Chartered Accountants and Professional Business Advisers

New Capital Requirements for Investment Firms

The FCA in conjunction with the EBA has finalised guidance on a major overhaul of capital requirements for investment firms.

The system at the moment is rather convoluted with various permissions leading to a myriad of different requirements, as this aims to consolidate the situation and simplify it. The new rules however could mean major changes to the amount of eligible capital your firm needs to hold and how this is reported to the FCA.

The implementation date has not been finalised but it is likely to be at some point in 2018, possibly 2019. If you were thinking that Brexit means this won’t happen, think again, as the FCA has been the one driving the changes across Europe, so regardless of how Brexit pans out, these rules are likely to be here in the UK in pretty much this format.

Base Capital Requirements

We’ll start with the most simple change. The base capital requirements are increasing, as it’s been a while since they were set. As before, the largest scope firms are at the top, including dealing on own account and placing trades on a firm commitment basis. If you don’t hold client money and aren’t included in the top you are in the bottom category, and all other firms are in the middle.


Classes of firm

Currently you can be an Exempt CAD, BIPRU, IFPRU firm amongst others and the new rules categorise all firms according to a new ‘class’ regime.

The three ‘Classes’ of firms are as follows:

1Systemic/bank likeCRD IV / CRR (no change)
2Other non-systemicNew Regime
3Small and non-interconnectedSimplified New Regime

So the first thing to do is work out what class you are in, and unless you are a bank or a large financial institution, you are unlikely to be class 1, so that means you will be class 2 or 3.

The following flow-chart and thresholds allow you to determine what class you firm falls in:

Once you have worked out what class you firm falls into, you can then look at the requirements. We won’t be looking at Class 1 in this document.

The capital requirement for your firm depends on both your authorisation and what class you fall into.

Exempt CAD

  • Under the new rules you will need to report on a consolidated basis in certain group situations, which you don’t have to currently.
  • The minimum capital requirement will increase from €50k to €75k
  • The capital requirement is changing from a flat €50k / £5k with PII to the higher of €75k and your Fixed Overhead Requirement (FOR).
  • You will need to maintain one month of your FOR in liquid assets.
  • You will now need to prepare an ICAAP document (you are currently exempt from this)
  • You will need to monitor concentration risk (although probably won’t report it)


  • The minimum capital requirement is increasing from €50k/€125k to either €75k/€150k
  • The capital requirement is currently the higher of the Base, the FOR, and the sum of market and credit risk. If your firm is class 3, the requirements are the same as an exempt CAD. If you are Class 2, then this becomes the higher of the Base, the FOR, and K-factor formula (discussed later).
  • You will need to maintain one month of FOR for liquidity purposes.
  • The ICAAP will still be required


  • The base requirement is increasing from €50k/€125k/€730k to €75k/€150k/€750k.
  • The capital requirement is currently governed by the CRR, and is generally the higher of the base requirement, and the total risk exposure amount x 8% (including additional risk exposure for fixed overheads). The new rules will be the higher of the Base, the FOR, and the K-Factor formula. If you are class 3 however, the rules will be the same as an exempt CAD.
  • You will need to maintain one month of FOR for liquidity purposes.

K-Factor Formula

If you are a Class 2 firm you capital requirement now depends on the ‘K-Factor’ formula. “K” incidentally stands for capital, and “c” was apparently taken!

As you will see, some of these depend on off-balance sheet items, such as client money and AUM, so there is potentially a significant change for some firms.

The K-factor formula is split into three areas, Risk to Customers, Risk to Market and Risk to Firm. Where these areas are applicable to you firm you include them in the calculation

Risk to CustomerAssets Under Management0.02%
 Client Money Held0.45%
 Assets safeguarded and administered0.04%
 Customer Orders Handled (Cash)0.1%
 Customer Orders Handled (derivatives)0.01%
Risk to MarketNet Position Risk*This is calculated under existing CRR rules
Risk to FirmTrading Counterparty DefaultBased on simplified counterparty credit risk
 Daily Trade Flow (Cash trades)0.1%
 Daily Trade Flow (Derivative Trades)0.01%
 Concentration RiskDetailed guidance
 TOTALSum of the above = K-Factor formula

* The FCA might ask you to use the ‘alternative approach’ to this, but this will be under direct instruction from the FCA, rather than the firm’s discretion.

Fixed overhead requirement

If you are a Class 2 firm you will probably have been reporting under the CRR rules anyway (COREP). The rules on FOR calculations are tighter under the CRR than they are under GENPRU and under the new regime, Class 3 firms will be subject to these tighter rules as well.

The principal of the FOR calculation is to take you previous year admin expenses and deduct variable items. Under CRR, the items you can deduct is more restricted, so this will potentially increase the requirement.


If you have not previously done one of these, you will now, as all Class 2 and Class 3 firms are now included. ICAAP stands for Internal Capital Adequacy Assessment Process and is a document which considers the other risks facing the firm on top of the usual Pillar 1 Capital Requirements. These are known as Pillar 2, and this is what the ICAAP calculates.

It is a document ranging from around 10 pages to 100 pages depending on the complexity of the firm, and amongst other things you need to include “reverse stress testing” which works out what it would take in order for the firm to be no longer viable.

The FCA can ask to see your ICAAP at any time, and if they aren’t happy that you’ve got your risks covered they can instigate ‘Internal Capital Guidance’ (ICG) which is an additional amount of capital they ask you to hold on top of your normal requirement, and it lasts for 3 years.

It is likely that going forward the ICAAP for all firms will need to be submitted to the FCA regularly.

Concentration Risk

All firms need to monitor this, but only Class 2 firms need to report. This will not drastically affect the smaller firms as there are thresholds.

There is a large exposure limit of 25% of total capital, and exposures to institutions could be limited as a result. However, if the exposure is less than €150m then you are allowed up to 100% of your capital, which essentially means there is no limit.

Transitional relief

If you are an Exempt CAD firm you are currently subject to minimal capital of €50k or £5k if you have PII. Under the new regime this may go up significantly, but for 3 years you can cap the requirement at €100k. After this period you will need to apply the new rules in full.

If you are a commodity firm, your requirement can be capped at 2 x FOR, during this transitional relief period.

Consolidated Supervision

As mentioned previously this captures more firms under the new regime, however the implementation rules are not completely clear yet. It essentially means the capital of the whole group needs to be considered.

The ultimate parent company within the group may not be regulated, however there is still an obligation to monitor and control sources of capital for all regulated group entities.

Unless you have a Class 1 firm in the group, generally the rules which apply are that you need to have enough capital to cover all the investments in subsidiaries in the group.

There will be anti-avoidance measures in place to prevent inventive solutions to this!

Liquidity Requirements

These now affect Class 2 and Class 3 firms and all firms must have rules in place to monitor measure and manage exposure to liquidity.

The liquidity requirement is that the firm must have liquid assets in excess of 1/3 of the FOR (i.e. on month). There will be definitions of what constitutes a liquid asset, but cash will be one of them.

Reporting Requirements

Some of the requirements stay the same, but as shown in the table below, if you are a class two firm, there are a number of new requirements as shown.

Class 2Class 3
Capital and capital requirementsCapital and capital requirements
Capital composition 
Liquidity requirements (NEW) 
Concentration risk (NEW) 
Information on specific models (NEW) 

Interestingly Pillar 3 disclosures will only apply to Class 2 firms, and this will be limited to showing capital requirements and solvency ratio.

Current reporting through GABRIEL is a mixture of on-screen forms and file uploads in ‘xbrl’ format (for which you need specialist software – if you have been making COREP and Asset Encumbrance Returns you will be used to this).

The reason for the special file format is so the EBA can analyse the data, and given these new rules bring all firms in scope of the EBA, it seems likely that more returns will need to be prepared in this way. There is a cost to the software to produce these returns which will you will need to consider.

What to do next

Work out what class of firm you are, and apply the new rules to your business to map how the changes are likely to affect you.

If you have not prepared an ICAAP before, make steps to understand what is involved.

Shipleys can assist with the calculations, the returns under the new regime and the preparation and review of ICAAP documents so please get in touch if you need help. We also have the specialist software to produce the new returns and can spread the cost between our clients.

Specific advice should be obtained before taking action, or refraining from taking action, on any of the subjects covered above.  If you would like advice or further information, please speak to your usual Shipleys contact.

Need more help? Please contact us at or +44 (0)20 7312 0000