Of the rights forfeited by the UK after the Brexit outcome, passporting rights are arguably the most critical to businesses within the financial services industry.
Pre-Brexit, banks and asset managers based in the UK had the luxury of marketing and selling their products to all other EU members without having to establish a subsidiary there first. Without these special privileges, the UK will need to devise a new solution if it wants to remain competitive in the Eurozone.
Many commentators suggested over the course of the Brexit debate that the UK could set up a brass-plaque enterprise in the EU, a strictly nominal headquarters, to solve the pernicious passport problem.
No simple solution
According to the legal firm Hogan Lovells, however, the solution to this problem is hardly that simple.
First of all, if a financial services institution is to conduct regulated activity in the UK and EU, the Hogan Lovells lawyers said there is likely to be a new requirement for said entity to be appropriately regulated and authorised in the UK and EU, in order for authorities to keep tabs on its activities within each jurisdiction.
"There would therefore likely be reluctance to accept a significant movement to brass plaque banks in Luxembourg/Dublin carrying out activity in Italy, supported by material UK operations.”
Alternatively, a UK-based bank or asset manager could establish another regulated group company across the UK/EU border, the firm said.
However, both of these routes “could result in significant expense, duplication of governance and control functions and additional capital requirements for the additional entity, all of which the "brass plaque" offers no remedy for,” the lawyers warned.
The potential loss of passporting rights within the UK has already prompted a number of large institutions to begin contemplating the process of relocating employees from the UK to cities within the EU, such as Paris, Frankfurt, Dublin and Luxembourg, that will act as a new legal home base.
If UK companies were able to effectively outsource regulated activity and back office functions from these new EU posts, the lawyers stated this could mitigate against the costs and disruptions of moving entire operations from the UK to the EU.
Nevertheless, this outsourced model may not be an option for smaller financial services businesses.
“Local regulators of the EU entity may also want to ensure, in respect of any regulated entity for which they are responsible, that the entity is itself a substantial organisation with its own mind and management – this could affect the scale to which an outsourced model could be applied,” the lawyers explained.
Also, the success of this outsourcing model depends entirely on the EU regulator you’re dealing with, said the firm’s Rome-based partner, Jeff Greenbaum. “Italian regulators are already concerned about current home state regulator supervision of cross border financial services.
"There would therefore likely be reluctance to accept a significant movement to brass plaque banks in Luxembourg/Dublin carrying out activity in Italy, supported by material UK operations,” he said.
“While this approach may be viable for products (e.g. Ucits), Italian regulators would be unlikely to view this as a viable solution for significant financial services, unless they felt the new home state regulator could and would effectively supervise the activities,” Greenbaum added.