Don't let the new capital adequacy rules catch you out
By Martin Greenwood | 10 July 2017
SUMMARY: Tenet Chief Executive, Martin Greenwood, warns directly authorised advice firms to take a second look at the new capital adequacy requirements, amid concerns many may have been misled by the £20,000 headline figure.
Following significant changes to capital adequacy rules, it is vitally important that all our directly authorised (DA) clients are fully aware of the implications of the latest increase, the criteria that surround the new figure and the options available to them if they are unable to reach or maintain that capital.
After a transitional period, from 30 June 2017 onwards firms now need to hold the greater of £20,000 or five per cent of their investment business income, which could create some challenges for smaller DA firms.
That is a substantial amount in its own right, but directly-authorised firms need to be aware of the following additional criteria surrounding the figure:
- It must be made up of the 'right type' of allowable assets, eliminating most non-liquid assets such as the firm's business premises or intangible assets such as goodwill.
- It must be readily realisable, meaning it can be turned into cash within 90 days.
- £20,000 is the minimum which must be maintained at all times, not just the date when firms draw up their balance sheet for regulatory reporting.
We are supporting directly authorised firms to ensure they know the facts and are able to weigh up their options in the wake of the increase.
Not all assets contained within a firm's balance sheet will be allowable under the regulatory definition. Moreover, if a firm's PI policy includes high excesses and exclusions, their capital adequacy requirement may well have to increase. This is an area that firms need to manage very closely and they should not be misled by the £20,000 headline figure.
If a firm is unable to raise or maintain the required capital, they need to consult with their accountant, PI insurer and support service provider to review their options. This is particularly pertinent in light of the FCA's last suitability review and the speculation about a possible increased focus on smaller DA firms.
There are a number of potential solutions including taking out a subordinated loan, sacrificing their own income from the business in order to increase retained profits or cancelling their permissions and becoming an appointed representative of a network. However, these all need to be discussed in conjunction with other parties.
Before the FCA took action, the capital adequacy requirement was £10,000 for firms with 25 advisers or less and the greater of £10,000 or an expenditure-based requirement for those with more than 25 advisers.
For the past year the FCA has been implementing a transitional requirement of £15,000 but from the end of June it increased again to £20,000 or five per cent of income.
By Martin Greenwood, Group CEO