Businesses relying on exemptions for high net worth individuals and self-certified sophisticated investors should ensure they are prepared to comply with the updated requirements.
On 7 November 2023, HM Treasury published the response to its consultation on reforming the financial promotion exemptions for high net worth individuals and self-certified sophisticated investors. These exemptions are set out in Articles 48 and 50A of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (the FPO), respectively. They enable financial promotions for unlisted companies to be made to individuals who satisfy the relevant conditions, and were originally designed to assist unlisted companies with raising capital.
HM Treasury and the FCA are concerned that the exemptions, which have not been updated since 2005, are outdated as the financial thresholds have not been raised. This has meant that more individuals have been able to qualify for the exemptions. HM Treasury and the FCA have also been concerned that some businesses have been inappropriately using the exemptions to market investments to ordinary retail investors, including by coaching individuals to self-certify.
HM Treasury ran a consultation on changes to the exemptions from December 2021 to March 2022. It proposed a number of ways in which it could update and strengthen the exemptions, including increasing the financial thresholds, amending the statements that individuals must complete, and increasing the responsibility on firms to ensure that individuals actually meet the relevant criteria for the exemptions.
We summarise below the outcome of the consultation and the changes that HM Treasury is making to the exemptions. Interestingly, the changes confirmed by HM Treasury are not as extensive as expected given the concerns raised. In particular, HM Treasury is not proposing to put any greater responsibility on businesses using the exemptions.
High Net Worth Individual Criteria
HM Treasury has decided to raise the financial thresholds so that, to qualify for the exemption, an individual will need to have:
- income of at least £170,000 (up from £100,000) in the last financial year; or
- net assets of at least £430,000 (up from £250,000) throughout the last financial year
However, HM Treasury has only chosen to go with its baseline proposal of increasing the figures in line with inflation, rather than setting the thresholds to capture the top 1% of income and wealth, which is what the original thresholds represented. The updated statement that individuals must complete will emphasise that these figures do not include one-off pension withdrawals, given the recent introduction of pensions freedoms.
Further, the word “certified” is being removed from the title of the exemption, as investors have not needed to be certified in order to use this exemption since 2005.
Self-Certified Sophisticated Investor Criteria
The criterion relating to company directorship will be amended so that an individual who has been a director of a company with an annual turnover of at least £1.6 million in the last two years (up from £1 million) will qualify for the exemption. This figure has also been raised in line with inflation, although HM Treasury notes that some respondents considered the existing threshold to be adequate, whilst others believed that this criterion should be removed entirely.
HM Treasury is removing the exemption for individuals who have made an investment in an unlisted company in the previous two years. HM Treasury considers that this is no longer an indicator of sophistication, given the ease with which individuals may now invest in unlisted companies due to the rise in online investment platforms.
The other two criteria under which an individual can qualify as a self-certified sophisticated investor have been left unchanged. These relate to being a member of a network or syndicate of business angels, and working in the private equity sector or in the provision of finance for SMEs. Although there were some suggestions to include new criteria, HM Treasury has decided not to take these forward, choosing to keep the scope of the exemption limited.
HM Treasury has designed updated investor statements that individuals who wish to rely on the exemptions must complete. The changes are designed to improve the format, simplify the language used, and require more engagement from individuals when completing them. HM Treasury reports that its proposals to update the statements received strong support. In particular, HM Treasury has chosen to move the criteria for qualifying for the exemptions to the top of the statements, place greater emphasis on the regulatory protections that investors may lose as a result of receiving promotions under the exemptions, and require individuals to indicate which specific criterion applies to them. In the high net worth individual statement, HM Treasury has also made clearer which income and assets should be excluded from the thresholds.
HM Treasury is introducing a new requirement within the exemptions that the person or business making the communication must provide their details in any communications made using the exemptions. These details include company address, contact information, and the company’s registration details. HM Treasury considers that this will enable prospective investors to undertake their own due diligence on the communicator, and will also assist the FCA with its oversight of financial promotions.
Responsibility for Meeting the Criteria
In light of the feedback received, the government has decided not to place more responsibility on businesses making promotions to ensure that individuals meet the relevant criteria. At present, businesses relying on the exemptions must simply believe on reasonable grounds that the individual is a certified high net worth individual or self-certified sophisticated investor. They need only believe that the individual has signed the relevant statement, not that the criteria for signing the statement have been met. HM Treasury reports that a large majority of respondents disagreed with its proposal to place more responsibility on businesses, highlighting significant practical issues such as suggesting this would impose a barrier to investors reviewing numerous investment opportunities. Feedback also suggested that placing greater responsibility on businesses would make it more difficult for businesses relying on the overseas persons exemption, as they would find it hard to demonstrate a legitimate approach if they need to verify that an individual meets the exemption criteria.
The FCA has made very clear (most recently in its latest perimeter report) that it considers firms should have more responsibility in verifying that individuals meet the conditions:
“we believe that reforms will only be effective if self-certification is removed entirely, and the threshold to be considered ‘high-net worth’ (HNW) is raised significantly. There should be a greater responsibility on firms to verify individuals meet the criteria to be HNW or sophisticated.
Leaving this aspect of the legislation unchanged would undermine other measures to strengthen the financial promotions regime, and continue to lead to significant consumer harm that we are unable to reduce. We are not aware of any other jurisdiction that allows firms to use exemptions purely based on investors’ self-certification.”
Therefore, the FCA will no doubt be disappointed with this outcome. Perhaps this reflects the ongoing tensions between the government’s overarching desire to facilitate more investment in SMEs and the wish to ensure adequate consumer protection against risky or unsuitable investments.
HM Treasury notes in its response that the FCA also has exemptions that mirror the above FPO exemptions within its rules for authorised firms wishing to market high-risk investments. It will be interesting to see whether and how the FCA chooses to amend these exemptions in light of the outcome of this consultation.
These changes will be implemented via secondary legislation, which was laid before Parliament on 6 November 2023. Notably, equivalent amendments are also being made to the corresponding exemptions in the Financial Services and Markets Act 2000 (Promotion of Collective Investment Schemes) (Exemptions) Order 2001. The government intends to bring the changes into effect on 31 January 2024 (subject to Parliamentary approval of the legislation). New promotions made from this date will need to comply with the updated exemptions, as HM Treasury does not consider it necessary to introduce any transitional measures.
Consequently, businesses that rely on these exemptions will need to review their policies and procedures in relation to financial promotions and ensure that they are prepared to comply with the amended exemptions.