Financial services and regulation - Identification of specified investments and activities

Learning Outcomes

After studying this article, you will be able to identify and explain the meaning of specified investments and regulated activities under the Financial Services and Markets Act 2000 (FSMA) and the Regulated Activities Order (RAO). You will be able to determine when FCA authorisation is required, recognise key exclusions and exemptions, and apply these principles to practical scenarios relevant to SQE1.

SQE1 Syllabus

For SQE1, you are required to understand the regulatory framework for financial services in England and Wales, with a particular focus on identifying when an activity is regulated and when authorisation is required. As you work through this article, focus your revision on:

• the definition and categories of specified investments under FSMA and the RAO
• the meaning of regulated activities and how they interact with specified investments
• when FCA authorisation is required and the consequences of unauthorised activity
• key exclusions and exemptions, including the professional firms exemption
• how to apply these rules to practical scenarios involving legal practice.

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. Which of the following is a specified investment under the Regulated Activities Order?
   1. Shares in a private company
   2. Freehold land
   3. Physical gold bullion
   4. A standard residential mortgage
2. Which of the following activities would generally require FCA authorisation?
   1. Advising a client on the purchase of shares in a listed company
   2. Arranging a loan between two companies within the same group
   3. Acting as a trustee and managing trust investments
   4. Introducing a client to an authorised financial adviser, with no further involvement

3. True or false? A solicitor giving incidental investment advice as part of a conveyancing transaction always requires FCA authorisation.

Introduction

The regulation of financial services in England and Wales is centred on the Financial Services and Markets Act 2000 (FSMA) and the Regulated Activities Order 2001 (RAO). For SQE1, you must be able to identify when an investment is "specified" and when an activity is "regulated," as these determine whether FCA authorisation is required. This article explains the key concepts and how they apply in practice.

Specified Investments

The FSMA and RAO define "specified investments"—financial products and instruments that fall within the regulatory perimeter. Only activities involving specified investments are regulated.

Key Term: specified investment
A financial product or instrument listed in the RAO that, when combined with a regulated activity, brings the activity within the scope of FCA regulation.

The main categories of specified investments include:

• Shares (equity in companies)
• Debentures and bonds (corporate debt instruments)
• Government and public securities (e.g., gilts)
• Units in collective investment schemes (e.g., unit trusts, OEICs)
• Insurance contracts (life, general, annuities)
• Options, futures, and contracts for differences (derivatives)
• Regulated mortgage contracts (loans secured on residential property)
• Deposits (e.g., cash held in bank accounts)

Some assets are not specified investments, such as freehold land, physical goods, or most intellectual property rights.

Key Term: Regulated Activities Order (RAO)
A statutory instrument that lists the types of investments and activities regulated under FSMA.

Regulated Activities

A "regulated activity" is an activity of a specified kind, carried on by way of business, that relates to a specified investment. The RAO lists the main regulated activities.

Key Term: regulated activity
An activity listed in the RAO that, when carried out by way of business and involving a specified investment, requires FCA authorisation unless an exemption or exclusion applies.

Common regulated activities include:

• Dealing in investments as principal or agent (buying/selling for oneself or others)
• Arranging deals in investments (bringing about or making arrangements for transactions)
• Managing investments (discretionary management of client assets)
• Advising on investments (giving specific investment advice)
• Safeguarding and administering investments (custody services)
• Operating a collective investment scheme
• Entering into and administering regulated mortgage contracts

Key Term: Financial Conduct Authority (FCA)
The main regulator for financial services and markets in the UK, responsible for authorising and supervising firms and individuals.

The Four-Stage Test

To determine if an activity is regulated, apply the following test:

1. Is the person acting "by way of business"?
2. Is there a specified investment involved?
3. Is the activity a specified regulated activity?
4. Does any exclusion or exemption apply?

If the answer to all but the last is "yes," FCA authorisation is required unless an exclusion or exemption applies.

Worked Example 1.1

A solicitor is advising a client on whether to invest in shares of a listed company as part of a business sale. The solicitor gives specific advice about the merits of the investment.

Answer: Advising on investments (shares) is a regulated activity involving a specified investment. Unless an exclusion or exemption applies, FCA authorisation is required.

Exclusions

The RAO provides for exclusions—circumstances where an activity that would otherwise be regulated is not treated as such. Common exclusions relevant to legal practice include:

• Introducing: Simply introducing a client to an authorised person, with no further involvement, is excluded from regulation.
• Arranging through an authorised person: If the client acts on the advice of an authorised third party, the solicitor's arranging activity may be excluded.
• Trustee/personal representative: Acting as a trustee or personal representative and managing investments for beneficiaries is excluded, provided no extra remuneration is received.
• Professional/necessary exclusion: Activities that are a necessary part of another professional service (e.g., legal advice) may be excluded, unless separately remunerated.

Key Term: exclusion
A provision in the RAO that removes certain activities from the scope of regulation, even if they would otherwise be regulated.

Key Term: exemption
A statutory provision allowing certain persons or firms to carry on regulated activities without FCA authorisation, subject to conditions.

Exemptions

Some professional firms, such as solicitors regulated by the SRA, may rely on the "professional firms exemption" (also known as the designated professional body exemption). This allows them to carry out certain regulated activities that are incidental to their legal work, provided they meet strict conditions:

• The activity must arise out of or be ancillary to legal services provided to a particular client.
• The activity must be incidental to the main legal service.
• The firm must not receive or retain any commission or benefit from a third party unless it is fully disclosed to the client.
• The firm must comply with SRA rules on financial services activities.

Worked Example 1.2

A solicitor acting in a probate matter arranges for the sale of shares held by the estate. The solicitor receives a commission from the broker and does not inform the client.

Answer: The solicitor may rely on the professional firms exemption only if the commission is disclosed to the client. Failure to disclose breaches both the exemption and SRA rules.

Consequences of Unauthorised Activity

Carrying out a regulated activity without FCA authorisation (and without a valid exclusion or exemption) is a criminal offence under FSMA. Penalties include fines, imprisonment, and unenforceability of contracts entered into in breach.

Exam Warning

Carrying on regulated activities without FCA authorisation is a strict liability offence. Always check for exclusions and exemptions before advising or acting.

Practical Application: Legal Practice Scenarios

• Advising on land: Land is not a specified investment. Advising on the purchase or sale of land is not a regulated activity.
• Arranging a mortgage: Most residential mortgages are specified investments. Arranging or advising on a regulated mortgage contract is a regulated activity, unless an exclusion or exemption applies.
• Group transactions: Transactions solely within a corporate group may be excluded from regulation.

Worked Example 1.3

A solicitor introduces a client to an authorised financial adviser and has no further involvement. The adviser pays the solicitor a referral fee, which is disclosed to the client.

Answer: The introduction exclusion applies, but the solicitor must disclose the referral fee to the client under SRA rules. If the fee is not disclosed, the exclusion may not be available.

Summary

Key Point Checklist

This article has covered the following key knowledge points:

• Specified investments are defined in the RAO and include shares, bonds, insurance contracts, and more.
• Regulated activities are listed in the RAO and include dealing, arranging, managing, advising, and safeguarding investments.
• FCA authorisation is required to carry on regulated activities involving specified investments unless an exclusion or exemption applies.
• Common exclusions include introducing, acting as trustee, and activities necessary to legal services.
• Solicitors may rely on the professional firms exemption for incidental regulated activities, subject to strict conditions.
• Carrying on regulated activities without authorisation is a criminal offence.

Key Terms and Concepts

• specified investment
• Regulated Activities Order (RAO)
• regulated activity
• Financial Conduct Authority (FCA)
• exclusion
• exemption