Brexit and Financial Services: deal or no deal?

10 February 2021

Author: Rachel Craig
Practice Area: Corporate - M&A
Sector: Brexit


There was a collective sigh of relief when the EU and the UK announced, on Christmas Eve, that a trade agreement had been reached between them, and The Trade and Cooperation Agreement between the European Union and the United Kingdom (the “TCA”) started to apply on a provisional basis from 23:00 on 31 December 2020. More noticeable by its absence than its presence though, is the level of detail covered by the TCA regarding the financial services sector.

In addition to the TCA, the UK and EU have published a short Joint Declaration on Financial Services Regulatory Cooperation (the “Declaration”). The Declaration sets out that the EU and UK “agree to establish structured regulatory cooperation on financial services, with the aim of establishing a durable and stable relationship between autonomous jurisdictions.” Despite the intention cited in the Declaration though, the minimal content in the TCA in respect of the financial services sector has been met with criticism and concern that the sector is, in effect, facing a no deal Brexit. Indeed, accountancy firm EY estimates that financial services firms have moved more than £1 trillion of assets from the UK to the EU since 2016 as a result of Brexit.

No more passporting

Most significantly for the financial services sector, Brexit represents a loss of “passporting” rights for UK financial services firms, and the TCA does not provide for automatic access to the EU single market for such firms. Passporting, which allows banks and financial services companies authorised in one EU or EEA state to trade freely in another with minimal additional authorisation, has widely been regarded as the foundation of the EU single market for financial services. Now, UK financial services firms wishing to trade in an EU or EEA state must comply with the different requirements of individual member states. To the extent that they have not already done so, UK financial services firms may wish to set up new entities in the EU states where they wish to carry on (or start) doing business, apply for relevant new licences, or stop servicing clients in certain EU states. The TCA provides that UK firms may establish branches in the EU but “may be required to satisfy a number of specific… requirements”. As such firms should consider taking local law advice in the jurisdictions where they do (or are considering doing) business to ensure they do not fall foul of the regimes which apply in given countries.

Equivalence? Not yet

The TCA doesn’t contain any provisions around equivalence in respect of the financial services sector (i.e. recognition by the EU that the UK’s regulatory system in the sector is complaint with its own). Only a limited amount of equivalence decisions have so far been adopted (despite the Political Declaration which was agreed in October 2019 stating that the EU and UK would seek to conclude equivalence assessments before the end of June 2020). Notably, the Declaration affirms an intention on behalf of the EU and UK to establish a Memorandum of Understanding framework for financial services by March 2021 including discussions around “how to move forward on both sides with equivalence determinations”. The extent, however, to which any such Memorandum of Understanding (or indeed any future formal agreement) will contain an equivalence regime remains to be seen, as does both the detail of it and clarity around the timeframe within which such a regime – if agreed – would come into being.

On 25 January, European Commissioner for Financial Stability, Financial Services and the Capital Markets Union, Mairead McGuiness addressed the ECON Committee Structure Dialogue. Although, at that date, talks on the Memorandum of Understanding had not yet started, Ms McGuiness’s comments gave rise for some optimism. Whilst she stated that the process, “is not about restoring market access rights that the UK has lost, nor will it constrain the EU’s unilateral equivalence process”, she indicated that in due course the EU would resume its unilateral equivalence assessments of the UK using the same criteria as with all third countries and that she felt “optimistic that over time, through cooperation and trust, [the EU] will build a stable and balanced relationship with [its] UK friends.” Many in the City of London remain sceptical though, with a number of senior figures in the financial services sector indicating that they do not have high hopes for a meaningful equivalence deal.

No longer a most favoured nation

Additionally, the financial services sector is largely carved out from the ‘most-favoured nation’ provisions in the TCA meaning, in practice, that EU member states are free to offer better terms on financial services to other EU jurisdictions without offering the same to UK financial services firms.

So what now?

The absence of detail in the TCA, together with the fairly vague aspirations of the Declaration, provide a message which, at worst, is one of doom and gloom and at best feels like a case of ‘wait and see’. The financial services industry is one, however, which does not stand still; and so whilst the protagonists in the EU and UK work to try and “establish structured regulatory cooperation on financial services” as referred to above, what now for the UK financial services sector in the meantime?

For a start, the sector’s commitment to ethical standards and work to combat criminal activity should continue. The TCA confirms that both the EU and the UK shall seek to implement and apply “internationally agreed standards in the financial services sector for regulation and supervision, for the fight against money laundering and terrorist financing and for the fight against tax evasion and avoidance”.

Helpfully, a UK financial services firm established in an EU state will retain access to payment and clearing systems operated by public entities in that state (e.g. a central bank) and vice versa for EU financial services firms established in the UK. In addition, and notwithstanding the earlier comments around ‘most-favoured nation’ provisions, EU self-regulatory organisations (e.g. a securities exchange or clearing agency) must admit the UK’s firms on a ‘most-favoured nation’ basis (and vice versa for UK self-regulatory organisations and EU firms).

Somewhat positively, and in relation to a ‘new financial service’ (i.e. a service of a financial nature not yet supplied in the EU or UK (as applicable) but supplied in the other territory), financial services firms may provide such new financial service in the other territory without additional local restrictions applying (provided that the new financial service can be supplied within the existing local legal framework and that the activity isn’t carried on through branches). Opportunities for growth and innovation within the EU, therefore, aren’t necessarily lost.

Firms should, however, note that the TCA includes a prudential carve-out which, broadly speaking, allows a party to adopt or maintain measures for prudential reasons (e.g. protecting investors and ensuring the stability of a party’s financial system). Whilst this carve-out cuts both ways, in practice it’s perhaps more likely to hit UK financial services firms than EU firms. Given that the TCA provides that branches established directly in member states by non-EU financial institutions are generally not subject to prudential regulations harmonised at EU level and therefore envisages that such branches “may be required to satisfy a number of specific prudential requirements”, there would seem to be potential for EU member states to use prudential reasons to justify the imposition of restrictive conditions upon UK firms seeking to establish enterprises in EU countries.

Whilst the dramatic changes to the UK financial services sector brought about by Brexit have not (yet) amounted to Armageddon, the chief executive of the London Chamber of Commerce and Industry has recently warned that the disruption is “only just beginning”. How the relationship between the EU and UK as regards financial services unfolds is something that will certainly be worth watching.

*This information is for guidance purposes only and does not constitute, nor should be regarded, as a substitute for taking legal advice that is tailored to your circumstances.