Client Categories and the Appropriateness and Suitability Tests under FIDLEG
The new regulatory framework consisting of the Financial Services Act (FIDLEG) and the Financial Institution Act (FINIG) are expected to enter into force 1 January 2020. The FIDLEG rules stipulate a new regime regarding client categorization and, thereto connected, introduce appropriateness and suitability tests.
According to the FIDLEG (and similar to the concept of MiFID II, which differentiates between retail clients, professional clients and eligible counterparties), financial service providers will have to categorize their current and/or prospective clients into one of three categories, namely either (1) retail clients, (2) professional clients or (3) institutional clients. The categorization is important, because the code of conduct duties under FIDLEG depend on and vary significantly according to the client category at hand.
- Retail clients are all clients, who are not professional clients (and, hence, also not institutional client).
- Professional clients consist of (i) Swiss regulated financial intermediaries, (ii) Swiss regulated insurance institutions, (iii) foreign financial intermediaries and insurance institutions subject to prudential supervision, (iv) central banks, (v) public entities with professional treasury operations, (vi) occupational pension schemes and entities, which serve the aim of such pension schemes, with professional treasury operations, (vii) companies with professional treasury operations, (viii) large companies (meaning – widely in harmony with the concept of large undertakings under MiFID II – the company reaches at least two of the following three thresholds: (a) a balance sheet total of CHF 20 million, (b) a turnover of CHF 40 million and (c) a minimum equity of CHF 2 million), (ix) private investment structures with professional treasury operations, established for high net worth individuals (HNWI), (x) HNWI or private investment structures who wish to be treated as professional clients (“opting out”) and (xi) institutional clients who wish to be treated as professional clients (“opting in”).
- Institutional clients are professional clients listed above under (i) to (iv) as well as national and supranational public entities with professional treasury operations.
The opting out option of HNWI, meaning they wish to be treated as professional clients, exists if the individual maintains sufficient knowledge to understand the risks of the investments due to education or (professional) experience and possesses assets of at least CHF 500,000. Additionally, a HNWI may opt out if its assets are of at least CHF 2 million. In latter case, in remarkable contrast to the rules under MiFID II, no (professional) experience or know-how whatsoever is required. On the other hand, under the FIDLEG, the potential desire of institutional clients to be treated as retail clients (“double opting in”) is disregarded.
Appropriateness and Suitability Tests
Depending on the client categorization and the type of financial service rendered, before providing any investment advice, an appropriateness and/or suitability assessment must be conducted.
A. Simple Execution (“Execution only”)
In contrast the regulation under MiFID II, under the FIDLEG, no obligation for the financial service provider exists to conduct an appropriateness and/or a suitability assessment when simply executing or transmitting client orders. Notably, this rule applies regardless of the complexity of the transaction. However, in such cases, the client must be informed that no assessment will take place.
B. Limited Advisory (“Individual Transaction”)
If investment advice is rendered merely for specific transactions and without considering the whole portfolio of the client, the service provider must enquire about the clients’ knowledge and experience of the same or similar type of transaction – according to the FIDLEG, professional clients are assumed to possess such knowledge or experience ipso iure; also, a lack of experience may be compensated by informing the client to the extent required – and assess the appropriateness of the financial instrument before recommending any (“appropriateness test”). In contrast, there is no obligation to verify the financial situation and investment objectives (“suitability test”).
C. Global Advisory (“Wealth Management”)
If investment advice considering the whole portfolio of the client or portfolio management is rendered, the service provider must enquire both about the clients’ financial circumstances and investment objectives (“suitability test”) as well as the clients’ knowledge and experience (“appropriateness test”) with respect to the financial services (and not the specific transactions).
Differences Compared to European Law
Unlike under MiFID II, under the FIDLEG, the code of conduct duties are depending on the fact whether limited or global advice is given by the financial service provider.
Also, less restrictive and in significant deviation to the European Law, financial service providers are not prohibited to render financial services, if prior to the transaction due to insufficient information provided by the client the performance of the appropriateness and/or suitability tests failed or when the financial service provider reaches the conclusion that the service rendered is not appropriate and/or suitable; rather, the service provider merely needs to inform the client accordingly, and in latter case, advice the client not to engage into the (expectedly) disadvantageous transaction. Notwithstanding, the client is free to disregard the information and/or advice and enter into the transaction at his own will and risk.
In summary, under the FIDLEG, the required client categorization and the type of financial service rendered have a direct and significant impact on the applicable code of conduct rules. For example, the assessment duties as stated above do not apply on institutional clients, but they do on professional clients (who, nevertheless, possess the right to waive other code of conduct duties) as well as on retail clients. Therefore, for financial service providers, a careful categorization of the clients is crucial.
If you need legal assistance or further information to achieve compliance with the new regulatory framework of FIDLEG and/or FINIG, in particular with the client segmentation and/or the performance of duties of conduct, such as the appropriateness and suitability assessment, please do not hesitate to contact us.