On 23 July 2014 the European Council formally adopted the final text  of the UCITS V directive (the Directive). The European Parliament had  formally adopted the agreed text in April 2014. It is expected that the  Directive will be published in the European Union’s official journal (OJ)  during quarter 3 of 2014. It will come into force 20 days after publication  and Member States will have 18 months to transpose the Directive into  national law. Further, depositories will be given an additional 24-month  transition period after the transposition deadline.

The full requirements of UCITS V will not be known for some time,  however, as the Directive empowers the European Commission (the  Commission) to adopt delegated acts, giving detail to some of the new  provisions introduced in the Directive. Further, the Directive provides  that the European Securities and Markets Authority (ESMA) is to bring  forward guidelines on sound remuneration policies and practices in the  asset management sector, similar to those it introduced for the Alternative  Investment Fund Managers Directive (AIFMD). Whereas it is anticipated  that ESMA will introduce these guidelines in a relatively straightforward  manner, the implementing regulations required from the Commission will  not be a straightforward process, and industry engagement will be key over  the coming months.


UCITS V was introduced in response to the various financial crises (such as  Madoff and Lehman) and is in line with other global and EU initiatives such as  banking reform and AIFMD. The key elements of the Directive are as follows:

  • it revises the depositary regime as regards depositary eligibility, duties,  responsibilities and liabilities and defines the conditions in which  safekeeping duties can be delegated to a sub-depositary;
  • it introduces rules governing remuneration policies of UCITS  managers consistent with those under AIFMD and the Fourth Capital  Requirements Directive (CRD IV);
  • it introduces a formalised whistleblowing regime; and
  • it aims to harmonise the minimum administrative sanctions regime  across member states.


UCITS management companies (in common with Alternative Investment  Fund Managers under the AIFMD) will be obliged to implement  remuneration policies and practices which are consistent with and which  promote sound and effective risk management, do not encourage risktaking which is inconsistent with the risk profiles and rules of the UCITS  they manage, and do not impair compliance with the management  company’s duty to act in the best interests of the UCITS.

These remuneration policies and practices will have to include fixed and  variable components of salaries and discretionary pension benefits. The  policies and practices will apply to senior management, risk takers, control  functions, and employees receiving total remuneration that falls within  the remuneration bracket of senior management and risk takers whose  professional activities have a material impact on the risk profile of the  management companies or of the UCITS they manage.

At least half of fund managers’ variable remuneration must be paid in the  assets of the UCITS (or equivalent), unless the management of UCITS  accounts for less than half of the total portfolio. Payment of at least 40% of  variable remuneration will also be required to be deferred for at least three  years (this rises to 60% for particularly high variable components). The  implementation of the remuneration policy is subject to annual review.

More detail on remuneration under the Directive

  1. When establishing and applying the remuneration policies, management  companies will have to comply with the following principles in a way and  to the extent that is appropriate to their size, internal organisation and the  nature, scope and complexity of their activities (so proportionality applies):
  2. the remuneration policy must be consistent with and promote sound and effective risk management and must not encourage risk-taking  which is inconsistent with the risk profiles, rules or instruments of  incorporation of the UCITS they manage;
  3. the remuneration policy must be in line with the business strategy,  objectives, values and interests of the management company and  the UCITS it manages and the investors of such UCITS, and include measures to avoid conflicts of interest; the remuneration policy must be adopted by the management body of the management company in its supervisory function (in Ireland,  this will likely be the board of Directors and this is assumed in this  note). The board must adopt and at least annually review the general principles of the remuneration policy. The board is responsible for  and must oversee the implementation of the remuneration policy.  These duties must be performed by directors who do not perform  any executive functions in the management company and who have  expertise in risk management and remuneration.
  4. the implementation of the remuneration policy must be subject to at least annual central and independent internal review for compliance  with the policies and procedures for remuneration adopted by the  board;
  5. staff engaged in control functions must be compensated in  accordance with the achievement of the objectives linked to their  functions, independent of the performance of the business areas they control;
  6. the remuneration of the senior officers in the risk management and  compliance functions must be directly overseen by the remuneration committee, if such committee exists;
  7. where remuneration is performance related, the total amount of  remuneration must be based on a combination of the assessment  of the performance of the individual and of the business unit or  UCITS concerned and their risks and of the overall results of the  management company, and when assessing individual performance, financial as well as non-financial criteria must be taken into account;
  8. the assessment of performance must be set in a multi-year  framework appropriate to the holding period recommended to the  investors of the UCITS managed by the management company in  order to ensure that the assessment process is based on longer term  performance of the UCITS and its investment risks and that the actual payment of performance-based components of remuneration is  spread over the same period;
  9. guaranteed variable remuneration should be exceptional, should occur  only in the context of hiring new staff and should be limited to the first  year;
  10. fixed and variable components of total remuneration should be  appropriately balanced and the fixed component should represent  a sufficiently high proportion of the total remuneration to allow  the operation of a fully flexible policy on variable remuneration  components, including the possibility to pay no variable remuneration  component;
  11. payments related to the early termination of a contract should reflect  performance achieved over time and should be designed in a way that  does not reward failure;
  12. the measurement of performance used to calculate variable  remuneration components or pools of variable remuneration  components should include a comprehensive adjustment mechanism  to integrate all relevant types of current and future risks;
  13. subject to the legal structure of the UCITS and its fund rules, a  substantial portion, and in any event at least 50% of any variable  remuneration should consist of units of the UCITS concerned,  or equivalent ownership interests, or share-linked instruments or  equivalent non-cash instruments with equally effective incentives  as any of the above, unless the management of UCITS accounts for  less than 50% of the total portfolio managed by the management  company, in which case the minimum of 50% does not apply. These  instruments should be subject to an appropriate retention policy  designed to align incentives with the interests of the management  company and the UCITS it manages and the investors of such UCITS.  Member States or their competent authorities may place restrictions  on the types and designs of those instruments or ban certain  instruments as appropriate. This applies to both the portion of the  variable remuneration component deferred in line with point (n) and  the portion of the variable remuneration component not deferred;
  14. a substantial portion, and in any event at least 40 %, of the variable  remuneration component, should be deferred over a period which  is appropriate in view of the holding period recommended to the  investors of the UCITS concerned and should be correctly aligned with  the nature of the risks of the UCITS in question. The deferral period  should be at least three years; remuneration payable under deferral  arrangements should vest no faster than on a pro-rata basis; where a  variable remuneration component is of a particularly high amount, at  least 60 % of the amount should be deferred;
  15. the variable remuneration, including the deferred portion, should  be paid or vest only if it is sustainable according to the financial  situation of the management company as a whole, and justified  according to the performance of the business unit, the UCITS and  the individual concerned. The total variable remuneration should  generally be considerably reduced where subdued or negative  financial performance of the management company or of the UCITS  concerned occurs, taking into account both current compensation  and reductions in payouts of amounts previously earned, including  through malus 1  or clawback arrangements;
  16. the pension policy should be in line with the business strategy,  objectives, values and long-term interests of the management  company and the UCITS it manages. If the employee leaves the  management company before retirement, discretionary pension  benefits should be held by the management company for a period of  five years in the form of instruments set out in point (m). In the case  of an employee reaching retirement, discretionary pension benefits  should be paid to the employee in the form of instruments referred to  in point (m), subject to a five year retention period;
  17. staff should undertake not to use personal hedging strategies or  remuneration- and liability-related insurance to undermine the risk  alignment effects embedded in their remuneration arrangements;
  18. variable remuneration should not be not paid through vehicles or  methods that facilitate the avoidance of these requirements.

The principles listed above will apply to any benefit of any type paid by the  management company, to any amount paid directly by the UCITS itself,  including performance fees, and to any transfer of units or shares of the  UCITS, made to the benefits of those categories of staff, including senior  management, risk takers, control functions and any employee receiving  total remuneration that falls into the remuneration bracket of senior  management and risk takers, whose professional activities have a material  impact on their risk profile or the risk profile of the UCITS they manage.  This means that delegated investment managers will need to comply with  the remuneration code.

Remuneration Committee

Management companies that are significant in terms of their size or the size  of the UCITS they manage, their internal organisation and the nature, scope  and complexity of their activities must establish a remuneration committee. The remuneration committee shall be constituted in a way that enables it to  exercise competent and independent judgment on remuneration policies  and practices and the incentives created for managing risk.

The remuneration committee set up, where appropriate, in accordance  with ESMA guidelines will be responsible for the preparation of decisions  regarding remuneration, including those which have implications for the  risk and risk management of the management company or the UCITS  concerned and which are to be taken by the board. The remuneration  committee shall be chaired by a director who does not perform any  executive functions in the management company concerned. The  members of the remuneration committee must be directors who do not  perform any executive functions in the management company concerned.  If employee representation on the management body is provided for by  national law (this is not the norm in Ireland), the remuneration committee  must include one or more employee representatives. When preparing its  decisions, the remuneration committee must take into account the longterm interest of investors and other stakeholders and the public interest.

Prospectus/KIID Disclosure

The UCITS prospectus must set out a significant level of detail regarding  remuneration, remuneration policy and who sets it. Moreover, the  KIID must give details on the policy and how to access information on  remuneration.  ESMA Guidelines As noted above, ESMA is to issue guidelines on sound remuneration policies  in the asset management sector. The guidelines will look at the persons to  whom remuneration policies and practices apply and the adaptation of  the remuneration principles to the size of the management company and  the size of UCITS they manage, their internal organisation and the nature,  scope and complexity of their activities. The Directive states that ESMA is  to consult the European Banking Authority in developing these guidelines,  and that they should be based on those introduced for AIFMD and CRD  IV. The aim is that remuneration principles should be aligned insofar as  possible with AIFMD, and ensure consistency with requirements developed  for other sectors of financial services, in particular credit institutions and investment firms. The guidelines will also aim to include provisions on  how different sectoral remuneration principles, such as those in AIFMD  and CRD IV, are to be applied where employees or other categories of  personnel perform services subject to different sectoral remuneration  principles.


Eligibility to act as a depositary

Once UCITS V is in force, UCITS depositaries can be

  • a national central bank;
  • a credit institution authorised in accordance with CRD IV; or
  • another legal entity authorised by a national competent authority  under the UCITS Directive, which is subject to capital adequacy  requirements equivalent to CRR, holding own funds equivalent to  CRD IV and subject to prudential regulation, ongoing supervision and  minimal requirements.

These are broadly in line with (although somewhat narrower than)  AIFMD provisions.


Existing UCITS depositories that do not meet the new eligibility  requirements will be given an additional 24-month transition period after  the transposition deadline to gain the necessary authorisation to continue  as a UCITS depositary. A depositary cannot also act as the investment  company or management company. An investment company and, for  each fund it manages, a management company, must appoint a single  depositary, this must be evidenced by a written contract which (inter  alia) regulates the flow of information. The delegated regulations to be  introduced by the Commission will set out the conditions to be included  in the contract between the investment company and the depositary.  These delegated regulations will also set out the due diligence duties of  depositories, the rules for segregation of assets, and the conditions for  performing depositary duties. These are each discussed in more detail  below.

Depositary duties

Member states must ensure that where the depositary and/or any third  party located in the EU, to whom custody of UCITS assets has been  delegated, becomes insolvent, the UCITS assets will not be available to the depositary or third party’s creditors.

As regards cash monitoring, UCITS V will mirror AIFMD and the  depositary must ensure that all subscription payments have been received  and all cash is booked correctly in cash accounts that are opened in the  name of the UCITS, the name of the management company acting in the  name of the UCITS or the name of the depositary acting on behalf of the  UCITS. In order to ensure segregation of assets, where the cash account  is opened in the name of the depositary acting on behalf of the UCITS,  none of the depositary’s own cash may be deposited in that account. The  Directive sets out the depositary’s duties regarding cash monitoring and  safe-keeping, distinguishing between assets in custody (meaning assets  capable of registration/physical delivery) and other assets.2

Where financial instruments can be held in custody, the depositary  must hold in custody all financial instruments that may be registered in a  financial instruments account opened in the depositary’s books and all  financial instruments that can be physically delivered to the depositary  and the depositary must ensure that all those financial instruments  that can be registered in a financial instruments account opened in  the depositary’s books are registered in the depositary’s books within  segregated accounts (in accordance with MiFID), opened in the name of  the UCITS or the management company acting on behalf of the UCITS,  so that they can be clearly identified as belonging to the UCITS.

The assets held in custody by the depositary will only be allowed to be  reused if:

  1. the reuse of the assets is executed for the account of the UCITS,
  2. the depositary is carrying out the instructions of the management  company on behalf of the UCITS,
  3. the reuse is for the benefit of the UCITS, and
  4. the interest of the unit-holders and the transaction is covered by high  quality and liquid collateral received by the UCITS under a title transfer  arrangement.

The market value of the collateral at all times has to amount to at least the  market value of the reused assets plus a premium.

In performing its duties, the depositary must act honestly, fairly,  professionally, independently and in the interest of the UCITS and its  investors.

Delegation of Depositary Duties

In general, the conditions and requirements for delegation to a sub- depositary are aligned with AIFMD. The Directive sets out due diligence and on-going monitoring requirements  and conditions upon which the depositary’s safekeeping duties can be  delegated to a sub-depositary. The depositary must be able to show that  that there is an objective reason for the delegation. As regards the due  diligence to be carried out before a sub- depositary is appointed, the  depositary must be able to show that “the depositary has exercised all due  skill, care and diligence in the selection and the appointment of any third  party to whom it wants to delegate parts of its tasks and keeps exercising all  due skill, care and diligence in the periodic review and ongoing monitoring  of any third party to whom it has delegated parts of its tasks and of the  arrangements of the third party in respect of the matters delegated to it.”  This is generally in line with the current requirements of the Central Bank of  Ireland (Central Bank).

The Directive provides that the depositary can only delegate to a third party  who at all times satisfies a number of requirements. These include:

  • a requirement on the delegate to segregate the assets from its own  assets,
  • a requirement on both parties that, in the event of the insolvency  of the delegate, assets held in custody on behalf of the UCITS must  be unavailable for distribution to or realisation for the benefit of the  delegate’s creditors, and
  • a requirement on the depositary that, where the delegate holds assets  in custody, the delegate is subject to effective prudential regulation,  including being subject to minimum capital requirements, and is subject  to external periodic audit to ensure that the assets are in its possession.

Of practical assistance to depositaries are the provisions that where the local  law requires that certain assets are held in custody by a local entity and there  are no local entities that satisfy the delegation requirements, the depositary  can delegate its functions to such local entity provided investors have been  informed and the UCITS or the management company (on behalf of the  UCITS) instructed the depositary to delegate to such local entity. Moreover,  the provision of services by securities settlement systems is not considered  a delegation of custody functions. Depositaries will need to update the  agreements with sub- depositaries to ensure that all of the requirements are  reflected in the agreement. The indemnity provisions in the sub-depositary  agreement may need to be refined so that sub-depositaries indemnify the depositary in the event of a loss of any assets held by such sub-depositary. The reason for this is  that the depositary will ultimately be liable for the loss of any assets held by a delegate.

Depositary liability

Under the existing UCITS IV framework, the standard of liability for loss of a financial instrument  held in custody is that liability arises in case of “unjustifiable failure to perform obligations” or  “improper performance” of such duties. These words have been interpreted differently in various  member states, and this has resulted in different levels of investor protection. The Directive will  harmonise depositary liability by introducing the following provisions:

  • The depositary will be liable to the UCITS and to the unit holders of the UCITS for the loss  by the depositary or a third party to whom the custody of financial instruments held in  custody has been delegated. J In case of a loss of a financial instrument held in custody, the depositary must return a  financial instrument of identical type or the corresponding amount to the UCITS or the  management company acting on behalf of the UCITS without undue delay if it is deemed  liable for the loss.
  • The depositary shall not be liable if it can prove that the loss has arisen as a result of an  external event beyond its reasonable control, the consequences of which would have been  unavoidable despite all reasonable efforts to the contrary.
  • The depositary’s liability will not be affected by the fact that it has entrusted to a third  party all or some of its custody tasks and therefore the depositary will be liable for the loss  of assets even where the loss occurred at the level of the sub-depositary.
  • Apart from the case of the loss of a financial asset, the depositary will also be liable to the  UCITS and its investors for all other losses suffered by them as a result of the depositary’s  negligent or intentional failure to properly fulfil its obligations under the Directive.
  • The Directive distinguishes between assets that are capable of being held in custody and  those that are not. Therefore, a depositary will not be liable to return assets not capable of  being held in custody, such as OTC derivatives, where the depositary has an obligation to  verify ownership and keep a record of such instruments.
  • Investors may invoke the liability of the depositary directly or indirectly through the  management company or the investment company provided this does not lead to  duplication of redress or to unequal treatment of investors.
  • The depositary bears the burden of proof in demonstrating that it has duly performed its  duties.
  • Unlike the AIFMD regime, depositaries of UCITS will not be permitted to exclude or limit  their liability under contract.


UCITS V also introduces whistleblowing procedures aimed at encouraging employees of UCITS  management companies to report breaches of relevant rules to the relevant regulatory authorities.


The sanctions regime is to be revised in order to tackle the differences between member states in  the criteria being applied in issuing sanctions and in the level of sanctions being applied to specific  breaches. UCITS V harmonises how breaches are to be sanctioned so that sanctions act as an  effective disincentive, and sanctions are to be compiled and reported on a Europe-wide basis.

Level 2 measures

As noted at the start, The Commission will adopt Level 2 measures on topics such as defining  more specifically the depositary’s initial and on-going due diligence duties regarding the  selection and appointment of a sub-depositary and the circumstances in which financial  instruments held in custody should be considered as lost.