October 2017

Regulations aimed at protecting investors and combating financial crime are coming into sharp focus. Jasper Evans explains the profound impact these regulations will have on providers of both trust and agency services and depositary receipt services, and on the institutions served by them

This summer saw the entry into force of the latest iteration of the EU’s anti-money laundering regime, as set out in the Fourth Anti-Money Laundering Directive (AMLD4). In addition, the long-awaited revision of the MiFID framework will take effect in January 2018. Both regulations have significant impacts on issuers, investors and their service providers.

MiFID II and MiFIR

MiFID II, which comes into effect in January 2018, represents a significant update and expansion of the existing EU financial services regime. MiFID II replaces the existing MiFID framework, which came into force on 1 November 2007 and was not only shown by the financial crisis of 2008 to have certain deficiencies (including a lack of transparency, particularly in the non-equities markets) but has also been outpaced by the growing complexity of technology and financial instruments. Following a consultation on MiFID in December 2010, the European Commission published its legislative proposals in October 2011.

MiFID II comprises a directive and a regulation (MiFIR), both of which were published in the Official Journal of the European Union on 12 June 2014 and entered into force on 2 July 2014. The directive was required to be transposed into national law by member states by 3 July 2017, whereas MiFIR, as a regulation, has direct effect. MiFID II will generally come into force within member states from 3 January 2018. It will apply to investment firms: persons whose regular occupation or business is the provision of one or more investment services or activities on a professional basis. Investment services and activities include: 

  •  Receiving and transmitting orders in relation to one or more financial instruments including structured deposits; 
  •  Executing orders on behalf of clients; 
  •  Dealing on own account; 
  •  Portfolio management; 
  •  Investment advice; 
  •  Underwriting of financial instruments and/or placing of financial instruments on a firm commitment basis; 
  •  Placing of financial instruments without a firm commitment basis; 
  •  Operating a multilateral trading facility (MTF); and
  •  Operating an organised trading facility (OTF).

MiFID II involves major structural changes to the markets, increased investor protection measures and far-reaching new powers for regulators. These changes include the introduction of a new type of trading venue, the OTF, to capture non-equity trading that falls outside the MiFID regime. Investor protections have been strengthened, and new curbs imposed on high-frequency trading and commodity trading. Pre- and post-trade transparency has been increased, and a new regime for third-country firms introduced, whereby persons based in non-European Economic Area (EEA) countries may need to establish an EEA branch and obtain authorisation when doing business with retail clients located in the EEA. 

The regulation creates key requirements for corporate trust and agency and depositary receipt providers, including:

  • Transaction reporting – this requires that legal entities must have a legal entity identifier (LEI) and natural persons must be designated a unique ID on  the basis of nationality; 
  • Further investor protection measures including providing information to clients on costs, conflicts of interest and record-keeping; 
  • Best execution – investment firms must take all sufficient steps to obtain, when executing orders, the best possible result for their clients; and
  • Pre- and post-trade transparency – for instance, the pre-trade transparency regime for regulated markets and MTFs in respect of
    equity markets is extended to cover depositary receipts as well as non-equity instruments.

The LEI requirement should be seen as an enabler for industry-wide standardisation of transaction identifier codes which institutions will have to report once, and in some instances map their existing codes of the institutions they do business with to the LEI codes.

After Brexit, the UK will likely retain MiFID II implementation, but may be unable to rely upon EU passporting and other benefits,1 depending on what Brexit terms are negotiated. UK firms will be treated as any other non-EU firm. They could have many of the disadvantages and prescriptive obligations without the upside of EU passporting. Whilst the UK might be deemed equivalent for a number of obligations, the equivalency regime is a long and unpredictable process. As a result, many firms are preparing for Brexit by setting up new entities or transferring business to other member states to enable them to continue doing business as they do today.

The Fourth Anti-Money Laundering Directive

AMLD4 was finalised in June 2015 and was transposed into UK law by the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (the Regulations), which commenced on 26 June 2017.2

AMLD4’s objective is to protect the financial system by means of the prevention, detection and investigation of money laundering and terrorist financing. It is designed to strengthen the EU’s defences against money laundering and terrorist financing, and to align the EU framework with the Financial Action Task Force’s recognised international standards for anti-money laundering and counter-terrorist financing. Like the Third Money Laundering Directive, which it replaces, AMLD4 is a minimum, harmonising directive.

AMLD4 applies to ‘obliged entities’, namely: credit and financial institutions; auditors, external accountants and tax advisers; notaries and other independent legal professionals; trust or company service providers; estate agents; other persons trading in goods subject to a €10,000 threshold; and providers of gambling services. This includes corporate trust and agency and depositary receipt providers, and many of the institutions served by such providers.

AMLD4 covers:

  • General provisions, including on scope, risk assessments and third-country policy;
  • Customer due diligence, including simplified and enhanced due diligence;
  • Beneficial ownership relating to corporate and other legal entities; reporting obligations; and
  • Data protection, record-keeping and statistical data.

Under Article 31(1) of AMLD4, each member state must ensure that trustees of express trusts3 governed under their national law obtain and hold adequate, up-to-date information on the beneficial owners of the trust, including the identity of the settlor, the trustee, the protector (if applicable), the beneficiary or class of beneficiaries, and any other natural person exercising effective control over the trust. Trustees should disclose their own status and provide beneficial ownership information in a timely manner to firms when they form a business relationship or carry out an occasional transaction above the stipulated thresholds. These requirements also apply to foundations or other legal arrangements that are similar to trusts.

Member states must ensure that beneficial ownership information relating to trusts (and similar arrangements) is held in a central register when the trust generates tax consequences. Such information must be adequate, accurate and up to date.

Under the Regulations a ‘relevant trust’ is either a UK trust which is an express trust, or a non-UK trust which is an express trust and receives income from a source in the UK or has assets in the UK, on which it is liable to pay one or more of the taxes referred to in the Regulations. A taxable relevant trust is a relevant trust in any year in which its trustees are liable to pay such taxes in the UK in relation to assets or income of the trust.

The trustees of a taxable relevant trust must provide the UK’s HM Revenue & Customs with specified information about the trust and its beneficiaries on or before 31 January 2018 and 31 January after the tax year in which the trustees were first liable to pay any of the taxes summarised above and referred to in the Regulations. The vast majority of capital markets and depositary receipt transactions are held in global form. In such cases the beneficial owner will be the common depositary (in some structures called the common safe-keeper) or its nominee. Further, typically, such trusts will not be taxable relevant trusts.

The Regulations may lead to some adjustments in financing documentation, to provide for the requisite information flow and notifications under the new regime.

In the near future, international standards will also encompass the EU’s Fifth Money Laundering Directive, which includes enhanced access to interconnected beneficial ownership registers, to improve transparency about the ownership of companies and trusts.

Jasper Evans is a Partner at Linklaters LLP

The Deutsche Bank view

The latest iteration of the EU’s anti-money laundering regime and the revision of the MiFID framework should enable industry-wide standardisation in facilitating further investor protection and combating financial crime.

MiFID II will require clients of Trust and Agency Services to obtain legal entity identifier codes to replace the existing transaction identifier codes. This will present us with an opportunity to streamline as an industry.

With AMLD4, certain trusts are required to provide transparency of ownership by maintaining, and in certain cases reporting, beneficial ownership information. The standardisation of reporting across the industry is aligned to a common registry for reporting such underlying holdings and information on tax transparency, which should result in further efficiencies for us and our clients.

Jose Sicilia, Global Head of Trust and Agency Services at Deutsche Bank

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Sources:

1 See
http://bit.ly/2eRLpbF at cib.db.com
2 See
http://bit.ly/2hfqnDp at europa.eu
3 See
http://bit.ly/2xR9XW0 for more on express trusts

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