The host AIFM model and the potential for harm

Fund sponsors considering the regulatory models available to them may choose to make use of a regulatory “hosting” structure offered by a third-party AIFM authorised by the FCA. The option is often used by sponsors who cannot meet the regulatory requirements themselves in order to obtain authorisation as AIFM or who do not want the burden or expense of being FCA regulated as such.

The model may entail the secondment of staff from the sponsor to the AIFM to carry out tasks including portfolio management which the sponsor is not licensed to carry out itself. As the sponsor may still wish to have a direct role in dealings with investors, for example, the sponsor may be an appointed representative (AR) of the AIFM, which acts as its principal firm for these purposes.  

The FCA has seen the potential for harm in this model for some time when its implications are poorly understood, and in a webpage earlier this year set out findings from its 2023 review of firms using the host AIFM model, and provided associated guidance. 

The FCA’s findings can be summarised as follows:

• Oversight of secondees – the AIFM must have robust monitoring in place so it is able to review all fund-related activities and transactions conducted by secondees. The FCA noted that supervising secondees remotely when they are not physically working at the offices of the AIFM may increase the risk of harm caused by their actions. AIFMs should also be aware of potential conflicts of interest for the secondee, where they could prioritise the interests of their original employer over those of the AIFM.
• Investor due diligence – an AIFM must have systems and controls in place sufficient for countering the risk that the firm may be used to further financial crime. The FCA’s review showed that AIFMs using secondees were typically not involved in onboarding checks for investors into the relevant funds. Even where the AIFM is not directly involved in the due diligence process for new clients or investors, the FCA is clear that it should undertake regular reviews and audits of the files of any third parties to which it delegates these functions.
• Capital adequacy – the FCA found that most firms in its review did not directly factor in the number of funds or ARs when calculating their capital requirements. AIFMs are expected to fully consider the risks when assessing adequate financial resources and preparing their internal capital and risk assessment.
• Misleading claims – the FCA came across misleading claims from entities that had seconded staff to an AIFM, for example cases of ARs marketing themselves as investment managers, wealth managers and stockbrokers, despite only seconded staff being permitted to carry out these functions on behalf of the AIFM.

The FCA says that it has taken action against individual firms where it has seen harms arising from the host AIFM model. While there are clear benefits to a model providing fund sponsors with an alternative route to direct authorisation, the model relies on appropriate oversight on the part of the host and a proper understanding of its wider regulatory responsibilities. The FCA is therefore likely to keep both host AIFMs and the model itself under its lens.