The peer-to-peer finance industry should brace itself for much more regulation, say Penny Miller, partner – financial services regulation and Louise Tudor-Edwards, associate, at Simmons & Simmons
The regulatory landscape for peer-to-peer lending is far from complete, as is evident from the Financial Conduct Authority (FCA)’s recent call for input to the post-implementation review of the FCA’s crowdfunding rules.
The FCA paper, which was published in July 2016, is the result of the FCA’s commitment to carry out a full post-implementation review of the crowdfunding market and regulatory framework, two years since the rules came into force in 2014. The overwhelming theme from the paper is, perhaps unsurprisingly, that the FCA is seeking to impose additional regulatory obligations on firms operating within the P2P lending and wider crowdfunding sector.
In particular, the FCA has highlighted the overlap between activities carried out by P2P lenders and those carried out by firms operating in far more heavily regulated sectors, such as banks and asset managers. The FCA expresses concern that this uneven playing field could create opportunities for regulatory arbitrage with firms looking to conduct asset management or banking–type business under the P2P business model, in order to benefit from reduced regulation.
This is particularly evident in the emerging trend for provision funds and the consequential pooling of credit risk for lenders, which the FCA has indicated could amount to the establishment of collective investment schemes (notwithstanding the current exemption that is available for firms with permission to operate a P2P platform). The consequence for investors is that by paying into these provision funds, they are indirectly exposed to the risk of other loans on the platform defaulting and not just those in which they have directly invested, which begins to look more like a pooled investment model. The FCA intends to explore these issues further and will impose additional requirements where required.
The paper also highlights concerns for the treatment of retail investors, as P2P firms are developing more complex investment structures, such as securitisations, which are attracting a more sophisticated institutional client base. At the other end of the knowledge spectrum, less sophisticated retail investors are being attracted to the P2P sector through opportunities to invest in P2P investments through more mass market products, such as ISAs and pensions. The FCA is therefore keen to ensure that institutional investors are not granted favourable treatment and that retail investors fully understand the risks involved in P2P investments. It is therefore intending to focus on the form and content of financial promotions, disclosure standards and transparency to investors and will strengthen standards where necessary.
Another area of focus that the FCA has highlighted in its review is the potential for provision of funding for residential mortgage contracts by P2P firms. The FCA has stated that it is aware of a number of P2P firms that are considering moving into the secured residential lending space and is concerned that current regulatory loopholes would enable the provision of residential mortgage lending without applying the usual protections afforded under the FCA’s Mortgage Conduct of Business lending standards. It is therefore proposing to extend these standards to P2P platforms acting in this space.
The call for input comes, perhaps prematurely, against the backdrop that a significant proportion of the P2P market has yet to receive its full FCA authorisation. At the date of publication of the call for input, the FCA confirmed that only 9 firms had received full authorisation with a further 88 applications pending. It may therefore be too early to assess the full impact that these issues will have on the market with a number firms not yet fully authorised to act in this space. In addition, the introduction of further competition is likely to bring with it more innovation and propositions which will continue to challenge whether the existing regulatory regime is fit for purpose.
At this stage the FCA paper is a call for input, inviting comment and feedback from interested parties. However, regardless of the feedback received, the tone and scope of the paper indicate that increased regulation in this area is at the forefront of the FCA’s agenda.