Investment firm (MiFID definitions)
"Investment firm" under the Markets in Financial Instruments Directive (MiFID) means "any legal person whose regular occupation or business is the provision of one or more investment services to third parties and/or the performance of one or more investment activities on a professional basis" (Article 4(1)).
The MiFID definition, therefore, covers all natural an legal persons who perform investment services and activities using financial instruments, as a regular occupation or business, and on a professional basis. Where a person meets these criteria and is not otherwise exempt from MiFID it will require authorisation as an investment firm. In this context authorisation is a consequence rather than a part of the definition.
The MiFID lays down organisational, governance, consumer protection and market functioning regulations, as well as sets out the passporting process for those firms that provide one of the MiFID II listed services, i.e.:
- investment advice to clients,
- management of client portfolios,
- execution of clients' orders on financial instruments,
- reception and transmission of orders on financial instruments,
- dealing with own account,
- market making,
- placing of financial instruments, and
- operating trading facilities.
Explanatory memorandum to the European Commission’s Proposal of 20 December 2017 for a directive on the prudential supervision of investment firms adds, however, based on information from the EBA, that around 85 % of EEA (European Economic Area) investment firms limit their activities to only four positions: offering investment advice, receiving and transmitting orders, managing portfolios and executing orders. Nearly 40% of EEA investment firms are authorised exclusively to provide investment advice. Around 20% are authorised to carry out dealing on own account and underwriting, the services which currently entail the most stringent prudential requirements. Around a quarter of all EU investment firms trade in financial instruments, either for the firm itself or for its clients. Contrary to credit institutions, investment firms do not accept deposits, nor do they provide loans on a significant scale. They do however compete with credit institutions in providing investment services, which credit institutions can offer to their customers under their banking licence.
The European Commission’s “Proposal for a regulation on the prudential requirements of investment firms and amending Regulations (EU) No 575/2013, (EU) No 600/2014 and (EU) No 1093/2010” of December 2017 (p. 2) contains the following characteristics of the investment firms typical activities:
“Unlike credit institutions, investment firms do not take deposits or make loans. This means that they are a lot less exposed to credit risk and the risk of depositors withdrawing their money at short notice. Their services focus on financial instruments – unlike deposits, these are not payable at par but fluctuate according to market movements. They do however compete with credit institutions in providing investment services, which credit institutions can offer to their customers under their banking licence. Credit institutions and investment firms are therefore two qualitatively different institutions with different primary business models but with some overlap in the services they can provide.”
The European Banking Authority (EBA) Report on Investment Firms, Response to the Commission's Call for Advice of December 2014 (EBA/Op/2015/20, p. 6) observes the European investment services landscape comprises various types of operators. “The risks which investment firms themselves incur and pose for their clients and the wider markets in which they operate depend on the nature and volume of their activities, including whether investment firms act as agents for their clients and are not party to the resulting transactions themselves, or whether they act as principals to the trades,” reads Recital 3 of the European Commission’s Proposal of 20 December 2017 for a regulation on the prudential requirements of investment firms.
Also Recitals to the Commission Delegated Regulation (EU) 2017/565 of 25 April 2016 supplementing Directive 2014/65/EU of the European Parliament and of the Council as regards organisational requirements and operating conditions for investment firms and defined terms for the purposes of that Directive acknowledge investment firms vary widely in their size, their structure and the nature of their business.
The above EBA Report of December 2014 evidences a little more than 6 500 investment firms initially authorised and regulated by MiFID (in number, just over half of these are based in the UK. The United Kingdom, Germany and France are the main jurisdictions for over 70% of the investment firm population of the European Union). The EBA estimates that some eight investment firms, largely concentrated in the UK, control around 80 % of the assets of all investment firms in the EEA, while most EEA investment firms are small or medium-sized.
Undertakings which are not a legal persons may also be licensed as an investment firm if they fulfil the following conditions:
(a) their legal status ensures a level of protection for third parties' interest equivalent to that afforded by legal persons and
(b) they are subject to equivalent prudential supervision appropriate to their legal form.
According to the present regulatory framework all investment firms are subject to the same EU prudential rules as credit institutions - the Capital Requirements Regulation and Directive (CRR/CRDIV), which were developed for banks and lay down the amount of capital, liquidity and other risk management requirements.
The prudential framework for investment firms in the CRR/CRD IV works in conjunction with MiFID. MiFID sets out the conditions for the authorisation of investment firms. It also determines how they should behave on financial markets when providing their services (e.g. in terms of conduct of business). Credit institutions are also subject to some MiFID provisions when providing investment services.
The MiFID II level 2 regulation - Commission Delegated Regulation 2017/565 of 25 April 2016 has adapted a regulatory regime to diversity of investment firms while imposing certain fundamental regulatory requirements which are appropriate for all firms.
To ensure the uniform application of the various relevant provisions, it also establishes a harmonised set of organisational requirements and operating conditions for investment firms.
Article 4(1) MiFID II
'Investment firm' means any legal person whose regular occupation or business is the provision of one or more investment services to third parties and/or the performance of one or more investment activities on a professional basis.
Member States may include in the definition of investment firms undertakings which are not legal persons, provided that:
(a) their legal status ensures a level of protection for third parties' interests equivalent to that afforded by legal persons; and
(b) they are subject to equivalent prudential supervision appropriate to their legal form.
However, where a natural person provides services involving the holding of third party funds or transferable securities, that person may be considered to be an investment firm for the purposes of this Directive and of Regulation (EU) No 600/2014 only if, without prejudice to the other requirements imposed in this Directive, in Regulation (EU) No 600/2014, and in Directive 2013/36/EU, that person complies with the following conditions:
(a) the ownership rights of third parties in instruments and funds must be safeguarded, especially in the event of the insolvency of the firm or of its proprietors, seizure, set-off or any other action by creditors of the firm or of its proprietors;
(b) the firm must be subject to rules designed to monitor the firm's solvency and that of its proprietors;
(c) the firm's annual accounts must be audited by one or more persons empowered, under national law, to audit accounts;
(d) where the firm has only one proprietor, that person must make provision for the protection of investors in the event of the firm's cessation of business following the proprietor's death or incapacity or any other such event.
Organisational requirements under Article 16 of MiFID 2
An investment firm should:
a) maintain and operate an effective organisational and administrative arrangements to taking all reasonable steps designed to prevent conflicts of interest affecting the interests of its clients;
b) Maintain, operate and review a process for the approval of financial instruments before marketed or distributed to clients, including target market, relevant risks and distribution strategy;
c) review regularly the financial instruments offered;
d) make available appropriate information on the financial instrument and the product approval process, including target market;
e) have in place adequate arrangements to obtain the above information if offers financial instruments that they do not manufacture;
f) take reasonable steps to ensure continuity and regularity in the performance of investment services and activities (appropriate and proportionate system, resources and procedures);
g) ensure it takes reasonable steps to avoid undue operational risk in the case of outsourcing of critical functions (internal control and ability to monitor the firms compliance with all obligations needs to remain at the firm);
h) have sound administrative and accounting procedures, internal control mechanisms, effective procedures for risk assessment and effective control and safeguard arrangements for information processing systems;
i) have sound security mechanisms to guarantee the security and authentication of the means of transfer of information, minimise risk of data corruption and unauthorized access and to prevent information leakage maintaining the confidentiality of the data at all times;
j) arrange for records to be kept of all services, activities and transactions undertaken which are sufficient to enable the competent authority to fulfil its supervisory tasks to ascertain the investment firm has complied with all relevant obligations;
k) records shall include the recording of telephone conversations or electronic communications relate to transactions concluded when dealing on own account and the provision of client order services that relate to the receptions transmission and execution of client orders.
CRR investment firms - evolution of prudential requirements
Typically, prudential requirements on financial institutions are designed to:
(i) ensure that they have sufficient resources to remain financially viable and to carry out their services through economic cycles; or
(ii) enable an orderly wind-down without causing undue economic harm to their customers or to the stability of the markets they operate in.
The prudential framework applied to investment firms depends on the firm's categorisation within the CRD IV framework. This categorisation is currently primarily determined by the investment services and activities it offers and undertakes, as set out in Annex I of the MiFID.
The term 'investment firm' is defined in the CRR by referring to the definition of the MiFID, albeit the legal definition excludes upfront a number of firms and credit institutions themselves.
This means that the CRR definition is a subset of those firms subject to the MiFID definition.
CRR investment firm is defined in subparagraph (2) of Article 4(1) of the CRR as a MiFID investment firm, excluding:
(i) credit institutions;
(ii) local firms; and
(iii) firms that do not hold client money and perform a combination of MiFID services (transmitting orders, executing orders, portfolio management, and investment advice).
Credit institutions are excluded from the CRR definition of 'investment firm' because, even though they may provide investment services, they already fall within the regular scope of the CRR as credit institutions.
The exclusion of local firms was based on the assumption that local firms were small and would pose a minimal risk to the financial system or not be subject to competition issues (EBA's Report on Investment Firms of December 2014, p. 13).
The said Report concludes that "current total population of non-bank firms conducting any sort of investment business is not straightforward when it comes to prudential coverage: it comprises firms that are exempt from the MiFID, MiFID firms that are exempt from the CRR, and MiFID firms that are subject to different types of requirements under the CRR".
The categorisation of investment firms in CRD IV has a direct influence on a firm's initial capital requirement, which remains the basic and most common prudential 'building block' for investment services providers; every investment firm should, by default, be subject to a EUR 730 000 requirement (Article 28 of the CRD), with this amount being reduced to EUR 125 000 (Article 29 of the CRD) if a firm neither deals on own account nor underwrites under firm commitment while still holding client money or securities (EBA's Report on Investment Firms of December 2014, p. 14).
The aforementioned EBA's Report of December 2014 (p. 15, 16) identifies at least 11 different prudential categories of investment firms within the CRR framework.
Table: Categorisation of MiFID investment firms within the CRD framework
|| Initial capital
Own funds requirement
Local firms (CRR 4(1)(4))
|€50 000 (CRD 30)||Not applicable|
Firms falling under CRR 4(1)(2)(c) that only provide reception/transmission and/or investment advice
|€50 000 (CRD 31(1))||Not applicable|
Firms falling under CRR 4(1)(2)(c) that only provide reception/transmission and/or investment advice and are registered under the Insurance Mediation Directive (IMD)
|€25 000 (CRD 31(2))||Not applicable|
Firms falling under CRR 4(1)(2)(c) that perform, at least, execution of orders and/or portfolio management
|€50 000 (CRD 31(1))||CRR 95(2)|
Investment firms not authorised to perform deals on own account and/or underwriting/placing with firm commitment that do not hold client funds/securities
|€50 000 (CRD (29(3))||CRR 95(1)|
Investment firms not authorised to perform deals on own account and/or underwriting/placing with firm commitment but hold client funds/securities
|€125 000 (CRD 29(1))||CRR 95(1)|
Investment firms that operate an MTF
|€730 000 (CRD 28(2))||CRR 95(1)|
Investment firms that only perform deals on own account to execute client orders
|€730 000 (CRD 28(2))||CRR 95(1)(a)|
Investment firms that do not hold client funds/securities, only perform deals on own account, and have no external clients
|€730 000 (CRD 28(2))||CRR 95(1)(b)|
Commodity derivatives investment firms that are not exempt under the MiFID
|€50 000 to 730 000 (CRD 28 or 29)||CRR 493 & 498|
Investment firms that do not fall under the other categories
|€730 000 (CRD 28(2))||CRR 92|
The CRD IV framework makes a distinction between:
a) those firms that are included in the CRR definition of 'investment firm' (CRR investment firms, categories 5 to 11);
b) those firms that are excluded from the CRR definition of 'investment firm' but are brought back into the scope of the own funds requirements for credit, market and operational risk (Article 95(2) of the CRR, category 4); and
c) those firms that are excluded from both the CRR definition of 'investment firm' and the scope of CRD IV (categories 1 to 3), but are still subject to a minimum level of initial capital (for the purpose of receiving authorisation under the MiFID and the ability to use a passport under that Directive), as laid down in the CRD.
Recommendation for a new categorisation of investment firms distinguishing between systemic and 'bank-like' investment firms to which the full CRD/CRR requirements should be applied; other investment firms ('non-systemic') with a more limited set of prudential requirements; and very small firms with 'non-interconnected' services
It is necessary to make a distinction between investment firms for which prudential requirements equivalent to the ones held of credit institutions are necessary and investment firms that are not systemic or interconnected, for which specific requirements could be developed. Such a distinction would enhance proportionality and clarify the question of 'gone' versus 'going' concerning supervision for investment firms.
It is recognised that a small minority of MiFID firms are substantial undertakings that run 'bank- like' intermediation and underwriting risks at a significant scale. Such activities expose these institutions to credit risk, primarily in the form of counterparty risk, and market risk for positions taken on own account, be it for the purpose of external clients or not.
For other investment firms, however, a less complex prudential regime seems appropriate to address the specific risks that investment firms pose to investors and other market participants, with regards to investment business risks such as credit, market, operational and liquidity risk.
In the last tier, small and non-interconnected firms warrant a very simple regime to wind them down in an orderly manner. Such a regime could be based mainly on fixed overheads requirements (FORs) that fulfil the objective of setting aside sufficient capital for ensuring safe and sound management of their risks. These firms could also be subject to simplified obligations with regards to reporting obligations.
The future categorisation of investment firms under the CRD IV should, then, be achieved with reference to the systemic importance of the investment firm or its ability to run 'bank-like' activities, expressed through consistent indicators, both qualitative and quantitative; this would lead to a clear cut in the population of investment firms within the EU. Indeed, a key tool for amending the current complex regime, which establishes rules that apply differently depending on the category to which the firm belongs, could be reducing the number of 'categories' and simplifying the regime by establishing greater use of proportionality, both upstream (strengthening rules for those firms that are deemed to pose more risks to financial stability) and downstream (simplifying requirements for the majority).
In order to set out detailed and well-researched and reasoned policy options for such a modified prudential regime for investment firms, more work is required. It is proposed that this work will be completed in a second phase with a second, more in-depth, report, which is proposed to be initiated after the finalisation of this report. The complexity of the considerations concerning such a new regime will, however, mean substantial time and resources are required.
Report on Investment Firms, Response to the Commission's Call for Advice of December 2014, EBA/Op/2015/20, p. 85
Table focuses solely on the combined provisions as set out in the MiFID and CRD IV. The table does not take into account national transpositions and options, which can apply to:
i) the number of different categories of investment firms;
ii) the definition of MiFID investment services and activities; and
iii) the minimum level of initial capital applicable to each of the categories.
"The MiFID was implemented by way of national transpositions. The application of provisions to some services might give rise to diverging applications at the national level of MiFID investment services and activities. Because of this, it appears that there are some variations with respect to the required level of initial capital requested for particular types of investment services or activities, leading to different (e.g. more granular or, in some cases, fewer) categorisations depending on the jurisdiction where the investment firm actually operates," the EBA's Report of December 2014 concludes.
This thread is followed in the Explanatory Memorandum to the Proposal for a Regulation of the European Parliament and of the Council amending Regulation (EU) No 575/2013 as regards the leverage ratio, the net stable funding ratio, requirements for own funds and eligible liabilities, counterparty credit risk, market risk, exposures to central counterparties, exposures to collective investment undertakings, large exposures, reporting and disclosure requirements and amending Regulation (EU) No 648/2012, 23.11.2016, COM(2016) 850 final 2016/0360 (COD) (p. 22, 23):
"The review under Article 508(3) on investment firms is now in its second phase. In a first report published in December 2015, EBA found that the bank-like rules under the CRR were not fit for purpose for the majority of investment firms with the exception of the more systemic ones that pose risks similar to those faced by credit institutions. At the request of the Commission, the EBA is conducting additional analytical work and a data-gathering exercise in order to articulate a more appropriate and proportionate capital treatment for investment firms which will cover all parameters of a possible new regime. EBA is expected to deliver their final input to the Commission in June 2017. The Commission intends to present legislative proposals setting-up a specific prudential framework for non-systemic investment firms by the end of 2017.
Pending the adoption of these proposals, it is considered appropriate to allow investment firms that are not systemic to apply the CRR in the version as it stood before the amendments come into force. Systemic investment firms will, for their part, be subject to the amended version of the CRR. This will ensure that systemic firms are treated appropriately while alleviating the regulatory burden for non-systemic firms who would otherwise have to temporarily apply a new set of rules designed for credit institutions and systemic investment firms during the period preceding the final adoption of the dedicated investment firms' prudential framework that will be proposed in 2017."
Also the Commission staff working document of 20 December 2017 “Review of the prudential framework for investment firms, accompanying the proposals for a regulation and directive on the prudential requirements and supervision of investment firms” refers to the fact that:
“Under the current CRR/CRDIV-framework, investment firms can be grouped into 11 categories primarily determined by the investment services they are authorised to undertake under MiFID, and whether they hold money and securities belonging to their clients. This categorisation reflects multiple historic and implicit assumptions of the risks and prudential relevance of these services and functions and of how effectively the available risk-metrics developed principally for banks capture and address those risks. Consequently, investment firms which conduct a broad range of services are subject to the same requirements as credit institutions in terms of capital requirements for credit, market and operational risk, and potentially liquidity, leverage, remuneration and governance rules, while firms with limited authorisations (typically those which are considered less risky, i.e. investment advice, reception and transmission of orders) are largely exempt from most of these requirements.”
December 2017 amendment package of the EU prudential rules for investment firms
Based on the foregoing recommendations and analyses the European Commission adopted on 20 December 2017 draft amendments of the EU prudential rules, with the aim to introduce more proportionate and risk-sensitive governing framework for investment firms.
The said legislative initiative consists of two acts that would amend the existing framework set out in the CRD IV/CRR and in the MiFID2/MiFIR:
1. the Proposal for a regulation on the prudential requirements of investment firms and amending Regulations (EU) No 575/2013, (EU) No 600/2014 and (EU) No 1093/2010,
2. the Proposal for a directive on the prudential supervision of investment firms and amending Directives 2013/36/EU and 2014/65/EU.
New rules split investment firms into two groups:
1. the vast majority of investment firms in the EU would no longer be subject to rules that were originally designed for banks;
2. the largest and most systemic investment firms would be subject to the same regime as European banks.
Major innovations include, in particular:
- the capital requirements for the smallest and least risky investment firms will be set in a simpler way, these firms would not be subject to any additional requirements on corporate governance or remuneration,
- for larger firms, the rules introduce a new way of measuring their risks based on their business models,
- for firms which trade financial instruments, these will be combined with a simplified version of existing rules,
- systemic investment firms which carry out certain bank-like activities (i.e. underwriting and dealing on own account) and have assets over €30 billion would be defined as credit institutions and fully subject to the same treatment as banks (as announced in the Commission's review of the European Supervisory Authorities (ESAs), this means that their operations in Member States participating in the Banking Union are subject to direct supervision by the ECB in the Single Supervisory Mechanism).
The proposal gives investment firms a transitional period of five years before they must apply the new requirements in full.
Categorisation of investment firms
According to the review of prudential requirements for investment firms proposed by the European Commission in December 2017 the largest investment firms would remain under the prudential regime of CRR/CRDIV and would be supervised as significant credit institutions.
This would be achieved by treating these investment firms as credit institutions.
Smaller firms would enjoy a new bespoke regime with dedicated prudential requirements.
These would, in most cases, be different from those applicable to banks.
In areas such as own account trading where risks of credit institutions and investment firms are similar, the proposal introduces a simplified version of some of the current prudential requirements into the new regime.
Investment firms would be divided into three classes, each of those capturing different risk profiles.
Class 1 would include investment firms, with total assets above €30bn and which provide underwriting services (underwriting is a commitment to take up on own books financial instruments when others do not buy them) and dealing on own account (an investment firm deals on own account when it trades in financial instruments against its own proprietary capital).
Class 2 firms would be those above any of the following size thresholds:
- assets under management under both discretionary portfolio management and non-discretionary (advisory) arrangements higher than €1.2billion (bn);
- client orders handled of at least €100million (m)/day for cash trades and/or at least € 1bn/day for derivatives;
- balance sheet total higher than €100m;
- total gross revenues higher than €30m;
- exposure to risks from trading financial instruments higher than zero;
- client assets safeguarded and administered higher than zero; and
- client money held higher than zero.
Class 3 firms would be those below all of the above thresholds. They would be subject to the least complex requirements.
Table: Categorisation of investment firms according to the European Commission proposal of 20 December 2017 for the amendment of the EU prudential rules for investment firms
Corporate governance and remuneration framework
“Bank-like" systemic investment firms would be subject to the same treatment as large credit institutions.
They would thereby
|CRR/CRD IV application||CRR/CRD IV application|
Investment firms above any of the following size thresholds:
Minimum capital would be set either as for class 3 investment firms, or according to the new K-factor approach for risk measurement, whichever is higher.
The K- factors specifically target the services and business practices that are most likely to generate risks to the firm, to its customers and to counterparties.
They set capital requirements according to the volume of each activity.
Class 2 firms would continue to apply some provisions based on the CRR/CRDIV, including specific governance arrangements and rules on remuneration which are made to be better suited to the business models of investment firms.
As previously proposed for smaller credit institutions, the rules will allow further proportionality: these firms will be free to choose between the types of instruments used to pay out part of the variable remuneration.
The requirements which are considered as the most burdensome for these smaller investment firms (deferral and pay-out instruments) do not apply to firms below €100 million of total assets and for staff with low levels of variable pay.
Competent authorities can still decide that investment firms below the threshold are not subject to the derogation.
Small and non-interconnected firms below all of the thresholds envisaged for Class 1 and 2.
The least complex requirements.
Minimum capital would be either the level of initial capital required for the investment firms’ authorisation or a quarter of their fixed costs (overheads) for the previous year, whichever is higher.
The rules focus on investor and consumer protection.
MiFID II rules are considered to be sufficient, they:
- ensure that remuneration structures of sales staff do not incentivise staff to recommend products which do not reflect clients' needs,
- offer guarantees concerning robust governance arrangements, such as suitability requirements for board members.
Impact on capital requirements for investment firms
Currently, under the CRR/CRDIV framework the amount of initial capital that is required for a investment firm to be authorised is, by default, EUR 730 000 (Article 29 CRDIV).
This is reduced to EUR 125 000 in cases where a firm does not deal on its own account or underwrite on a firm commitment basis while still holding client money or securities and, if Member States choose, to EUR 50 000 if such a firm is not authorised to hold client money or securities.
European Commission’s Proposal of 20 December 2017 for a directive on the prudential supervision of investment firms and amending Directives 2013/36/EU and 2014/65/EU
1. The initial capital of an investment firm required pursuant to Article 15 of Directive 2014/65/EU for the authorisation to provide the investment services or perform the investment activities listed in points (3), (6), (8) or (9) of Section A of Annex I to Directive 2014/65/EU shall be EUR 750 000.
2. The initial capital of an investment firm required pursuant to Article 15 of Directive 2014/65/EU for the authorisation to provide the investment services or perform the investment activities listed in points (1), (2), (4), (5) or (7) of Section A of Annex I to Directive 2014/65/EU and which is not permitted to hold client money or securities belonging to its clients shall be EUR 75 000.
3. The initial capital of an investment firm required pursuant to Article 15 of Directive 2014/65/EU for investment firms other than those referred to in paragraphs 1 and 2 shall be EUR 150 000.
4. The Commission shall update, by means of implementing acts, the amount of initial capital referred to in paragraphs 1 to 3 of this Article to take account of developments in the economic and monetary field. Those implementing acts shall be adopted in accordance with the examination procedure referred to in Article 56(2).
In some cases, Member States have also adopted entirely different initial capital requirements, partly due to the fact that the levels in CRDIV have not been amended since 1993.
The problem is also compounded by the fact that neither MiFID nor the CRR contain a precise definition of holding client assets.
Therefore, different determinations of whether client assets are "held" under accounting or prudential norms, notwithstanding requirements to ensure they are properly segregated from the firm's own assets, can mean that the application of these rules may differ across Member States (the said Commission staff working document of 20 December 2017, p. 13).
According to the EBA's preliminary analyses, aggregate capital requirements for all EU investment firms are not expected to change significantly as a result of projected changes.
The new capital requirements are expected to be 16% lower than today's total level of harmonised requirements and capital add-ons imposed by supervisors (European Commission, Fact Sheet, Frequently asked questions: Revised Framework for Investment Firms, 20 December 2017).
This more than offsets the 10% increase in the harmonised requirements applicable to all EU firms.
Capital requirements may increase more for some investment firms whose risks would be captured for the first time.
Exemption from concentration rules for commodity and emission allowance dealers
Interestingly, the said European Commission’s Proposal of 20 December 2017 for a regulation on the prudential requirements of investment firms envisages in Article 41 the specific exemption from concentration rules (included in the Part 4 of the draft regulation) for commodity and emission allowance dealers.
The aforementioned Article 41 stipulates that the provisions of the said Part 4 do not apply to commodity and emission allowance dealers when all the following conditions are met for intra-group transactions:
(a) the other counterparty is a non-financial counterparty;
(b) both counterparties are included in the same consolidation;
(c) both counterparties are subject to appropriate centralised risk evaluation, measurement and control procedures;
(d) the transaction can be assessed as reducing risks directly relating to the commercial activity or treasury financing activity of the non-financial counterparty or of that group.
Eligibility to be a member or participant of a regulated market or an MTF
The eligibility to be a member of a regulated market or an MTF in the EU is not restricted to investment firms only, Article 53(3) of MiFID II provides that an entity that is not an investment firm or a credit institution can be a member of a regulated market under certain conditions, this rule being extended to MTFs by Article 19(2) of MiFID II.
Hence, entities exempted from MiFID authorisation under Article 2(1) can also be a member or participant of a regulated market or an MTF.
The above stance is supported by the ESMA’s answer to the Question 4 (Questions and Answers on MiFID II and MiFIR market structures topics, ESMA70-872942901-38, Multilateral and bilateral systems, General, updated on 07.07.2017).
Questions and Answers on MiFID II and MiFIR market structures topics, ESMA70-872942901-38
Multilateral and bilateral systems, General, Question 4 [Last update: 07/07/2017]
Can a person that is not authorised as an investment firm but meets the requirements of Article 53(3) of MiFID II be a member or participant of a regulated market or an MTF?
Yes. Article 53(3) of MiFID II provides that an entity that is not an investment firm or a credit institution can be a member of a regulated market under certain conditions, this rule being extended to MTFs by Article 19(2) of MiFID II.
ESMA considers that this provision should be read in conjunction with the requirements of Article 2(1). Under this provision, a person falling under any of the categories listed in Article 2(1) would not have to be authorised as an investment firm.
However, pursuant to Article 2(1)(d) (ii) of MiFID II, when a person dealing on own account in financial instruments other than commodity derivatives or emission allowances or derivatives thereof and not providing any other investment services or performing any other investment activities in such instruments is also a member of or a participant in a regulated market or an MTF, it falls under the scope of MiFID II, and should accordingly be authorised as an investment firm unless:
- it is exempted under points (a), (i) and (j); or
- it is a non-financial entity which executes transactions on a trading venue which are objectively measurable as reducing risks directly relating to the commercial activity or treasury financing activity of that non-financial entity or its group.
As a consequence, the reference in Article 53(3) to persons other than investment firms and credit institutions only relates to entities that are exempted from authorisation under Article 2(1), such as insurance companies or collective investment undertakings, as long as their own regulatory framework permits them to do so.
This Q&A does not address the issue of non-EEA firms being a member or participant of an EEA trading venue.
Eligibility to provide DEA to an EU trading venue
Non-EU firms (including non-EU firms licensed in an equivalent jurisdiction) or EU firms without a MiFID II licence are not allowed to provide DEA to their clients.
This applies regardless of where the clients using the DEA service are located (the rule underlined by ESMA’s answer to the Question 25 (Questions and Answers on MiFID II and MiFIR market structures topics, ESMA70-872942901-3, Direct Electronic Access (DEA) and algorithmic trading, updated on 15 November 2017).
Questions and Answers on MiFID II and MiFIR market structures topics, ESMA70-872942901-3, Direct Electronic Access (DEA) and algorithmic trading
Question 25 [Last update: 15/11/2017]
Does a firm need to be authorised as an investment firm under MiFID II to provide DEA to an EU trading venue?
Yes, Article 48(7) of MiFID II provides that trading venues should only permit a member or participant to provide DEA “if they are investment firms authorised under [MiFID II] or credit institution authorised under Directive 2013/36/EU”. Therefore, non-EU firms (including non-EU firms licensed in an equivalent jurisdiction) or EU firms without a MiFID II licence are not allowed to provide DEA to their clients. This applies regardless of where the clients using the DEA service are located.
Authorisation process of investment firms
Criteria for the authorisation process of investment firms under MiFID II are stipulated uniformly across the European Union Member States in the Commission Delegated Regulation (EU) 2017/1943 of 14 July 2016 supplementing Directive 2014/65/EU of the European Parliament and of the Council with regard to regulatory technical standards on information and requirements for the authorisation of investment firms.
The said Regulation is structured in the following way:
- Articles 1 to 7 detail the information to be provided to the competent authorities by investment firms as part of the process for granting and refusing requests for authorisation;
- Articles 8 to 10 set out the requirements applicable to the management of investment firms and the requirements applicable to shareholders and members with qualifying holdings, as well as obstacles which may prevent effective exercise of the supervisory functions of the competent authority.
The above Regulation is largely based on the existing standards and forms contained in the CESR (ESMA's predecessor) Protocol on MiFID Notifications, hence the EU financial regulator does not expect the costs implied by these rules to be significant.
Third country equivalence for investment services
MiFiDII/MIFIR provides a framework under which the European Commission may take a decision to recognise a third country's prudential and market conduct framework as equivalent to EU rules for certain types of activities directed at professional clients.
As long as such a decision has not been taken, the EU Member States national rules apply for third country firms.
Consequently, every EU Member State is free to determine itself the conditions according to which firms based in third countries may access their market.
As the proposals of 20 December 2017 change the EU prudential rules for investment firms, the equivalence test must also be adjusted to include these new rules (European Commission, Fact Sheet, Frequently asked questions: Revised Framework for Investment Firms, 20 December 2017).
According to the the European Commission’s reminder of 13 July 2020 (Notice to Stakeholders on Withdrawal of the United Kingdom and EU rules in the field of markets in financial instruments, REV1 - replacing the notice dated 8 February 2018), in the absence of the relevant agreement:
1. At the end of the transition period, entities established and authorised by United Kingdom competent authorities (UK investment firms) will no longer benefit from the MiFID authorisation to provide MiFID investment services and activities in the Union (they will lose the so-called "EU passport") and will become third-country firms. This means that those investment firms will no longer be allowed to provide services in the EU on the basis of their current authorisations;
2. EU subsidiaries (legally independent companies established in the EU and controlled by or affiliated to firms established or authorised in the United Kingdom) can continue to operate as EU investment firms if they have obtained a MiFID authorisation in one of the EU Member States. These firms, like any other authorised EU MiFID firm, have to comply with MiFID requirements amongst others in terms of substance requirements (including governance, outsourcing or the use of branches in a third-country to provide services back in the EU). Such firm's business model and structure (including links with non-EU entities) will be part of the assessment of the relevant MiFID competent authorities (e.g. qualifying shareholders, the group business model/structure, the potential (prudential) consolidated supervision or lack thereof, etc.);
3. Branches in the EU of UK investment firms will become branches of third-country investment firms and will need to comply with national requirements applicable in the Member State where the branch is established or with the regime set in Article 39-41 MiFID II where applicable. The provision of services/activities is limited to that Member State's territory.
Status of investment firms under REMIT