Prudential Regulation Authority Rulebook

The Principles (see PRIN 2) apply in whole or in part to every firm. The application of the Principles is modified for incoming EEA firms, incoming Treaty firms and UCITS qualifiers. PRIN 3 (Rules about application) specifies to whom, to what and where the Principles apply.

The Principles are a general statement of the fundamental obligations of firms under the regulatory system. They derive their authority from the FSA's rule-making powers as set out in the Act and reflect the regulatory objectives.

The Principles apply with respect to regulated activities generally, but, in applying the Principles with respect to accepting deposits and issuing electronic money the FSA will proceed only in a prudential context. That is to say, in this context, the FSA would not expect to exercise the powers brought into play by a contravention of a Principle unless the contravention amounted to a serious or persistent violation which had implications for confidence in the financial system, or for the fitness and propriety of the firm or for the adequacy of the firm's financial resources.

In substance, the Principles express the main dimensions of the "fit and proper" standard set for firms in threshold condition 5 (Suitability), although they do not derive their authority from that standard or exhaust its implications. Being ready, willing and organised to abide by the Principles is therefore a critical factor in applications for Part IV permission, and breaching the Principles may call into question whether a firm with Part IV permission is still fit and proper.

Principles 3 (Management and control), 4 (Financial prudence) and (in so far as it relates to disclosing to the FSA) 11 (Relations with regulators) take into account the activities of members of a firm's group. This does not mean that, for example, inadequacy of a group member's risk management systems or resources will automatically lead to a firm contravening Principle 3 or 4. Rather, the potential impact of a group member's activities (and, for example, risk management systems operating on a group basis) will be relevant in determining the adequacy of the firm's risk management systems or resources respectively.

As set out in PRIN 3.3 (Where?), Principles 1 (Integrity), 2 (Skill, care and diligence) and 3 (Management and control) apply to world-wide activities in a prudential context. Principle 5 (Market conduct) applies to world-wide activities which might have a negative effect on confidence in the financial system operating in the United Kingdom. In considering whether to take regulatory action under these Principles in relation to activities carried on outside the United Kingdom, the FSA will take into account the standards expected in the market in which the firm is operating. Principle 11 (Relations with regulators) applies to world-wide activities; in considering whether to take regulatory action under Principle 11 in relation to cooperation with an overseas regulator, the FSA will have regard to the extent of, and limits to, the duties owed by the firm to that regulator. (Principle 4 (Financial prudence) also applies to world-wide activities.)

Breaching a Principle makes a firm liable to disciplinary sanctions. In determining whether a Principle has been breached it is necessary to look to the standard of conduct required by the Principle in question. Under each of the Principles the onus will be on the FSA to show that a firm has been at fault in some way. What constitutes "fault" varies between different Principles. Under Principle 1 (Integrity), for example, the FSA would need to demonstrate a lack of integrity in the conduct of a firm's business. Under Principle 2 (Skill, care and diligence) a firm would be in breach if it was shown to have failed to act with due skill, care and diligence in the conduct of its business. Similarly, under Principle 3 (Management and control) a firm would not be in breach simply because it failed to control or prevent unforeseeable risks; but a breach would occur if the firm had failed to take reasonable care to organise and control its affairs responsibly or effectively.

The Principles are also relevant to the FSA's powers of information-gathering, to vary a firm's Part IV permission, and of investigation and intervention, and provide a basis on which the FSA may apply to a court for an injunction or restitution order or require a firm to make restitution. However, the Principles do not give rise to actions for damages by a private person (see PRIN 3.4.4 R).

Some of the other rules and guidance in the Handbook deal with the bearing of the Principles upon particular circumstances. However, since the Principles are also designed as a general statement of regulatory requirements applicable in new or unforeseen situations, and in situations in which there is no need for guidance, the FSA's other rules and guidance should not be viewed as exhausting the implications of the Principles themselves.

Principles 6 (Customers' interests), 7 (Communications with clients), 8 (Conflicts of interest), 9 (Customers: relationships of trust) and 10 (Clients' assets) impose requirements on firms expressly in relation to their clients or customers. These requirements depend, in part, on the characteristics of the client or customer concerned. This is because what is "due regard" (in Principles 6 and 7), "fairly" (in Principles 6 and 8), "clear, fair and not misleading" (in Principle 7), "reasonable care" (in Principle 9) or "adequate" (in Principle 10) will, of course, depend on those characteristics. For example, the information needs of a general insurance broker will be different from those of a retail general insurance policyholder.

Principles 6, 8 and 9 and parts of Principle 7, as qualified by PRIN 3.4.1 R, apply only in relation to customers (that is, clients which are not market counterparties). The approach that a firm needs to take regarding classification of clients into customers and market counterparties will depend on whether the firm is carrying on designated investment business or other activities, as described in PRIN 1.2.3 G and PRIN 1.2.4 G.

In relation to the carrying on of activities other than designated investment business, for example general insurance business or accepting deposits, only COB 4.1.12 R and COB 4.1.13 G (Large intermediate customer classified as a market counterparty) and COB 4.1.14 R (Client classified as a private customer) in COB 4.1 (Client classification) apply (see PRIN 3.4.2 R).

A firm is therefore not required to classify its clients (because COB 4.1.4 R does not apply) and may choose to comply with Principles 6, 7, 8 and 9 as if all its clients were customers. Alternatively, it may choose to distinguish between market counterparties and customers in complying with those Principles. But, in that case, the firm would need to classify any client treated as a market counterparty. In doing this, the requirements in SYSC will apply, including the requirement to establish appropriate systems and controls SYSC 3.1.1 R) and the requirement to make and retain adequate records SYSC 3.2.20 R). In classifying its market counterparties, it would be open to such a firm, although not obligatory, to permit intermediate customers to opt up to market counterparty status in accordance with COB 4.1.12 R. It would also have to treat a market counterparty as a customer if the firm had chosen to treat the client as a private customer in the circumstances set out in COB 4.1.14 R.

If the person with or for whom the firm is carrying on an activity is acting through an agent, the ability of the firm to treat the agent as its client under COB 4.1.5 R (Agent as client) will not be available. For example, if a general insurer is effecting a general insurance contract through a general insurance broker who is acting as agent for a disclosed policyholder, the policyholder will be a client of the firm and the firm must comply with the Principles accordingly.