a UK MiFID firm’s clients were either ‘professional’ or ‘eligible’ counterparties. The granting of equivalence would allow for the cross-border provision of investment services to such clients. The exit model negotiated by the UK will come into play here because MiFID’s scope includes all European Economic Area (EEA) and EU Member States. Adoption by the UK of the Norwegian model of EEA membership could preclude the need for UK MiFID firms to pin their hopes on third country rules as a way of accessing the EU market.

Although the potential strategic and operational implications of Brexit for the financial services sector are significant, only once Article 50 has been invoked and negotiations between the EU and UK commenced will the full consequences of Brexit start to become apparent.