June 2023 Regulatory roundup

Council adopts rules which will make crypto-asset transfers traceable

On 16 May 2023, the Council adopted updated rules (recast revised Wire Transfer Regulation (WTR)) on information accompanying the transfers of funds by extending the scope of the rules to transfers of crypto assets. The EU is making it more difficult for criminals to circumvent anti-money laundering rules via crypto currencies. This ensures financial transparency on exchanges in crypto-assets and provides the EU with a solid framework that complies with the most demanding international standards on the exchange of crypto-assets, ensuring that these are not used for criminal purposes.

Under the new rules, crypto asset service providers are obliged to collect and make accessible certain information about the sender and beneficiary of the transfers of crypto assets they operate, regardless of the amount of crypto assets being transacted. This ensures the traceability of crypto-asset transfers in order to be able to better identify possible suspicious transactions and block them.

Background

This Regulation is part of a package of legislative proposals to strengthen the EU’s anti-money laundering and countering terrorism financing (AML/CFT) rules, presented by the Commission on 20 July 2021. The package also includes a proposal to create a new EU authority to fight money laundering.

The Council agreed its position on the transfer of funds proposal on 1 December 2021. Trilogue negotiations started on 28 April 2022 and ended in a provisional agreement on 29 June. This formal adoption is the final step in the legislative process.

The Regulation will now be published in the Official Journal. The recast revised WTR will enter into force 20 days after publication and apply 18 months after that. The Council has also published the voting result for adoption of the Regulation.

European Commission updates list of high-risk third countries under the Fourth Money Laundering Directive

On 17 May 2023, the European Commission adopted a Delegated Regulation that amends the list of high-risk third countries with strategic AML and CTF (anti-money laundering and countering terrorism financing) deficiencies, produced under Article 9(2) of the Fourth Money Laundering Directive (MLD4).

The Delegated Regulation: (i) adds Nigeria and South Africa to the list; and (ii) removes Cambodia and Morocco.

The Council and the European Parliament will scrutinise the Delegated Regulation and if neither object, it will enter into force 20 days following its publication in the Official Journal.

European Banking Authority consultation on amendments to the guidelines on ML/TF risk factors

On 31 May 2023, the European Banking Authority (EBA) launched a public consultation on amendments to its Guidelines on money laundering and terrorist financing (ML/TF) risk factors.

The proposed changes extend the scope of these Guidelines to crypto-asset service providers (CASPs).

CASPs as well as other credit and financial institutions are exposed to ML/TF risks. For CASPs, these risks can be increased, due to, for example, the use of innovative technologies, instant transfers of crypto assets across the world and services that contain privacy-enhancing features. 

The EBA is proposing to amend its ML/TF risk factors guidelines to set common, regulatory expectations of the steps CASPs should take to identify and mitigate these risks effectively.

The amendments introduce new sector-specific guidance for CASPs, which highlights factors that may indicate the CASP’s exposure to the higher or lower ML/TF risk. CASPs should consider these factors when carrying out the ML/TF risk assessments of their business and customers at the outset and during the business relationship. The Guidelines also explain how they should adjust their customer due diligence (CDD) in line with those risks. Furthermore, the amendments include guidance to other credit and financial institutions on risks to consider when engaging in a business relationship with a CASP or when they are otherwise exposed to crypto assets.

The consultation runs until 31 August 2023.

UCITS and AIFS

ESMA calls for legislative amendments to prevent undue costs in funds

On 17 May 2023, ESMA published an Opinion to the European Commission with suggested clarifications of the legislative provisions under the UCITS Directive and the AIFMD relating to the notion of “undue costs”.

Enhancing investors protection

This initiative was prompted by one of the findings of the ESMA 2021 Common Supervisory Action on costs and fees, which showed divergent market practices as to what industry reported as “due” or “undue” costs in funds. Apart from the high investor protection relevance of this matter, ESMA deems that a lack of supervisory convergence on this topic leaves room for regulatory arbitrage and risks hampering competition in the EU market. Furthermore, it may lead to different levels of investor protection depending on where a fund or fund manager is domiciled.

ESMA’s proposal is to take as a basis the supervisory expectations enshrined in the 2020 supervisory briefing on the supervision of costs and ground these expectations into clearer legal requirements. This would allow National Competent Authorities (NCAs) to build on the supervisory efforts already deployed to ensure an even higher level of investor protection thanks to a stronger legal hook in the UCITS and AIFMD frameworks.

Next Steps

The European Commission is working on policy proposals in the context of the Retail Investment Strategy (RIS) to empower retail investors and enhance their participation in the capital markets. ESMA welcomes the Commission’s initiative and is confident that the present Opinion can be taken into consideration in the upcoming Commission’s legislative proposals on the RIS.

AIFMD

ESMA updates Q&A on the application of AIFMD

On 26 May 2023, ESMA updated its Q&A on the application of AIFMD.

ESMA has added a new section related to marketing, clarifying that Article 30(a) does not permit non-EU AIFMs to carry out pre-marketing activities. This may be permitted by a Member State at a national level, but where this is the case, the pre-marketing activities may not be passported.

PRIIPS

ESAs consolidated Q&As on PRIIPs KID

On 18 May 2023, the ESAs consolidated a set of Q&As on the Regulation on key information document (KID) requirements for packaged retail and insurance-based investment products (the PRIIPs Regulation) and its Delegated Acts.

The consolidated document combines responses given by the European Commission to questions requiring the interpretation of Union Law, which are colour coded in blue, and responses generated by the ESAs relating to the practical application or implementation of the PRIIPs Regulation and its Delegated Acts, which are not colour coded.

Sustainable Finance Disclosure Regulation (SFDR)

ESAs consolidated Q&As on SFDR

On 18 May 2023, the ESAs published a consolidated set of Q&As on the SFDR and the SFDR Delegated Regulation.

The consolidated document combines responses given by the European Commission to questions requiring the interpretation of EU Law, which are colour coded in blue, and responses generated by the ESAs relating to the practical application or implementation of SFDR, which are not colour coded.

Greenwashing

ESAs put forward common understanding of greenwashing and warn on risks

On 1 June 2023, the European Supervisory Authorities (EBA, EIOPA and ESMA – ESAs) published their Progress Reports on Greenwashing in the financial sector.  See EBA, EIOPA, and ESMA reports.

In these reports, the ESAs put forward a common high-level understanding of greenwashing applicable to market participants across their respective remits – banking, insurance and pensions and financial markets.

ESAs common high-level understanding of greenwashing

The ESAs understand greenwashing as a practice where sustainability-related statements, declarations, actions, or communications do not clearly and fairly reflect the underlying sustainability profile of an entity, a financial product, or financial services. This practice may be misleading to consumers, investors, or other market participants.

The ESAs also highlight that sustainability-related misleading claims can occur and spread either intentionally or unintentionally and in relation to entities and products that are either within or outside the remit of the EU regulatory framework.

The National Competent Authorities (NCAs) and the ESAs are, therefore, working to meet expectations from stakeholders to ensure consumer and investor protection, support market integrity and maintain a trusted environment for sustainable finance. Given the integrated nature of the financial system, the ESAs work in a coordinated manner to address greenwashing.

ESMA Progress Report

The ESMA Progress Report helps to better understand greenwashing and provides market participants and regulators with a shared reference point in dealing with this phenomenon.

Risk areas

In the report, ESMA assesses which areas of the sustainable investment value chain (SIVC) are more exposed to the risk of greenwashing. This assessment is meant to help market participants in preventing and mitigating greenwashing, and to support ESMA and NCAs in prioritising supervisory actions and regulatory intervention.

The findings show that misleading claims may relate to all key aspects of the sustainability profile of a product or an entity – from governance aspects to sustainability strategy, targets and metrics or claims about impact. The report also provides sector-specific assessments for key sectors under ESMA’s remit such as issuers, investment managers, benchmark administrators and investment service providers.

The causes of greenwashing

Greenwashing is the result of multiple inter-related drivers. Market participants across the sustainable investment value chain (SIVC) face challenges in implementing the necessary governance processes and tools that support high-quality sustainability disclosures and transition efforts. In this context, market participants also have difficulties in producing and accessing relevant, high-quality sustainability data. Furthermore, a fast-moving regulatory framework has created implementation challenges for both market participants and for NCAs and highlighted the need to build sustainability expertise.

Preliminary remediation actions

To mitigate greenwashing risks, market participants across the SIVC have to live up to their responsibility to make substantiated claims and communicate on sustainability in a balanced manner. Comprehensibility of sustainability disclosures to retail investors needs to be improved, including by establishing a reliable and well-designed labelling scheme for financial products. Finally, the regulatory framework needs to gain in maturity, key concepts need to be clarified and sustainability impact or engagement better integrated.

This report lays the ground for mitigating greenwashing risks in the future, throughout the SIVC and in key sectors under ESMA’s remit.

Next steps

The ESAs will publish final greenwashing reports in May 2024 and will consider final recommendations, including on possible changes to the EU regulatory framework.

Transition plans

ESMA speech on role in enabling the transition to a low carbon economy

On 5 May 2023, ESMA published a speech by Natasha Cazenave, Executive Director of ESMA, on ESMA’s role in enabling the transition to a low carbon economy.

In her speech, Ms Cazenave explains the work that ESMA has done to achieve its priority of promoting transparency and tackling greenwashing. Key points of interest include:

1. Ms Cazenave believes that enhanced corporate sustainability reporting is the cornerstone of the sustainable finance framework and is expected to provide much awaited data to be used across the whole sustainable investment value chain;
2. ESMA is aware that despite all the work that has been done until now to improve the disclosure framework for financial entities and investment products, the framework remains complex and difficult to navigate for investors. Ms Cazenave explains that there could be merit in exploring whether labels could help better channel savings according to investors’ needs and preferences and therefore support an orderly transition; and
3. until there can be further clarity on potential changes to the SFDR or the introduction of labels, ESMA believes that some criteria should be required when naming funds that claim to have sustainability characteristics or goals.

To conclude, ESMA’s ultimate objective is to support the channelling of the necessary capital flows to meet the EU’s decarbonisation targets as well as its environmental and social objectives. Ms Cazenave confirms that ESMA stands ready to contribute to further legislative changes and respond to new market developments.

Network for Greening the Financial System publishes a stock-take on Transition Plans

On 31 May 2023, the Network for Greening the Financial System (NGFS) published a report taking stock of emerging practices relating to climate transition plans and assessing the role of central banks and supervisors in relation to transition plans.

Stocktake on financial institutions’ transition plans and their relevance to micro-prudential authorities

Building on the conclusions of the previous NGFS Report on ‘Capturing risk differentials from climate-related risks’ which emphasised the importance of a forward-looking approach to assess climate-related risks, the NGFS took stock of the recent development of transition plans by corporates and financial institutions transition plans.

The NGFS has identified six key findings as well as steps to advance the work on the relevance of transition plans and planning to micro-prudential authorities.

The NGFS recognises that transition plans have the potential to provide much needed forward-looking visibility on the real economy’s pathway to a net-zero future. Financial institutions will prepare their own transition plans as well as engage entities that they finance on their respective transition plans. The forward-looking information contained in transition plans will be key to enable the financial sector to mobilise private finance in support of the transition.

Details on the ‘Stocktake on financial institutions’ transition plans and their relevance to micro-prudential authorities’

The NGFS reviewed available frameworks and emerging literature on transition plans from external bodies. The Network also analysed the current state of play in the regulatory landscape as it relates to transition plans among NGFS members. This report sets out six key findings.

1. While the potential of transition plans is widely recognised, there are multiple definitions of transition plans, reflecting their use for different purposes;
2. There is merit in distinguishing transition planning (understood as a process to design a transition strategy) from a transition plan (transparency to a specific audience);
3. Existing frameworks speak to a mix of objectives, audiences and concerns for transition plans but predominantly relate to climate-related corporate disclosures;
4. Transition plans could be a useful source of information for micro-prudential authorities to develop a forward-looking view of whether the risks resulting from an institution’s transition strategy are commensurate with its risk management framework;
5. There are some common elements to all transition plans which are relevant to assessing safety and soundness;
6. The role that micro-prudential authorities play needs to be situated in the context of the actions of other financial and non-financial regulators rather than acting in isolation.

Following the overall conclusion and key findings, the NGFS will take forward actions in two broad areas.

1. Engagement with relevant international authorities and standard setters: Given the different scope of transition plans as well as their potential relevance to the micro-prudential authorities, the NGFS will engage standard setting bodies, so that they can advance their respective work on transition plans and planning in a coordinated manner;
2. Further actions by the NGFS: Based on the findings of Phase 1, the sub-team will also take forward additional work to advance the discussion on the relevance of transition plans to micro-prudential authorities’ mandate, supervisory toolkit, and the overall prudential framework.

Circular C571: EBA Guidelines on information and Communication Technology (ICT) and security risks management (EBA/GL/2019/04)

On 2 May 2023, CySEC published Circular C571 through which it brings to the attention of CIFs the EBA Guidelines on ICT and Security Risk Management (the Guidelines), published on 29 November 2019. CySEC has adopted the Guidelines under Section 20 of the Prudential Supervision of Investment Firms Law of 2021, which are applicable to CIFs with initial capital requirement of €150,000 and €750,000.

The Guidelines address information and communication technology (ICT) and security risks and cover the need for cybersecurity within the CIFs’ information security measures.

CySEC expects all CIFs to ensure compliance with the Guidelines not later than 31.12.2023 i.e.:

• determine their governance and internal control framework for their ICT and security risks and establish measures to manage such risks;
• assign to their internal auditor to review all ICT and security related activities; and
• have the Board of Directors approve the audit plan.

The first internal audit report regarding the review of the CIFs’ compliance with the above should be submitted to their Board of Directors by 30.6.2024, the latest. The internal audit reports should be available for submission to CySEC upon request.

Circular C550: Common weaknesses/deficiencies and good practices identified during the onsite inspections performed in relation to the prevention of money laundering and terrorist financing

On 2 May 2023, CySEC issued Circular C550, to inform the Regulated Entities of the common weaknesses/deficiencies and good practices identified during the onsite inspections performed in relation to the prevention of money laundering and terrorist financing during 2021 and 2022.

CySEC outlines some examples of good practices from its ongoing inspections regarding: AML/CFT Internal Control Measures, record keeping, governance, automated IT tools for AML/CFT purposes and checks on high-risk customers. Please refer to Section A of the Circular C550 for further information.

Further, CySEC also identified the following common weaknesses/deficiencies when carrying out its onsite inspections:

• Customer Due Diligence (CDD) Measures: Regulated Entities failed to construct (and keep updated) a proper customer economic profile, collect reliable evidence to verify the source of funds and wealth of customers on a risk-based approach and verify the customers’ main business activities.
• Enhanced Due Diligence (EDD) Measures: Lack of EDD measures evidence for high-risk customers.
• AML/CFT Risk Assessments: When conducting the AML/CFT risk assessment, Regulated Entities failed to take into consideration the Risk Factors Guidelines, account for the risks posed by customers that obtained citizenship under the CIP and also flag and assess published adverse information on their customers.
• Customers’ Screening and Transactions Monitoring: Regulated Entities did not always keep records of the screening of customers and failed to collect supporting documentation of the customers’ transactions.

Section B of the Circular C550 provides more details on the weaknesses/deficiencies identified and which will be help ensure that your Companies’ practices are compliant with the AML/CFT Law.

Circular C572: ESMA Guidelines on CCP recovery plan scenarios (Article 9(12) of Regulation (EU) 2021/23 on a framework for the recovery and resolution of central counterparties (CCPRRR)

On 12 May 2023, CySEC issued Circular C572, where it reminds the Regulated Entities that ESMA has published the guidelines on CCP recovery plan scenarios (Article 9(12) of CCPRRR) (the Guidelines) on 24 March 2023, translated in all official languages of the EU. These Guidelines apply to national competent authorities and to CCPs authorised under Article 14 of Regulation (EU) 648/2012 as amended (EMIR). The objectives of the Guidelines are to establish consistent, efficient, and effective supervisory practices and to ensure the common, uniform and consistent application of Article 9(1) of CCPRRR. The Guidelines are applicable from 24 May 2023. CySEC has adopted these Guidelines by incorporating them into its supervisory practices and regulatory approach.

Circular C574: ESMA launches a Common Supervisory Approach (CSA 2023) with NCAs on the application of MiFID II disclosure rules with regard to marketing communications across the European Union (EU)

On 19 May 2023, CySEC issued Circular C574 to inform CIFs that ESMA has launched a Common Supervisory Action (the CSA 2023) with national competent authorities on the application of MiFID II disclosure rules, with regard to marketing communications across the European Union.

The scope of the CSA 2023 is to review whether marketing communications are fair, clear, and non-misleading, to consider marketing and advertising by firms through distribution channels and to collect information about possible ‘greenwashing practices’ found in marketing communications and advertisements. More information on the CSA 2023 and on the regulatory framework that will be considered by CySEC can be found in Circular C574.

Lastly, via C574, CySEC notes that it is planning to conduct on-site visits and/or desk-based reviews on a sample of CIFs that fall within the scope of the said CSA providing investment services to retail clients, during the second half of 2023, and expects CIFs to adhere to the content of the Circular.

Circular C575: ESMA Guidelines on CCP recovery plan indicators (Article 9(5) of Regulation (EU) 2021/23 on Guidelines on CCP recovery plan indicators (CCPRRR)

On 24 May 2023, CySEC published Circular C575, which reminded the Regulated Entities that ESMA has published the Guidelines on CCP recovery plan indicators (Article 9(5) of CCPRRR) (the Guidelines) on 24 March 2023, translated in all official languages of the EU.

These Guidelines apply to national competent authorities and to CCPs authorised under Article 14 of Regulation (EU) 648/2012 as amended (EMIR). The objectives of these Guidelines are to establish consistent, efficient and effective supervisory practices and to ensure the common, uniform and consistent application of Article 9(3) of CCPRRR. The Guidelines are applicable from 24 May 2023. CySEC has adopted these Guidelines by incorporating them into its supervisory practices and regulatory approach.