Changes to the UK Financial Promotion Rules – High Net Worth Individuals & Self-certified Sophisticated Investors

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Changes to the UK Financial Promotion Rules – High Net Worth Individuals & Self-certified Sophisticated Investors

Key Contacts: Christian Farrow

Author: Harriet Bland

The Government set out its proposals to amend the financial promotion exemptions for high net worth individuals and self-certified sophisticated investors in its consultation response published on 7 November 2023. Businesses seeking to rely on these exemptions should be aware of the changes, which are set to come into effect on 31 January 2024.

Background

A financial promotion is defined in section 21 of the Financial Services and Markets Act 2000 (FSMA) as an invitation or inducement to engage in investment activity, communicated in the course of business. Under the general restriction in section 21 of FSMA, only firms authorised by the Financial Conduct Authority (FCA) can issue or approve a financial promotion.

The communication of a financial promotion is, therefore, subject to strict regulatory safeguards, which are designed to ensure that activities in the financial sector are fair, clear and not misleading. The regulations intend to protect retail investors (everyday individuals who invest their personal money) and maintain integrity throughout the financial market, whilst also harbouring clarity.  

There are a number of exemptions from the financial promotion restriction contained in the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (FPO). The most commonly used exemptions relate to:

  • certified high net worth individuals (Article 48 of the FPO);
  • sophisticated investors (Article 50 of the FPO);and
  • self-certified sophisticated investors (Article 50A of the FPO).

(the Exemptions).

The Exemptions have played a pivotal part in enabling small and medium sized enterprises raise finance from high net worth individuals and sophisticated private investors, ‘angel’ investors, without being subject to the regulatory demands.

However, the Government has recognised that there have been fundamental economic, social and technological changes to the context in which the Exemptions operate, as well as raising concerns that some businesses are exploiting the Exemptions. This sparked the Government’s proposals for change, which are designed to address these concerns and enhance overall investor protection.

The changes to the Exemptions

(Certified) High net worth individuals (Article 48 of the FPO)

High net worth individuals are subject to revised criteria under the financial promotion rules. Currently, the financial thresholds to qualify as a high net worth individual are to have received income of £100,000 in the previous financial year, or to have £250,000 worth of net assets throughout the previous financial year.  Under the new thresholds, an individual must have income of at least £170,000 in the last financial year, or net assets of at least £430,000 throughout the last financial year.

Following the updates made to the FPO in 2005, it is no longer a requirement for investors to be certified by a third party to use this exemption. This description is now outdated and so the Government have decided to amend the title of the exemption to ‘high net worth individual’, omitting ‘certified’ from the title.

Self-certified sophisticated investors (Article 50A of the FPO)

One of the four criteria to be classified as a self-certified sophisticated investor is to have made more than one investment in an unlisted company in the previous two years. The Government has decided to remove this criteria, maintaining that it is no longer a sufficient indicator of investor sophistication. This follows from the fact that a rise of online investment means it is easier for individuals to invest in unlisted companies than when the exemption was introduced.

Another criteria to qualify as a self-certified sophisticated investor is that an individual has been a director of a company with an annual turnover of at least £1 million in the last two years. The Government proposes to increase the annual turnover to £1.6 million, with the justification being that the new threshold is a sufficiently high bar to demonstrate business success and sophistication, and that this will preclude directors with less experience from being able to rely on this exemption.

Other changes 

Requiring business to provide more details of themselves

The Government has also decided to implement a proposal requiring businesses to provide details about themselves in any communications made using the Exemptions. This aims to assist prospective investors in undertaking simple due diligence on the persons marketing the investments. The Government maintain that this requirement could also assist the FCA in investigating any non-compliance with the Exemptions. 

Updating investor statements

Investors are required to sign statements to be classified as high net worth or sophisticated investors. The Government proposes to update these statements to achieve greater engagement from investors and more understanding of the regulatory protections they are losing in receiving financial promotions under the Exemptions.

The regulatory gateway

As part of the Government’s wider initiative to strengthen the regulation of financial promotions, the Government propose to amend section 21 of FSMA.

As stated above, under the general restriction, only firms authorised by the FCA can issue or approve a financial promotion. Unauthorised firms wishing to communicate a financial promotion will first need it approved by an FCA authorised firm, unless an Exemption applies. The Government has set out its plans for a  new regulatory gateway, which is set to come into effect in February 2024. The gateway requires authorised firms to seek permission from the FCA for approving the financial promotions of unauthorised firms. The FCA will then assess firms at the gateway as to whether they are competent to approve financial promotions for unauthorised persons.

The change comes following the concerns that where an authorised firm approves a financial promotion, they may not have the specific experience in the area or do not undertake comprehensive due diligence around the unauthorised firm or promotion.

Implications and challenges

Whilst the changes to the Exemptions are intended to enhance investor protection and demonstrate a dedication to cultivate a more transparent financial ecosystem, it makes angel investment only available to the richest in our society.

The changes have a particularly disproportionate effect on female investors and female founded businesses. Obu, an angel investment platform designed for women, has produced data clearly highlighting the gap between male and female earnings, with more men across the UK earning over £170,000 than women. The new thresholds, therefore, negatively impact the pool of female investors in the UK as they now may not qualify as an angel investor. Obu also highlights the fact that only 2% of venture capital funding goes to female founders, who therefore depend more on angel investment.

The data produced by Obu also shows that only 500 women and 4,500 men earn over £170,000 in Wales, compared to 72,500 women and 291,000 men in England. Not only do the new thresholds create barriers for female investors, the changes will also have a disproportionately detrimental impact for female founded businesses in Wales.

Next steps

The changes will be implemented through secondary legislation which are set to come into force on 31 January 2024 and no transitional regime is required.

Article 14 of the FPO allows business to make follow-up financial promotions relating to the same matter within 12 months of the recipient receiving the first communication. If a business has made a financial promotion to an individual before 31 January 2024, in adherence with the Exemptions, that business can continue to engage with the individual in relation to that financial promotion.

New financial promotions made from 31 January 2024, will need to be made in accordance with the updated Exemptions, even if to an individual already promoted under the current Exemptions.

How we can help

If you would like to discuss any of the new changes coming into force at the end of January and the impact they could have, please contact our award-winning corporate team.

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