Financial soundness exemption Claims of hardship must be ‘adequately’ supported

Financial soundness exemption? Claims of hardship must be ‘adequately’ supported

“Merely claiming” that compliance with the financial soundness requirements will create hardship is not “reasonable grounds” for justifying an exemption from section 45(2) of Board Notice 194 of 2017. Such claims must be “adequately” supported at the time an exemption application is made.

This was the finding of the Financial Sector Tribunal when it upheld a decision by the FSCA to reject an FSP’s application for an exemption.

The tribunal also pointed out that its acceptance of the application would serve no purpose, because the reasons for the FSP’s non-compliance with the Fit and Proper Requirements would soon no longer exist.

The FSP’s sole director and shareholder lodged the exemption application with the FSCA in October 2019. The FSP’s owner told the regulator that he lent money to his business to cover its operating expenses. By the end of the financial year to February 2019, the loan had reached R334 423. He said the loan was subordinated to the benefit of other creditors.

As a result of section 45 of BN 194 taking full effect from 1 March 2019, he could no longer exclude subordinated loans from the calculation of the FSP’s assets and liabilities, and the loan account could not be expunged overnight. He initially asked for at least three years for the loan to be repaid.

In his correspondence with the FSCA, and in his submission to the tribunal, the applicant said he wanted to comply with BN 194, but needed time to reduce the loan.

He told the regulator:

  • The FSP did not accept payments from clients into its business account or collect cash premiums from clients and therefore the loan account did not pose a risk to the business.
  • He had given surety in his personal capacity to the insurance companies with which the FSP dealt.
  • The loan account would be expunged by the end of the February 2022 financial year.
  • He had budgeted to reduce the loan by R11 500 a month.
  • He had told some of his clients that the FSCA had said that his director’s loan account could cause them financial hardship or prejudice their interests.

FSCA: no reasonable grounds

The FSCA rejected the application nearly a year later, in November 2020. By this stage, according to the applicant, the loan had been reduced to R142 696.

The FSCA was not satisfied that the FSP had proved reasonable grounds, as contemplated in section 44 of the FAIS Act, to justify an exemption from the financial soundness requirements. Granting the exemption would be in conflict with the public interest, prejudice the interests of clients and frustrate the achievement of the objectives of the FAIS Act.

According to the FSCA, the question is not whether compliance with the requirements creates hardship, but rather what reasonable grounds exist in relation to that hardship to support an application for exemption – in other words, whether the hardship experienced by the applicant is excessive in relation to other FSPs that are in a similar position, having cognisance of the purpose of the requirements and the objects of the Act. In the absence of such information, the mere claiming that compliance with the requirement creates hardship does not constitute reasonable grounds as contemplated in section 44(4) of the FAIS Act.

The authority rejected the FSP’s “implied contention” that no transitional period was provided to enable compliance with amended financial soundness requirements and that the subordinated loan could not be wiped out as of 1 April 2018. The FSCA said “it is widely recognised and accepted that regulation has and always will have a negative financial impact on and/or may create other burdens for regulated persons. This was within the contemplation of the legislature when it decided to impose the amended financial soundness requirements.”

The authority also rejected the applicant’s submission that it had said the subordinated loan could cause the FSP’s clients financial hardship or prejudice their interests.

Importantly, the FSCA did not withdraw or suspend the FSP’s licence.

‘Only became aware of the change in 2019’

The FSP’s owner took his case to the tribunal in December 2020. In a subsequent filing with the tribunal, he stated that the loan stood at R90 696 in January 2021, and he wanted an extension to expunge the balance by the end of July or August 2021.

The applicant told the tribunal:

  • His compliance officer sent him an email about the amendments to the financial soundness provisions, but this had not come to his attention in March 2018. He said he only became aware of the amendments in 2019 and immediately thereafter applied for exemption.
  • The FSP’s clients will suffer hardship if the exemption was not granted. If its licence is suspended, long-standing clients will have to find new FSPs, and they will be prejudiced.
  • He will suffer hardship if the FSP was closed down, as the business had been his main income stream for 25 years.
  • The FSP has enough financial resources to clear the loan account immediately.

Not adequately addressed in the exemption application

In rejecting the application, the tribunal agreed with the following points raised by the FSCA:

  • The FSP had not, in its exemption application, adequately addressed the aspects of “prejudice to the interests of client”, nor had it shown that meeting the financial requirements “will cause financial or other hardship”.
  • Although the FSP had tried to address these factors in its application for reconsideration and at the hearing, the FSCA could only consider the submissions that were before it at the date of the exemption application. This had not been the case.

By the date of the hearing in September this year, the loan account was at R19 596.

The tribunal said that even if the loan was not immediately repaid, as the applicant had promised, it would be expunged within two months from the date of hearing in terms of the proposed repayments of R11 500 a month.

It therefore agreed with the FSCA that remitting the application would have no practical effect – it would be of “academic interest” only.

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