Should your head of legal be included within the Senior Managers Regime?

The focus of the Financial Conduct Authority (FCA) on individual accountability within financial services continues to pose a significant regulatory burden on the industry. The scope of those firms affected will increase as indications from the FCA suggest that the Senior Managers & Certification Regime (SM&CR) will be rolled out across the industry from 2018.

One critical issue is whether the SM&CR should include the head of the legal department as a Senior Manager. This is an issue which has prompted widespread debate within the regulated industry and prompted the FCA’s Discussion Paper 16/4 titled “Overall Responsibility and the Legal Function” (the Discussion Paper).

The reaction of our clients to the issues in the Discussion Paper significantly varied across the industry and appears to be impacted by a number of factors, including: whether the legal function is viewed as advisory or as a control function; the size of a firm’s legal function; whether the head of the legal department is a member of the board or other decision making committees; the geographical footprint of the firm, including where decision making is centralised (particularly where a firm is headquartered outside the UK); whether the head of legal also performs another Senior Manager role; and the structural complexity of the firm.

Simmons & Simmons has submitted a response to the Discussion Paper on behalf of its clients which includes banks, asset managers and other financial services firms. The Simmons & Simmons response captures the varied feedback received from clients across the financial services industry, and ranges from those who favour the inclusion of the head of legal within the regime to those who believe it would be inappropriate to regulate an advisory function.

We summarise the Simmons & Simmons response to the Discussion Paper below.

The head of the legal department should not be included within SM&CR

A number of firms strongly consider that the head of the legal department should not be, and was not intended to be, included within the SM&CR. In summary, these firms consider that:

• the statutory definition of a “business area, activity or management function”1 should not include the legal department; this was made clear in the Parliamentary debate preceding the statute’s creation and subsequently in its definition
• the role of the legal department is to provide legal advice; it is an evolution of bringing external legal advisors in-house to deliver a dedicated and specialised legal service; the FCA clearly cannot intend to regulate external legal advisors so it is unclear why they would seek to regulate the same role brought in-house
• while there is recognition of the FCA’s objective to create a "no gaps" approach, the purpose of the SM&CR is to deliver individual accountability of senior management who are performing high risk external or internal facing business functions; as such there is no "gap to plug" by including the legal department within the SM&CR
• it is not possible or practical to separate (as the FCA suggests it is) the advisory role of the legal department with the management of that role; the two are in reality entirely connected, and
• the proposed inclusion within the SM&CR would put the head of the legal department in unmanageable positions of conflict; he or she would not have control over demonstrating the reasonable steps he or she had taken (COCON 2.2, SC1) if he or she could not waive privilege over the advice given by the legal department (which would be owned by the firm, as the client); he or she would have competing obligations between his or her duty as a lawyer and his or her obligations under SC4 (COCON 2.2.4) the independence of his or her advice would be, or would be perceived to be, affected; he or she may face a variety of conflicts as a result of being dual regulated.

The head of the legal department should be included within SM&CR

However, a number of firms do not, in principle, take issue with the inclusion of the head of the legal department within the SM&CR. This was particularly the case where the head of the legal department performs another Senior Manager role, where the legal department performs what they consider to be a "control function" or works closely with other control functions (eg compliance), or frequently in smaller or less structurally complex firms. In summary, they consider that:

• while hopefully unlikely, it is possible that a failure in the management of the legal department could lead or contribute to significant failings by the firm; alongside the role of giving legal advice, those firms consider that managing the legal department is part of the role as head of that legal department. In many cases, the General Counsel will be the appropriate person to do this
• there is, at least hypothetically, a distinction between "management" (and the need to ensure there are "no gaps" in management) and the giving of legal advice; nonetheless they would welcome clearer guidance on the practical challenges as to how the FCA intends to distinguish between the two, and
• while there remain concerns about the protection of privileged communications, the independence (and perceived independence) of the legal department, handling conflicts where they arise, these firms considered it may be possible to manage these issues with appropriate guidance and published clarification from the FCA.

As part of the Simmons & Simmons response we included some case scenarios to draw out some of the potential issues around including the head of legal within the SM&CR and invited the FCA to answer questions on how these scenarios would be handled.

Conclusion

Notwithstanding the broad spectrum of views expressed by the firms we consulted, almost all remained concerned that issues surrounding legal privilege, its protection and the ability of the head of the legal department (or indeed other Senior Managers) to demonstrate they had taken reasonable steps (especially in an investigation/enforcement action) where they were not the owner of the legal privilege, has not been adequately addressed by the FCA. There is overwhelming consensus amongst regulated firms and industry bodies that the FCA should provide detailed guidance following a formal consultation process. In particular, Simmons & Simmons proposed that the FCA should:

• clearly define what amounts to “management”
• consider carefully the impact on legal privilege, the risk of erosion of LLP, and what reasonable steps a Senior Manager would need to take to demonstrate that his or her duty of responsibility had been performed in circumstances where he or she cannot waive privilege over LPP communications
• consider how the head of legal would manage any conflicts between his or her professional obligations and his or her duty to the regulator, and
• explain how it would approach enforcement action against the head of the legal department given the conflicts and issues surrounding LPP.

In light of the wide and varied response from across the regulated industry to this Discussion Paper and the impending introduction of the SM&CR to the entire industry, we await with interest the FCA’s response to these submissions.

1Section 59ZA of the Financial Services and Markets Act 2000