Improving the Appointed Representatives regime through greater use of data

An AR carries on regulated activity under the responsibility of an authorised firm, known as 'the principal'. When a principal appoints an AR, it takes on responsibility for the regulated activities the AR carries on, in a written agreement between the AR and the principal. The principal is responsible for making sure the AR is fit and proper, complies with our rules and operates within the scope of their appointment.

Currently, there are around 2,900 principals with approximately 35,000 ARs. Around 14,000 are Introducer ARs (IARs). IARs are ARs who can only undertake limited activities (making introductions and distributing financial promotions) on behalf of the principal. 

Legislation specifies which regulated activities ARs can undertake. Most of these activities are advising on and arranging/making arrangements for different financial products and services. As shown in figure 2, the largest active AR populations are in the lending to consumers or consumer finance, general insurance and protection and consumer investments sectors. 

ARs are generally limited to engaging in regulated activities involving the distribution of, and advice on, financial services products.  They can’t generally carry on the regulated activities involved in delivering those products or services, for example, managing investments or effecting contracts of insurance. A principal may appoint ARs as part of its strategy for selling products to consumers.

While the AR regime has benefits, including encouraging effective competition and providing market access, there is evidence of harm, particularly because of poor principal oversight. Our supervisory case data in 2019/20 raised concerns about the level of harm created by ARs and prompted us to conduct a review of the regime.

We analysed supervisory cases, complaints, Financial Ombudsman Service complaints data and Financial Services Compensation Scheme claims data. Our analysis showed that principal firms saw a greater proportion of conduct issues for the revenue generated from regulated activities compared to other directly authorised firms. Our latest outcomes and metrics data[4] gives more detail.

The AR regime is written into primary legislation and was introduced in 1986. It was created to allow self-employed representatives to engage in regulated activities without having to be authorised. As shown in Figure 1, when insurance regulation came under our regulation in 2005, this instantly increased the number of principals and ARs and allowed small insurance brokers to connect consumers with insurance providers at the point of purchase. Over 3 months between January 2005 and April 2005, the number of principals almost doubled from 1,100 to around 2,100 and the number of ARs more than doubled from 13,500 to over 27,000.

Figure 2 shows how the areas where ARs operate have evolved, while reflecting fluctuations in the AR population ranging between 31,000 to 40,000 from 2007 to 2022. One reason was our taking over regulation of consumer credit from April 2014, resulting in new principals in consumer finance. GI&P was the largest sector in terms of the number of AR agreements until 2019. Comparatively, the number of ARs in consumer finance has grown significantly since 2014 and is currently the largest sector as of December 2022.

Firms have expanded the range of financial services they offer at the point of sale, including offering credit to consumers to enable them to borrow to pay for purchases and spread the cost of payment over time. We have seen considerable growth in the use of IARs in home improvement trades, where tradespeople give consumers details of where they can get finance to cover the upfront costs. We see some firms expanding quickly, adding significant numbers of ARs or IARs in a short space of time. In these circumstances, it is important that principal firms ensure they have sufficient resources and systems and controls to adequately monitor and oversee all their ARs. For instance, firms may factor in the challenges in overseeing ARs credit broking in customers’ homes (domestic premises suppliers) and whether they have adequate controls in place to manage these risks. Figure 3 shows how the number of ARs, particularly IARs, has grown in the credit broker and retail finance provider portfolios in consumer finance.

As well as both brokers and non-financial firms offering insurance and credit lines alongside non-financial purchases, financial services firms use the AR regime to distribute mortgages and investment products like ISAs or pensions. Brokers and financial advisers have joined together to form larger networks of ARs. This allows them to focus on broking or advising consumers, while the network handles the back-office functions such as IT services, administration and compliance. Figure 4 shows that Consumer Finance and Consumer Investments sectors are 2 of the 3 largest sectors by AR population. These sectors contain the mortgage brokers and advisers and intermediaries’ portfolios, where principals of many of the largest AR networks operate.

As in retail sectors, wholesale markets also use ARs to help distribute products and services. In wholesale markets, ARs are used to help distribute commercial financial services to professional clients of assets managers, alternatives and commercial finance firms. The activities of ARs in wholesale markets can be varied and the structure of groups can be complex.

In asset management and alternatives portfolios we have seen ARs seconded as investment advisers to funds managed by the principal or a connected firm.

This secondment model is used by firms in the wholesale and consumer investments sectors. The model involves individuals employed by ARs being seconded to the principal firm, therefore allowing those individuals to carry out regulated activities that the ARs themselves may not be allowed to undertake. For example, the model has led to the emergence of ARs marketing themselves as investment managers, wealth managers and stockbrokers, despite ARs expressly being forbidden from carrying out these activities under the FCA’s current rules.

Our review of principal firms in the investment management sector[5] highlighted that principal firms were not always identifying and managing inherent conflicts of interest. We saw evidence that some firms hadn’t put in place appropriate control and risk management frameworks, including people with sufficient expertise, to oversee the alternative investment funds (AIFs) and the activities of the seconded portfolio managers. We have concerns about this hosting model and will continue to assess the risks associated with it.

There were 4 skilled persons reviews on principal firms in the asset management and alternatives portfolios were ongoing across the year ending 31 March 2023. These reviews focus on testing governance and systems and controls, including recruiting and monitoring ARs.

Figure 5 shows 81% of principals have a relatively small network size, with 51% having 1 AR and 30% of principals having between 2 and 4 ARs. Larger AR networks are less common, with 15% of principals having between 5 and 50 ARs and only 4% of principals having over 50 ARs. These proportions of network size have remained relatively consistent despite fluctuations in the total AR population over time.

The new rules clarify and strengthen our expectations on principals’ oversight of ARs, including making sure they have adequate systems, controls and resources.

In October 2021, before the recent rule changes, we collected data from a large sample of principal firms representing all the main markets which use ARs.

Figure 6 shows most principals have established due diligence checks when recruiting new ARs, and are completing ongoing checks. They are completing these checks at a similar frequency to their peers. Most firms are conducting regular checks on suitability, reviewing financial position and criminal proceeding checks on a repeated basis. We expect all principals to provide high quality oversight and robust monitoring of their ARs to ensure good outcomes for consumers and markets. However, there were outliers that did not perform all the checks or only made them when taking on new ARs. From this peer analysis, we found both good and bad practice and we use such information on outliers to select firms for proactive supervision work.

Recruitment approach

Becoming an AR should not be seen as an easy route into the regulatory perimeter[6]. The principal is responsible for making sure the AR is fit and proper (SUP 12.4.2 R, SUP 12.4.2C G, SUP 12 Annex 2[7]),  complies with our rules and operates within the scope of their appointment.

Examples of checks we expect principals to carry out on appointment include appropriate checks on the ARs financial position and making sure they have the relevant experience, knowledge, and skills to carry out the activities for which they are being appointed. Principals should carry out appropriate checks to assess the AR’s professional reputation, such as criminal or civil proceeding checks including insolvency, bankruptcy or winding up orders. Checks on appointment are also required for IARs although the firm does not need to carry out the more extensive due diligence required for full ARs (SUP 12.4.6R, SUP 12.4.7G, SUP 12.4.8[10]).  We often see principals submitting the associated ‘Form A - Application to perform a controlled function’ application without making sure they declare their full regulatory history.

Although the data in figure 6 suggests most firms do some checks, we see frequent examples among the outlier firms with weak AR recruitment arrangements. This includes applications partially or inadequately completed, references not asked for or checked, overlooking a lack of experience or knowledge and not sufficiently considering or managing conflicts of interest and personal relationships leading to less rigorous due diligence. Where we have seen significant issues, principal firms have agreed to stop recruiting ARs until these issues are addressed.

Effective recruitment of ARs is the best tool principals have in preventing those who are unqualified or unsuitable access to consumers and their money. As well as being vital for consumer protection, this is crucial for the future of the principal firm and the integrity and competition in our markets.

We deal swiftly with clear and comprehensive applications and notifications which do not raise risk flags. Our authorisations’ operating service metrics[8] show the average time to determine an application to perform an AR controlled function is 25 days. But if the principal doesn’t provide enough information this often causes delays. Principals regularly fail to provide an explanation or rationale for appointing an individual after disclosing adverse information about the candidate’s fitness and propriety.

In this section we provide an overview of some areas that cause concern, what we are doing about them and what we expect firms to do about them. Since our new AR department started, our supervisory engagement has resulted in principals terminating their relationships with over 1300 ARs (figures from 1 July 2022 to 31 Aug 2023). Twelve firms have applied for the imposition of requirements (VREQs) to restrict how they carry out their business, and there have been many more informal interventions.

Introducer Appointed Representatives (IARs)

IARs have a limited scope, and to be proportionate, fewer regulatory requirements. As shown in Figure 7, the proportion of full ARs compared to IARs grew steadily from 88% to a high of 94% between 1986 and 2005. However, in 2005 when our predecessor, the FSA, took on insurance regulation, the growth in IARs vastly outpaced the growth in full ARs, so that by April 2005 full ARs made up 77% of all ARs.

By the start of 2008, full ARs made up just 66% and IARs made up 34% of all ARs. This split has stayed relatively stable for the past 15 years: 63% full ARs compared to 37% IARs in August 2023.

Our analysis has found that IARs are lower risk, provided they are strictly limited to their scope. It is therefore critical that principal firms ensure their IARs are sticking to their limited activities and should consider what checks might be appropriate. If an IAR is engaging in activities beyond the terms of the scope of their appointment, they may be committing an offence. If so, they may need to be full ARs, which requires the principal firm to carry out the relevant appointment checks and oversee their activities differently. A firm must notify us using a ‘Change AR form’ if it expands the scope of appointment of an IAR so that it becomes a full AR.  We have seen a number of cases where IARs have acted beyond their scope. For example, in one case, the IARs had non-compliant financial promotions and carried out unsolicited contact of consumers involving regulated activity outside the principal AR agreement.

Overseas ARs

Some principals have appointed a firm or person as an AR with a head office outside the UK. We refer to these as Overseas ARs (OARs). Our data shows that there are currently around 170 OARs. This accounts for less than 1% of all ARs. As mentioned in PS22/11[12], challenges involving OARs include difficulties in understanding and managing legal, accounting, and regulatory requirements for each jurisdiction. They also include potential complications in having effective communications with the OAR due to cultural and language differences and likely challenges in monitoring and effectively overseeing the OAR due to geographical distance. We are using profiling tools and outlier analysis to help us focus on the right firms for supervisory engagement and to learn more about the potential harms and benefits of this model. Our supervisory engagement has led to some principals choosing to terminate contracts with some or all their OARs.  

Professional Indemnity Insurance (PII) and capital adequacy

PII is an important liability insurance that covers firms when a third-party claims to have suffered a loss, usually due to professional negligence. Principal firms with ARs must hold compliant PII to cover the activities of their current and former ARs (including IARs) where required to do so by our rules.

Our 2021 data showed that most principal firms held adequate PII cover for all activities of their ARs where it is required. But we found that a minority of principals either held only partial cover or were relying on insurance taken out by the ARs themselves. Through our wider supervisory work, we saw some firms with incorrect policies that did not cover ARs and had significant exclusions that greatly limited cover. In these cases, we have taken action to address this and make sure appropriate cover is in place. We have also written to all principal firms to clarify that we expect them to hold PII for all their ARs, at an appropriate level of cover where required, and to hold adequate capital to cover the ARs’ activities. We are consulting on changes to clarify our PII requirements for principal firms in our September 2023 quarterly consultation paper[13].

To be able to oversee ARs effectively, principals need to consider their oversight arrangements carefully. Principals are required to have ‘adequate’ controls over the AR’s activities, and resources to monitor and enforce an AR’s compliance with the relevant requirements that apply to its regulated activities. That assessment must be reviewed at least every 12 months. What constitutes adequate controls will vary from firm to firm and will depend on factors such as the number of ARs a principal has and the business the ARs perform.

When we review principal firms, we look for reassurances that they oversee their ARs adequately. There have been examples where this is clearly not the case. We have seen principals with no clear process or structured plans for how they oversee their ARs or where monitoring activities are not carried out in sufficient depth, if at all. In these cases, we have required the firms to take a range of actions to address our concerns, for example implementing stronger systems and controls and stopping AR recruitment.  Other firms have been able to demonstrate that they have a structured, clear monitoring plan in place and are following it, and following through on areas of concern with ARs with enough appropriately experienced staff to carry out oversight.

Figure 8 shows over 70% of principals that reported to offer regulatory hosting services[14] have at least one full-time equivalent (FTE) employee performing direct oversight for every 5 ARs in their network. While this is representative of responses we received from regulatory hosts only, it provides an opportunity for all principals to compare themselves against peers. Again, there were some outliers that reported lower levels of principal oversight, and we have challenged these principal firms on whether they can effectively perform their oversight functions with limited resources.

Figure 9 shows that 88% of ARs are primarily appointed to distribute products and services and 7% of ARs are appointed for hosting/compliance services/incubation. A ‘regulatory host[18]’ is a principal firm that typically carries out little or no regulated activity in its own principal capacity. Instead, it oversees the use of its permissions by ARs. There may be additional risks where principal firms operate a regulatory host model. Our new data requirements mean we now know which firms operate this model and we have focused our supervisory attention here, with one regulatory host ceasing business, another agreeing to stop recruiting ARs, and others reviewing and amending their approaches to overseeing their ARs.

Figure 10 shows more than half of ARs make less than £100,000 annually from regulated financial services activities; many of these are small firms. Only a small number of ARs make more than £100m from regulated activities, including a few making more than £500m. Not all firms reporting small amounts of regulated activity are small however, with 7% of full ARs making substantial revenues from non-financial activities, including firms from many different industries, such as airlines, car manufacturers and major high street retailers. For most of these firms the financial services revenue is often only a small part of their overall business.

This data helps us to profile and identify principal and AR relationships of interest. For instance, as highlighted in CP21/34[15], where an AR or the group in which they operate is disproportionately large relative to the principal, we are concerned this could lead to harm. For example, where a principal becomes overly reliant on an AR to sustain its business, this might undermine the independence and effectiveness of its oversight. The relative size and complexity of larger ARs can also mean a principal does not have sufficient skills and resource to effectively oversee them. A principal may also not have the financial resources to deal with the failure of a significantly larger AR or pay appropriate redress to consumers. Firms may consider whether very large ARs with a lot of regulated revenue should continue to operate as ARs or whether it would be more appropriate for them to be directly authorised.

The new rules require principals to report revenue information for each AR to us on an annual basis. This gives principal firms a clear opportunity to track AR revenue as part of their ongoing consideration of the adequacy of their oversight arrangements.

AR revenue breakdown by primary activity & type of activity

The largest ARs by revenue from regulated activity are those with designated investment business as their primary activity, while revenue from ARs with primary credit related activities had over 93% of ARs generating less than £100,000 of regulated revenue.

Figure 11 shows that some principals reported that their ARs generate no revenue from regulated activity, indicating they may be dormant ARs. As per PS22/5[16], where an AR has not carried out regulated activity for some time, its principal should consider whether the AR relationship remains appropriate. If it appears the AR is carrying on no regulated activity, its principal should consider terminating the relationship if appropriate and submit the appropriate notification so we can reflect this change on the Financial Services Register. Our expectations apply equally to IARs.  This also reduces the risk of ARs taking advantage of the potential ‘halo effect’ of being listed on the Financial Services Register purely to promote risky unregulated activities.

In response to CP21/34, some firms told us their ARs will show no income from regulated activities but still need to be ARs, for example, ARs which are service companies or ARs in the funeral plans market, where, due to the commission ban, funeral directors sell funeral plans for free in order to secure future business (the delivery of funerals which is not a regulated activity).

Figure 12 shows that non-regulated financial revenues were generated by over 90% of ARs where home finance mediation was the primary activity and by over 70% of ARs where designated investment business was the primary activity. This reflects that not all financial services activities around advice and distribution are regulated. Non-regulated activities are responsible for revenue generation for most financial intermediaries, such as commercial buy-to-let mortgage broking.

For ARs whose primary activity is credit-related or insurance distribution, some are generating significant revenues that are completely unrelated to financial services. Figure 13 shows how large non-financial services firms in these sectors use the AR regime.

Looking across all revenue data, it shows large non-financial businesses use the AR regime to provide insurance and consumer credit, while predominantly large financial services ARs operate in mortgage and investment adviser markets. In figure 13, over 70% of ARs with credit and insurance as their primary activity generated revenue from non-financial sources. Less than 50% of ARs in home finance and less than 20% of ARs in designated investments categories did so. For example, well-known high-street retailers use the AR regime to offer credit and insurance products at the point of sale and car manufacturers and airlines use it to provide insurance.

Principal firms should make sure they are complying with our new rules and are ready for changes – see Policy Statement[16] for details.

Overview of new rules

• Enhanced oversight requirements: Apply enhanced oversight of ARs, including ensuring having adequate systems, controls, and resources.
   
• Annual self-assessment: Prepare a single document demonstrating compliance with obligations as a principal, identifying any risks and gaps. The firm’s governing body should review and sign off this document at least annually.
   
• Annual review of AR’s activities and business: Annually review information on the ARs’ activities and business, including the fitness and propriety of senior management, the ARs’ financial position and the adequacy of the principal’s controls and resources to effectively oversee the AR.
   
• Review oversight approach: Principals should review whether their oversight remains appropriate in certain situations, for example, the size or volume of the AR business involving regulated activity increases significantly in a short period of time.
   
• Notification of planned AR appointments: Notify us of an intended AR appointment 30 calendar days before it takes effect. Our new forms gather more detailed information.  
   
• Annual reporting: Provide complaints and revenue information for each AR to the FCA on an annual basis[18] and confirm AR details are correct as part of annual attestation. 

More information

See more information about the recent changes to the AR regime[19], including our Policy Statement[23] on our new rules and guidance and changes to using the Financial Services Register[19].

The changes to the AR regime go hand-in-hand with the Consumer Duty[20]. This came into force on 31 July 2023 for products and services that are open for sale or renewal. The rules supporting the AR regime and Consumer Duty reinforce each other in increasing protection for consumers dealing with ARs. We are taking this opportunity to remind principals and ARs of their responsibilities under the Consumer Duty and what it means for them.

The Consumer Duty Finalised Guidance[21] states principal firms are required to oversee the actions of their ARs, as set out in the Supervision manual (SUP) and should check they comply with the Duty when doing so. Principals should read our updated rules[22] and expectations and take necessary steps to comply with the changes.

When we assess whether a principal firm has complied with the Consumer Duty, we would also consider the actions of its ARs. Where an AR is acting under the authority of its principal and within scope of the AR agreement, we would treat failure to comply with the Duty as a breach of the Duty by the principal.

We will continue to use improved data to strengthen our scrutiny of authorisations and approvals and supervise high-risk principals more assertively. We will use our new authorisation forms, new regulatory returns and a dataset covering all ARs from our December 2022 information requirement, which asked principal firms for information about their ARs. We will also undertake deeper analysis of existing data. We will use all the tools at our disposal where we see harm emerging, for example attestations for senior figures, requirements on firms, skilled persons reviews and appropriate enforcement action.

Find out more about our approach

To see what we’ve done; please read our Annual Report[23]

• Our FCA & Practitioner Panel survey 2022/23 showed that 56% of principal firms surveyed think oversight of ARs by principal firms in their sector has improved.

Find out what we’re planning to do in the next year; see our Business Plan[4]

• As well as  continuing our data-led and assertive supervision of principal firms, in 2023/24 we are testing whether firms are properly embedding the new rules across the AR regime; and increasing and improving our engagement with firms and other stakeholders.

How we’re measuring our performance; view our Outcomes and metrics page[7]. We measure our success through metrics that indicate whether principals are overseeing ARs effectively.