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D&I in FS: new rules and guidance on non-financial misconduct

The FCA is focused on reducing non-financial misconduct to enhance the reputation of the UK financial services sector. Spurred on by positive levels of engagement with its 2021 discussion paper, the FCA’s latest consultation on diversity and inclusion in the financial sector reinforces its view that non-financial misconduct is misconduct, plain and simple. However, there remain a number of challenging issues that firms will need to carefully navigate.

Fitness and propriety  

Firms are required to assess the fitness and propriety of staff performing a Senior Management Function or Certification Function, on an ongoing basis. The relevant criteria for this assessment are contained in the Fit and Proper test for Employees and Senior Personnel (FIT) section of the FCA’s Handbook.

The FCA proposes amending FIT to clarify how non-financial misconduct should be treated. This includes clarifying the criteria for assessing fitness and propriety and explaining the circumstances in which non-financial misconduct, including bullying and sexual misconduct, occurring inside or outside the workplace, may be relevant to FIT assessments.

The new guidance clarifies the circumstances in which non-financial misconduct occurring outside the workplace could or should be taken into account by firms reviewing an individual’s fitness and propriety.  Perhaps the most significant point to note is that the FCA’s proposed guidance makes clear that it will not always be necessary to demonstrate a direct link between the non-financial misconduct and how an individual may perform their professional role, a test examined by the Upper Tribunal in Frensham and revisited in Zahedian. For example, the FCA’s proposed guidance says that:

  • misconduct in a person’s private life that is “disgraceful, morally reprehensible or otherwise sufficiently serious” may be relevant to their FIT assessment even if there is little or no risk of it being repeated in their work; and
  • conduct of a type that can damage public confidence in the financial system is likely to mean that a person is not fit and proper. 

This new guidance will require firms’ internal decision-makers to make complex, often value-based, judgements on ethically sensitive grounds. For example, although there is likely to be some common ground across the industry as to what may constitute “undesirable” and “disgraceful” behaviour, firms may take different views about whether less severe conduct falls within these categories. Firms will need to consider what additional guidance and training should be provided to internal decision-makers to enable them to make these assessments and whether any changes need to be made to internal processes applicable to FIT assessments.

The Code of Conduct

Under the Senior Managers and Certification Regime (SMCR), the FCA’s Code of Conduct Rules (COCON) apply to all employees of regulated firms, save for those undertaking certain business support functions, such as catering staff and cleaners. The scope of COCON is currently restricted (except in the case of dual-regulated firms and PRA investment firms) to regulated activities, other so-called SMCR financial activities and certain kinds of misconduct that could have serious effects.

However, the FCA proposes to clarify the scope of COCON to make it clear that it covers serious instances of bullying, harassment and similar behaviour towards fellow employees, employees of group companies and contractors. COCON does not currently, and will not be extended to, cover conduct in an individual’s private or personal life. These proposals would not affect firms that do not currently fall within scope of the Conduct Rules.

The FCA has prepared draft Handbook guidance which includes examples of conduct that would fall within (eg misconduct between two employees at a social occasion organised by a client of the firm) and outside (eg misconduct in relation to a member of the public while an employee is commuting) COCON. But, even with this additional guidance, significant grey areas will remain where firms would need to make their own assessments.

The draft Handbook guidance also provides a list of criteria firms should refer to when assessing the seriousness of misconduct, as well as a non-exhaustive list of behaviours the FCA considers would amount to a breach of Individual Conduct Rule 1 (integrity).   

Implications for people managers

The FCA’s proposals also set out a non-exhaustive list of examples of misconduct by a manager that would constitute a breach of FCA Individual Conduct Rule 2 (acting with due skill, care and diligence) as a manager. These include:

  1. failing to take reasonable steps to protect staff against serious misconduct;
  2. failing to take seriously or deal effectively with complaints of behaviour of this type; and
  3. abusing or misusing their position as a manager in a way that undermines, humiliates, denigrates or injures another employee that is not a breach of Conduct Rule 1 (acting with integrity), because the manager had a “reasonable belief” that there was a good and proper reason for the conduct, or did not intend to have a negative impact on the subject of the misconduct, did not know they were doing so and was not reckless in going about this.

A firm may decide to allocate responsibility for diversity, inclusion and fair treatment of staff to a particular Senior Manager or function within the firm. If the firm chooses to do so, other managers should be mindful that they still have responsibility for developing and embedding appropriate working cultures and practices in their own respective areas of responsibility.

Regulatory references

The FCA proposes to amend its guidance on giving and updating regulatory references to clarify that non-financial misconduct may need to be disclosed, something that many firms are already used to doing where needed. The draft guidance explicitly states that a firm may need to disclose misconduct in relation to someone outside the work context, as well as misconduct relating to someone within its workforce.

Internal investigations 

When conducting an internal investigation into an employee’s misconduct, firms must carefully consider the scope of the FCA’s proposals and whether the non-financial misconduct in question meets the threshold of the behaviours set out in the FCA’s proposed expanded rules, alongside factors that firms have already been considering in this space. These include “serious” behaviour which has the purpose or effect of violating another employee’s dignity or creating an intimidating, hostile or otherwise offensive environment, is offensive, intimidating or violent to that employee, or is unreasonable, oppressive, humiliating, degrading or injures another employee. Whilst this is a high threshold, these behaviours are wide in scope and therefore firms will need to make a careful assessment as to whether the misconduct is serious enough to fall within the remit of the proposed changes to the Conduct Rules.

Evidential challenges are likely to arise where a manager’s conduct is under investigation and they claim, in their defence, that there was a “good and proper” reason for them having conducted themselves in a particular way. In these circumstances, decision makers will need to consider: whether or not the manager actually believed there was a good and proper reason to behave in the way that they did; and whether it was reasonable for the manager to hold this belief.   

Drawing the line between what constitutes a person’s private and work life will likely also remain a challenge, particularly where the misconduct takes place outside the workplace and does not clearly fall within one of the types of misconduct already listed in guidance for COCON that can be easily categorised as ‘in scope’ of COCON. 

Moreover, the evidentiary difficulties in investigating misconduct outside of the workplace will likely also remain a challenge and the new guidance appears to be a missed opportunity to provide any further clarification in this area.

The next post in this series will explore the FCA and PRA proposals relevant to senior managers’ oversight. 

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