Non-financial misconduct: character - the missing link?

Published Date
Dec 20, 2022
This post considers the link between non-financial misconduct and an individual's role that must be established for certain regulatory consequences to follow. We look at how recent cases, in the UK, have grappled (and in some cases struggled) with this issue; as well as points to be aware of when investigating allegations of non-financial misconduct.  

“Non-financial misconduct is misconduct plain and simple”

It is generally accepted in the financial services industry that, as the FCA said in a speech in late 2018, “non-financial misconduct is misconduct, plain and simple”.

Just like financial misconduct, non-financial misconduct (including instances of bullying, harassment, discrimination and sexual misconduct) is capable of attracting regulatory findings. This includes findings that an individual’s conduct has breached the FCA’s conduct rules and, for senior managers and certified persons, that their conduct has also adversely impacted their fitness and propriety.

However, different tests apply when determining whether an individual’s conduct falls within the scope of the FCA’s conduct rules and whether such conduct is capable of impacting fitness and propriety. The test for the former is considerably narrower than the test for the latter.

The complexities of these tests mean that it is not a certainty that instances of non-financial misconduct are always capable of resulting in a breach of the FCA’s conduct rules, or a finding that an individual lacks fitness and propriety.

The crucial link to an individual’s role

In general terms, for conduct to fall within the scope of the conduct rules, the conduct needs to have occurred in relation to an individual’s role and responsibilities that they perform for their firm. However, grey areas may still arise. For example, what happens if conduct occurs at ad hoc team social drinks after work or at an industry networking event?

The test for assessing the fitness and propriety of a senior manager or a certified person is much broader. Their fitness and propriety can be impacted by conduct that occurs outside of the workplace in an individual’s private life and does not involve their work responsibilities or colleagues. However, firms (and the FCA and the PRA) must still prove that the conduct in question impacts an individual’s fitness and propriety to perform their role for their firm. It is that final part of the test which is crucial to prove: the link to the role that a person performs for their firm.

Not only is this part of the test crucial, but it is also the part of the test that has proved to be a stumbling block for the FCA in practice.

Frensham and attempting to “bridge the distance” between conduct and an individual’s role

Last year, the Upper Tribunal handed down its judgment in Jon Frensham v FCA [2021] UKUT 0222 (TCC), which was eagerly awaited, given the more in-depth analysis of the FCA’s approach to non-financial misconduct that it offered to firms and practitioners. The Upper Tribunal eventually agreed that a financial adviser, Jon Frensham, lacked fitness and propriety. However, it reached that decision not because of the (serious) non-financial misconduct that Mr Frensham was found to have committed outside of his workplace (he was criminally convicted of attempting to meet a minor following sexual grooming), but rather due to his lack of candour and transparency with the FCA about his misconduct. The Upper Tribunal found that the FCA had failed to “bridge the distance” between Mr Frensham’s non-financial misconduct and his role as a financial adviser, dismissing its argument as “speculative and unconvincing”. This was notwithstanding the FCA’s attempts to draw parallels between Mr Frensham’s non-financial misconduct and the risk he may pose to consumers and the integrity of, and public trust in, the financial services industry more generally by, for example, exploiting consumers (including those who may be considered vulnerable).

Even though the Upper Tribunal agreed that Mr Frensham’s non-financial misconduct was serious and would prompt “revulsion on the part of right-thinking members of the public”, it noted that “popular outcry” by itself “is not proof that a particular set of events give rise to any matter falling within a regulator’s remit”.

The FCA has not been alone in finding it challenging to convince a judicial body of the link between an individual’s non-financial misconduct and their role or profession. Other regulators, including the Solicitors Regulation Authority (SRA), have faced similar challenges in cases that it has attempted to bring in relation to alleged sexual misconduct (most notably in the case of Beckwith v SRA [2020] EWHC 3231 (Admin)).

Determining whether there is sufficient proximity between non-financial misconduct and an individual’s role

The line between an individual’s private and professional life is clearly blurred in some circumstances, making the process of deciding whether conduct constitutes a regulatory matter more challenging. However, the closer any conduct touches on the individual’s role and responsibilities for a regulated firm, or reflects how they may behave in a professional context, the more likely it is that the conduct may impact on their integrity or the public’s trust in the financial services industry.

Although identifying whether there is a connection between an individual’s misconduct and their professional life can sometimes be difficult, the following factors will help when assessing this point:

  • Whether the conduct took place on work premises.
  • Whether the conduct arose from a work context, including an official or informal firm event at their firm’s premises or another location, such as a seminar, a social event, after-work drinks or a business trip/offsite. Conduct might begin at one location and maintain a connection to an individual’s role for their firm if further locations are involved, but this connection might be lost after a certain point.
  • Whether the conduct involved a colleague, a client or any other professional contact.
  • Even if an event was not specifically hosted or sponsored by their firm, whether the conduct stemmed from a professional origin or event, such as a professional networking or training event.
  • Whether the conduct took place after a firm event or an event linked to a person’s role, but at a separate location or venue, such as informal after-event drinks at a bar or at a person’s home.

Considering the seriousness of non-financial misconduct: character is key

In some circumstances, a wider interpretation may be required as to whether there is a connection between an individual’s misconduct and their professional role. For example, in situations where non-financial misconduct occurs entirely outside of the workplace or any work-related event, but is so serious that it may still have a bearing on an individual’s character and, therefore, impact their fitness and propriety.

The FCA took this approach in Frensham. However, the Upper Tribunal said that the FCA needed to present “a more independent, analytical justification of the link” between Mr Frensham’s non-financial misconduct and the impact this had on his role as a financial adviser, rather than simply making “bare assertions” about the impact of his conduct on the public’s trust in the financial services industry.

The FCA’s most recent non-financial misconduct case seems to cut across this point made by the upper tribunal. In November 2022, the FCA imposed a prohibition order on an individual, Ashkan Zahedian, who was convicted of wounding with intent to do grievous bodily harm and of possession of a machete in a public place, for which he was sentenced to three years in prison. The FCA concluded it was appropriate to take this action due to the seriousness of Mr Zahedian’s criminal offences (which demonstrated “a criminal disregard for appropriate standards of behaviour”) and the severity of the risk that he posed to the reputation of, and public confidence in, the financial services industry. In particular, the FCA said that there was “a severe risk of an erosion of public confidence if those who are convicted of violent offences are permitted to continue working in the financial services industry”. The FCA also considered the publicity surrounding Mr Zahedian’s conviction to be a relevant factor, and one that meant that he lacked the requisite reputation to perform functions in relation to regulated activities and was likely to damage the reputation of any regulated firm at which he was required to perform such functions.

Contrary to what the Upper Tribunal said in Frensham, the FCA included no “independent” or “analytical” justification for this link between Mr Zahedian’s conduct and his fitness and propriety. Likewise (and unlike in Frensham) the FCA did not refer to or rely on any other issues (for example, a lack of candour, transparency or remorse on Mr Zahedian’s part) in order to reach its finding. In addition, although undoubtedly harmful to his personal reputation, Mr Zahedian’s offence did not involve an abuse of trust or any element of exploitation (unlike Mr Frensham’s offence) and the sentencing judge acknowledged that Mr Zahedian showed genuine remorse for his actions (again, unlike Mr Frensham). As a result, it is arguable that Mr Zahedian’s offence was less serious than Mr Frensham’s from a regulatory perspective.

Although is not technically possible for the FCA to ‘overrule’ decisions taken by the Upper Tribunal, it is hard to see the FCA’s enforcement action against Mr Zahedian as doing anything other than taking a stand against the higher evidential standard set by the Upper Tribunal in Frensham.

When the FCA announced its enforcement action against Mr Zahedian, tellingly it did not only talk about fitness and propriety. Instead, in its press release the FCA talked about individuals needing to maintain “high standards of character, fitness and properness” and how the FCA “will continue to uphold high standards of character and conduct for those working in financial services”. This shows that the FCA clearly sees an individual’s character (and what their conduct says about it) as being key in non-financial misconduct cases. This was even the case for Mr Zahedian, despite the FCA acknowledging in its final notice that the sentencing judge described his actions as “out of character” and unlikely to happen again.

Where this leaves us is that the FCA clearly considers that the severity of an individual’s conduct may be so serious that, even if there is no direct link to their role or workplace for a regulated firm, it is still capable of impacting their fitness and propriety. Factors that firms should take into account when assessing seriousness are not limited to the conduct itself, or the circumstances in which it occurred, but also the impact of conduct on a person’s character, such as:

  • Whether the conduct amounts to a criminal offence (regardless of whether it is prosecuted). The FCA has expressly stated that committing a criminal offence will not automatically mean that an individual lacks fitness and propriety. Rather, it will depend on the type of offence committed. The FCA’s guidance on fitness and propriety (which pre-dates its focus on non-financial misconduct) highlights offences involving dishonesty, fraud, financial crime or business/financial services legislation as being those most likely to impact on an individual’s fitness and propriety. However, based on recent cases, the FCA clearly considers serious sexual and violence offences (and other offences that may have a significant bearing on an individual’s character) to fall within this category as well.
  • Whether the misconduct involved violence, exploitation, threats, malice, coercion, pressure, manipulation, victimisation, intimidation, influence or breach of privacy. These factors are likely to be significant aggravating factors.
  • Whether the misconduct was repeated. This is a relevant factor as the frequency of misconduct can indicate a pattern and impact on its seriousness. For example, firms should ask whether conduct persisted despite warnings to stop (if so, this is likely to be an aggravating factor).
  • Whether the misconduct was directed at a junior employee, more than one individual or a vulnerable individual. In this context, vulnerability might include professional status (for example, two parties of different seniority), professional relationship (for example, one individual who is dependent on another for work or support), fragile mental or physical health, age, sexual orientation, emotional, financial or career dependency, temporary vulnerability (for example, intoxication), isolation or impaired access to support and cultural vulnerability.
  • Whether the individual who is alleged to have engaged in the misconduct was aware, or ought to have been aware, that their conduct was unwelcome or inappropriate.
  • Whether the misconduct was spontaneous or planned, noting, in particular, that a pattern of misconduct may not only be a relevant factor when it comes to assessing seriousness, but may also undermine a defence of spontaneity.

New guidance on the horizon?

The minutes of the FCA’s October 2022 board meeting reflect a discussion about non-financial misconduct. The discussion arose in the context of the activities of the FCA’s Regulatory Decisions Committee (RDC) and focused on “matters such as violence and harassment outside the workplace”. The minutes disclose that discussions between the RDC and FCA Enforcement are ongoing about the introduction of “further guidance and FCA policy in this area to ensure consistency and clarity of decision-making”. Based on the minutes, the focus of this further guidance is likely to be on “the character of the individual concerned […] and not that of the specific misconduct itself”. This emphasises the FCA’s focus on an individual’s character in non-financial misconduct cases.

So, watch this space for some much-needed FCA guidance on how to assess the regulatory implications of non-financial misconduct.

Investigating allegations of non-financial misconduct: getting it right

Investigating allegations of non-financial misconduct can be challenging, and sometimes even more challenging than investigating allegations of financial misconduct.

For example, more traditional sources of evidence that we often rely on in financial misconduct investigations, such as emails, chat messages, trading data and committee minutes, are often less relevant (or not relevant at all) in non-financial misconduct investigations. Instead, other evidence tends to be much more relevant and heavily relied on, such as social media posts and messages, messages sent via encrypted messaging apps (often on personal devices), CCTV and, importantly, individuals’ recollections.

As a result, there really is no “one size fits all” when it comes to investigating allegations of non-financial misconduct.

That said, there are some clear parameters that firms and their advisers need to keep in mind in these kind of investigations. The enforcement action taken earlier this year by Lloyd’s of London against an underwriting firm, Atrium Underwriters Ltd (Atrium) serves as a good reminder of how (and how not to) conduct investigations into non-financial misconduct.

In this case, Atrium was criticised for failing to properly investigate serious allegations of bullying and discrimination by an employee (conduct which was allegedly “well known” within the firm) and for failing to follow the recommendation made through its own internal investigation that it should instigate a disciplinary process in respect of the implicated employee. Instead, Atrium’s senior management proposed and negotiated a settlement package with the implicated employee, which allowed them to resign from Atrium without facing any disciplinary sanctions.

Regulated firms can still use settlement agreements to manage employee exits when it is appropriate for them to do so. In other cases, it may not be possible for firms to conclude investigations or disciplinary processes, or take regulatory decisions about their conduct if they resign and refuse to co-operate before a firm can collect adequate information from them. In Atrium, Lloyd’s took the view that it was inappropriate for Atrium to have entered into a settlement agreement with the implicated employee because this went against the recommendations made by its own internal investigation and because the rationale for doing so was to avoid “bad publicity” for Atrium and to “limit the impact on the business unit involved”.

Atrium was also criticised for failing to keep under adequate review whether the employee who raised the allegations of serious bullying and discrimination was victimised or retaliated against for raising those concerns.

Even after the dust settles on an investigation into allegations of non-financial misconduct (or other types of grievance or whistleblowing investigations), firms must ensure they are taking appropriate and proportionate steps to allow for the reporting and monitoring of potential victimisation or retaliatory treatment after individuals have raised allegations previously. These processes should not only cater for more overt types of victimisation or retaliatory treatment, but should also include longer term monitoring to check how an individual who has raised allegations is treated in appraisal, remuneration and promotion processes in the coming months and even years. This can be difficult to do in practice and requires careful management, especially because the identity of the individual who has raised concerns will remain confidential and only known to a few individuals.

This article first appeared in the December 2022 financial services investigations and enforcement column published by Practical Law: https://uk.practicallaw.thomsonreuters.com/w-037-9467 

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