Introduction
On 25 September 2023 the FCA published consultation paper CP 23/20 entitled "Diversity and inclusion in the financial sector – working together to drive change" and the PRA published its counterpart consultation paper CP 18/23 entitled "Diversity and inclusion in PRA regulated firms". These follow on from the FCA's July 2021 Discussion paper DP 21/2 and the results of further evidence gathering by the regulators including firm survey and review work.
This client note focusses only on those aspects of the CPs that relate to proposed guidance on the treatment of non-financial misconduct (NFM) in SMCR firms. The other proposals under consultation will be dealt with in a separate client note.
Ever since 2018, when the FCA began messaging that NFM should be dealt with by regulated firms in the same way as any other form of misconduct1, firms have faced a dilemma in dealing with NFM in staff disciplinary actions and fit and proper assessments because FCA Handbook guidance on assessing "fit and proper" and Conduct Rule breaches (FIT and COCON) did not contain any examples of NFM. Whilst firms' staff codes of personal conduct have generally clearly prohibited NFM, so that firms have been entitled to take disciplinary action for employment purposes, the question has remained whether firms were on firm ground, in the event of legal challenge, in also categorising this behaviour as a breach of Conduct Rules and/or falling short of the fit and proper standard, with the requisite obligations to notify the regulator and refer to the behaviour in regulatory references. This dilemma was perhaps complicated further by the Upper Tribunal in the Frensham case challenging the FCA's stance that a serious non-workplace related NFC criminal conviction in and of itself merited prohibition of an individual.2
Consequently, guidance of the kind upon which the FCA and PRA are now consulting has been long called for. Consistent with its focus as the conduct regulator and its statutory objectives, the FCA's consultation paper (including draft Handbook text) deals with NFM at the greatest length.
When is NFM within scope of the Conduct Rules under the proposed guidance?
The Conduct Rules apply to conduct that relates to a function carried out by a conduct rules staff member where that function relates to the carrying on of an activity by the firm. Proposed amendments to COCON provide further clarity on when this test is met. For example, misconduct by a staff member in relation to a fellow member of the workforce at a social occasion organised by their firm could be a Conduct Rules breach. Conduct relating to the conduct rules staff member’s private or personal life is outside the scope of the Conduct Rules. Therefore misconduct by a staff member in relation to a fellow member of the workforce at a purely social occasion organised by them in their personal capacity with no other connection to the employer would not be within scope of the Conduct Rules, though could still be relevant to a fit and proper assessment.
Individual Conduct Rule 1 – you must act with integrity
Regarding ICR1, the proposed new COCON text explicitly states that a good working environment is one in which each employee feels respected, valued and able to give their best; and is treated fairly and with dignity and respect. Conduct inconsistent with this may be a breach of ICR1. However, only a serious departure from it is likely to be a breach. Factors to be taken into account when deciding whether misconduct in relation to a fellow member of the workforce is serious enough to amount to a breach of ICR1 include:
- whether the conduct is repeated or part of a pattern;
- the duration of the conduct;
- the size of the impact on the subject of the conduct and on those who witnessed or heard about or may hear about the conduct;
- the likelihood of damage to the firm’s work culture and the possible size of such damage;
- the seniority of the person whose conduct is in question;
- the difference in seniority between the person whose conduct is in question and the subject of the conduct;
- whether the conduct is related to a protected characteristic under the Equality Act 2010;
- whether the person concerned has been warned or disciplined for similar conduct by the firm, a previous employer, the police or a regulator;
- whether the person has previously undertaken not to do the act or engage in the behaviour in question;
- whether the conduct is criminal or would justify dismissal.
The draft text includes a non-exhaustive list of examples of conduct by a conduct rules staff member in relation to a fellow member of the workforce that will breach ICR 1 as follows: intimidating or violent conduct; seriously offensive, malicious or insulting conduct; unwanted conduct that has the purpose or effect of violating the dignity of the fellow member of the workforce; unwanted conduct that has the purpose or effect of creating an intimidating, hostile, degrading, humiliating or offensive environment for the fellow member of the workforce; bullying; unreasonable and oppressive conduct causing serious alarm or distress to a fellow member of the workforce; subjecting a fellow member of the workforce to detriment for using the firm’s whistleblowing procedures; abusing or misusing their power or position in a way that humiliates, seriously undermines or denigrates; or significantly injures the subject of that conduct; and victimisation as defined in the Equality Act 2010. It is made explicit that sexual harassment is a breach of ICR1.
The FCA guidance suggests that NFM may fall outside the scope of ICR1 if the conduct rules staff member: (a) thought that there was a good and proper reason for the conduct; or (b) did not intend to have a negative impact on the subject of the misconduct, did not know that they were doing so and was not reckless about the effect of their conduct. However, an unreasonable belief that conduct is justified may itself show a lack of integrity. For example, bullying, sexual harassment or violence cannot be justified. Conduct that falls outside ICR1 may nevertheless constitute a breach of ICR2.
Individual Conduct Rule 2 – you must act with due skill, care and diligence
As stated above, misconduct in relation to fellow members of the workforce that is not a breach of ICR1, may be a breach of ICR2.
The FCA's draft guidance gives a non-exhaustive list of examples of conduct by a manager in relation to members of the workforce whom they manage that would breach ICR2 including failing to take reasonable steps to protect staff against NFM of a type that will breach ICR1; and failing to take seriously or to deal effectively with complaints about behaviour of the type that will breach ICR1.
NFM and the fit and proper standard
Currently, SMCR firms must be satisfied, on an ongoing basis, that individuals performing a Senior Management Function or a certification function are ‘fit and proper’ to carry out their role. The FIT section of the FCA Handbook provides guidance on factors that firms should take into account in conducting the fit and proper assessment. Misconduct both within and outside the workplace can be relevant for FIT and the FCA's proposals do not change that existing position. However, the proposed additional text makes explicit that NFM including bullying, discrimination, violence and sexual misconduct within the workplace is relevant to fitness and propriety and that similarly serious behaviour in a person’s personal or private life is also relevant.
Lengthy draft text explains why NFM in private or personal life can be relevant to a fit and proper assessment. It is clear that the FCA intends this guidance to plug the policy gap identified by the Upper Tribunal in the Frensham case3. In particular, the FCA states that one of the purposes of FIT is to maintain confidence in the financial system in the UK and that in the FCA's view there is a risk to public confidence where individuals have committed serious non-financial misconduct, whether inside or outside the workplace, but are permitted to continue working within the sector. Such conduct is unlikely to be compatible with the FCA's statutory objectives. The FCA confirms that it is entitled to impose a partial or a full prohibition for this type of behaviour, depending on the level and type of risk posed by the individual in question. Even NFM where there is little or no risk of it being repeated in their work for their firm will be relevant if it is disgraceful or morally reprehensible or otherwise sufficiently serious.
The draft text adds to the existing guidance at FIT 2.1.3 G on assessing honesty, integrity and reputation. To the list of criminal offences where a conviction should be considered as relevant to the fit and proper standard are added "violence, sexual offences and offences related to a person’s or a group’s demographic characteristics such as racially motivated or aggravated offences". The draft guidance adds that it is also relevant to consider whether the person has been dismissed, or asked to resign and resigned, from employment or from a position of trust, fiduciary appointment or similar by reason of NFM. In this case, whether the resignation is relevant to the fit and proper assessment will depend on the circumstances – for example, if the circumstances that cast doubt over their honesty or integrity, including where this is as a result of involvement in discriminatory practice. Other additional factors to be taken into account include whether the person has been found by a tribunal or court to have been engaged in discriminatory practices; whether the person has been the subject of an upheld internal complaint related to discriminatory practices; and non-financial misconduct in private or personal life or in work outside the regulatory system whether or not resulting in a criminal conviction.
Though the draft text notes that non-financial misconduct towards other staff members and individuals in private life could also be relevant to the "competence and capability" assessment criterion in FIT, no amendments are proposed to the relevant Handbook text.
Regulatory references
The FCA proposes guidance at SYSC 22.6.3G confirming that, in deciding what information to include in a regulatory reference, firms should consider not just the direct dealings by the subject with customers, counterparties, their assets and the markets but also misconduct in relation to other members of the firm’s workforce and potentially misconduct in relation to someone outside the work context, as the latter may be relevant to fitness and propriety.
Suitability Threshold Condition for firms
It is proposed to add to the guidance in the COND section of the FCA Handbook regarding assessing whether the suitability threshold condition is met for a firm. There is added to the list of criminal convictions relevant to be considered for a firm or an individual connected with a firm, violence, sexual offences, and offences relating to a person’s or a group’s demographic characteristics such as racially motivated or aggravated offences. To the relevant circumstances of dismissal or resignation casting doubt over honesty or integrity are added where this is a result of involvement in discriminatory practices. A further ground to consider is where the firm or a person connected with the firm has been found by a tribunal or court to have been engaged in discriminatory practices.
The PRA's NFM guidance proposals
The PRA's supervisory statements regarding individual accountability in banks and insurers (SS35/15 and SS28/15) already state that the way in which a person behaves in their private life may be relevant to any assessment, by the PRA or by the firm itself, of whether that person is or remains fit and proper.
The PRA proposes to add clarificatory wording as follows. The PRA may take into consideration established patterns of behaviour of an individual that would, or would be likely to, affect the firm’s safety and soundness, when considering whether the individual meets the PRA’s standards of fitness and propriety. Examples of such conduct include evidence of bullying, discrimination, and harassment which would, or would be likely to, have the effect of hindering individuals within an institution from speaking up and providing effective challenge as part of the firm’s decision-making processes. Firms should ensure that individuals subject to allegations of such behaviour are given an opportunity to respond to the allegations, and that the allegations and responses are assessed objectively and independently by an appropriately qualified person.
For further information and guidance about the issues discussed in this client note, please contact one of our following experts.
References
1In September 2018, the Women and Equalities Committee published its report on sexual harassment in the workplace. In response, Megan Butler, then the FCA’s Executive Director of Supervision wrote a letter explaining how the FCA regards sexual misconduct as falling within the scope of the financial services regulatory framework: through supervision of workplace culture, fitness and propriety standards; and, potentially constituting a breach of the Conduct Rules. In a speech in December 2018, the then FCA Executive Director of Strategy and Competition, repeated the message that “non-financial misconduct is misconduct, plain and simple”.
2Jon Frensham v The Financial Conduct Authority [2021] UKUT 0222 (TCC).
3The Upper Tribunal stated: "The Authority’s guidance does not make it clear that particular offences are considered by the Authority to be so serious that without more they would automatically disqualify the person concerned from working in the industry."
