MiFID II / MiFIR series

Publication | April 2014


The Markets in Financial Instruments Directive (MiFID) is one of the cornerstones of EU financial services law setting out which investment services and activities should be licensed across the EU and the organisational and conduct standards that those providing such services should comply with.

Following technical advice received from the European Securities and Markets Authority (ESMA) and a public consultation, the European Commission published legislative proposals in 2011 to amend MiFID by recasting it as a new Directive (MiFID II1) and a new Regulation (MiFIR2). The legislative proposals were the subject of intense political debate between the European Parliament, the Council of the EU (the Council), and the Commission. However, informal agreement between the EU institutions was finally reached in February 2014. On 15 April 2014, the texts were approved by the European Parliament in plenary session which will enable the Council to adopt them.

Once the Council has adopted MiFID II and MiFIR, the texts will be published in the Official Journal of the EU (OJ). The Commission’s request to ESMA for technical advice on implementing measures estimates the entry into force of MiFID II and MiFIR to be in June 2014. Entry into application will then follow 30 months later. The implementing measures that will supplement MiFID II and MiFIR will take the form of delegated acts and technical standards. ESMA indicated that a discussion paper on the technical standards would be published shortly after the European Parliament approved the final texts. However, so far the discussion paper has not been published. Following the responses to the discussion paper, ESMA will publish a consultation paper on draft technical standards later in 2014 or early in 2015.

Conduct of business

While the headline changes to the MiFID regime center on market infrastructure, there are many small changes being made to conduct of business requirements which, together, snowball into significant regulatory reform in this area. This note focusses on the changes being introduced to the conduct of business rules by MiFID II in relation to conflicts, inducements and commission.


Current requirements under MiFID

MiFID currently requires firms to: (1) identify conflicts of interest that may result from their business and manage them (and the Level 2 measures set out a list of what conflicts of interests are potentially detrimental to a client); and (2) where a firm’s organisational and administrative arrangements will not adequately manage those conflicts, to disclose the nature and source of the conflict to clients before conducting business with them. The Level 2 measures further require firms to identify, on an ongoing basis, the conflicts that firms face and to put in place conflict of interest policies setting out these conflicts and how they are to be managed. There are prescribed requirements for the disclosure, namely that it must be in a durable medium and include sufficient detail (taking into account the nature of the client) to enable that client to take an informed decision with respect to the service that gives rise to the conflict.

Changes to be introduced by MiFID II (Article 23)

MiFID II will introduce the following changes:

  • a stricter requirement on firms to prevent conflicts of interest from arising in the first place, instead of merely trying to manage identified conflicts;
  • some of the existing requirements/provisions of the MiFID Level 2 measures have been brought into Level 1 of MiFID II (e.g. disclosing conflicts created by third party inducements and a firm’s internal financial incentive/remuneration structures) but these are not new; and
  • with MiFID II now applying to investment firms and credit institutions selling their own securities, these conflict requirements will apply to them where they do so.

These changes have been made in an attempt by the EU to reduce the conflicts that are arising in investment firms. It remains to be seen what additional changes may be introduced by the Level 2 measures and ESMA guidelines.

Impact on firms

These changes are likely to have the following impact on firms:

  • firms may need to reassess the conflicts that arise from their business (bearing in mind any different client categories - retail, professional, etc.) and what steps need to be taken to prevent, manage and (where needed) disclose them;
  • firms may need to put in place or update their internal procedures and systems and controls to try to prevent conflicts as well as manage those that cannot be prevented – all of which should be documented and signed off by senior management; and
  • firms may need to update their conflict of interest policies to identify those conflicts that cannot be prevented and set out how the firm has tried to mitigate them.


Current requirements under MiFID

MiFID and the Level 2 measures currently require the payment of fees or commissions and other non-monetary benefits between firms and advisory firms to be carefully considered to ensure they are not an inducement and, therefore, do not create any conflicts between a firm and its clients.

Any payments are required to be assessed to ensure that they do not impair the firm’s duty to act in the best interests of the client, that they “enhance the quality” of the service being provided to the client and that they are disclosed to the client. In the UK, these requirements have been implemented through COBS 2.3 (which applies more widely than just to MiFID investment firms).

Changes to be introduced by MiFID II

MiFID II will introduce the following changes:

  • there is now a complete ban on inducements being received in certain circumstances – see the discussion under ‘Commissions’ below;
  • other than where a firm is providing independent advice or portfolio management, any fees, commission or other monetary or non-monetary benefits must comply with the existing inducement rules that were set out in the MiFID Level 2 measures but which are now contained in the Level 1 text of MiFID II; and
  • the only addition is that firms, where applicable, must also inform clients on how the fee/commission/non-monetary benefit can be transferred to them.

These changes have been introduced to further tighten up the inducement rules.

Impact on firms

For firms not providing independent advice or portfolio management, there is little change. For firms providing independent advice or portfolio management, see the discussion under ‘Commission’ below. It remains to be seen what additional changes may be introduced by the Level 2 measures and ESMA guidelines.


Current requirements under MiFID

Under MiFID, so long as any commissions complied with the inducement rules (discussed above), there were no additional restrictions on receiving commission.

Changes to be introduced by MiFID II

MiFID II will introduce the following changes:

  • firms providing investment advice on an independent basis or portfolio management, will in most circumstances, be prohibited from retaining any fees, commission, monetary or non-monetary benefits received from third parties – these payments/benefits can be received and passed onto clients but cannot be received and retained by firms;
  • after much negotiation, minor non-monetary benefits are excluded from the ban but must comply with the inducement rules – i.e. enhance the service to clients, etc., (see the commentary above). There is no definition of what constitutes a ‘minor non-monetary benefit’ and this is expected in the Level 2 measures;
  • firms are unable to set off any payments from fees owed to them;
  • clients need to be accurately and, where relevant, periodically informed about all the fees, commissions and benefits the firm has received in connection with the investment services provided; and
  • Member States are also given the ability to impose greater restrictions (i.e. gold plate), in exceptional circumstances.

These changes have been introduced to address concerns around potential conflicts of interest arising where advisory firms hold themselves out as being independent yet receive payments from product providers or other third parties and similarly with portfolio managers receiving such payments.

Impact on firms

  • EU Member States firms (excluding UK)

For EU firms providing independent advice or portfolio management, this will have a huge impact. While such firms would have previously been able to be remunerated by commission, this will cease. It remains to be seen what grandfathering arrangements are to be provided for. These changes will have the following impact on relevant firms:

  • as there are no similar obligations on product providers, relevant firms will need to start to review their distribution arrangements with product providers and to renegotiate their distribution agreements;
  • relevant firms may need to reassess their business models to determine what changes they will need to make to be appropriately remunerated;
  • relevant firms will need to assess what non-monetary benefits they currently receive and whether these can be classified as minor and watch out for additional ESMA clarification on what this means; and
  • relevant firms will need to set up a policy to ensure that third party payments received are allocated and transferred to clients.

For firms from some EU Member States (notably the Netherlands, Italy and France), there has already been a ban of sorts on investment firms receiving payments from third parties so this may not represent such an impact in these countries.

As the majority of advisory firms in Europe generally operate a bancassurance model (so restricted advice), where commissions can continue to be paid and received (subject to complying with the inducement rules), this may not be a big impact.

For product provider firms distributing through independent advisory firms or dealing with portfolio managers, this will have a huge impact. They will see their distribution arrangements changing other than when they are distributing into the UK (where non-UK product providers would have already seen changes to their distribution arrangements – discussed below).

  • UK firms

For UK firms, the changes being introduced by MiFID II will not be as significant as for EU firms as, the UK already has a ban on advisory firms receiving commission for both independent and restricted advice by the UK’s Retail Distribution Review (RDR) which gold-plated MiFID. The changes being introduced by MiFID II will in effect result in the UK ‘gold plating’ MiFID II in this area. MiFID II permits Member States to implement additional requirements. Therefore, for UK advisory businesses it is essentially business as usual. One area of potential change is the new requirement not to set-off any payments received against fees due to the firm, as this may have the potential to impact on the current ability of firms in the RDR to have the fees due to them from the client for their advice facilitated from the product. In addition, with structured deposits now included as a form of investment product, it is likely that the UK regulator will amend the products that are caught under the RDR to include structured deposits, so UK advisory firms will need to bring structured deposits within their RDR adviser charging models.

For UK portfolio management firms, MiFID II may see the rules on the use of dealing commission tightened (even further than what has been proposed recently by the UK regulator) depending on ESMA’s final views on what constitutes a ‘minor’ non-monetary benefit.

  • Cross border business

The changes proposed by MiFID II, together with the UK measures (under the RDR) having already gold-plated MiFID II, will continue to see an un-level playing field in Europe. UK firms operating on a cross-border basis into other Member States will be subject to the more restrictive UK requirements and non-UK firms may find that different rules apply when they wish to conduct business into the UK. Having said that, if non-UK firms operate into the UK on a purely cross-border basis (and not through a branch), the UK is not likely to apply the stricter UK requirements to that cross-border business as this is the approach that the UK took when it gold-plated MiFID.

  • 1 Directive on Markets in Financial Instruments repealing Directive 2004/39/EC and amending Directive 2011/61/EU
    and Directive 2002/92/EC.
  • 2 Regulation on Markets in Financial Instruments and amending Regulation 648/2012.