Further to consultations with interested parties, the European Commission has issued a proposal directive on UCITS V to complement UCITS IV provisions, together with an impact assessment report.

The content of this draft directive raises no big surprise while the impact assessment accompanying the Directive explains how these changes to the UCITS IV regime came about.

The below is a summary of the draft proposal's key content.

European uniform UCITS depositary regime

The depositary functions are through the UCITS V proposal clearly distinguished between safekeeping and oversight functions. The duties of the UCITS depositary are similar to the AIF/AIFM depositary:

  • Harmonisation of depositary duties: The tasks of a UCITS depositary is set to be rather aligned with the AIFMD and will consist of (i) cash flow monitoring, (ii) safekeeping of the fund assets (subdivided between custody and record keeping) and (iii) oversight.
  • Oversight duties scope: The UCITS V Directive Proposal draws up an exhaustive list of duties of UCITS depositaries and no longer makes a distinction depending on the form of the fund i.e. body corporate UCITS (SICAV) or a contractual form (as FCP).
  • Distinction between the type of assets: Due to the strict liability regime attached to the loss of financial instruments, the assets will need to be differentiated between (i) those that “can be” or “may be” held in custody, which in case of loss will be subject to a restitution duty, from (ii) all “other assets” of the UCITS where a record-keeping and ownership verification requirement applies subject to a negligence standard liability regime.
  • Eligibility: The EU Commission would like to harmonise the eligibility criteria by limiting the accessibility to credit institutions and regulated investment firms. Indeed, those latter market participants are considered as providing sufficient guarantees in terms of prudential regulations, capital requirements and prudential supervision.
  • Harmonisation of liability regime: Since the financial crisis and the Madoff case (which is the ubiquitous worst-case scenario cited many times across the whole piece of legislation), the ultimate concern at the EU level has been how to enhance the protection of retail investors which according to the impact assessment directly or indirectly represent 90 percent of invested funds in UCITS. The goal is to align with the most stringent standard existing, i.e., the strict liability standard. The draft text sets out a strict liability standard without any liability discharge permission in case of delegated custody.
  • Loss of “custody assets”: UCITS V will reform the current domestic Member State law by imposing the obligation to the depositary to return lost “custody assets” or the corresponding amount to the UCITS without undue delay. This strict liability standard applies even throughout the whole sub-custody chain without any possibility for the principal custody (i.e., the depositary) to discharge its liability through a contractual arrangement. This provision has greater importance given today’s UCITS cross-border framework where the recourse to local sub-custodian is mandatory.
  • Discharge of liability: Under UCITS V Directive Proposal, no liability discharge is envisaged in case of loss of assets, except where the depositary is able to prove that the loss is due to an “external event beyond its reasonable control, the consequences of which would have been unavoidable despite all reasonable efforts to the contrary”. In this context, a depositary will not be authorised to rely on internal situations such as a fraudulent act by an employee to discharge itself of liability.
  • Delegation rules: The UCITS V Directive Proposal establishes conditions under which a depositary may delegate his tasks to third parties: (1) delegation and sub-delegation should be justified by objective reasons; (2) delegation is subject to strict requirements as to the suitability of the sub-custodian; to this effect, the depositary shall exercise all due skill, care and diligence in the selection, the appointment and the periodic review of that third party delegate; (3) the depositary shall also ensure that third party delegate complies with certain conditions.
  • Segregation of assets held by the depositary: Article 22(4) introduces a segregation requirement. The cash accounts opened in the name of the depositary acting on behalf of the UCITS shall not receive any of the depositary’s own assets so that the UCITS assets and the depositary’s assets are clearly distinguished. Such requirement aims at protecting investors’ assets in case of default of the depositary or its sub-custodian. However, a third party to whom the safe-keeping of assets is delegated should be able to maintain an omnibus account, as a common segregated account for multiple UCITS.

The remuneration policy: alignment with AIFMD and MiFID

A lack of transparency on remuneration practices creates incentives for higher risk-taking without investors' knowledge and control.

  • Scope and Proportionality: UCITS V Directive Proposal introduces an obligation for the UCITS manager to establish remuneration policies and practices consistent with sound and effective management notably on senior management, risk takers and those who exercise control functions, and to staff having an impact on the risk profile of the UCITS. 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. The rules on remuneration policies may be adapted upon the size of the management company and the UCITS managed, their internal organisation, and the nature, scope and complexity of their activities.
  • Objectives of remuneration policy: The objectives of such remuneration policy are: (1) promoting sound and effective risk management; (2) discouraging any risk-taking inconsistent with the risk profiles of the UCITS; (3) ensuring protection of clients and investors’ interests; (4) covering salaries and discretionary pension benefits; and (4) preventing conflict of interest by applying adequate corporate governance rules.
  • A coordinated approach: The Commission Recommendation on Remuneration[1] in the financial services sector is incorporated as legal provision in UCITS V in order to apply to UCITS manager as it does for AIFM. The remuneration policy impacts the staff and not the management fees charged for the management service to the UCITS which remain outside of the scope of UCITS V.
  • Corporate governance and remuneration structure: The management body of the management company must adopt and implement the general principles of the remuneration policy. At least once a year, compliance with remuneration policies and procedures must be reviewed by a central and independent internal auditor. Larger management companies are required to establish a remuneration committee. The remuneration committee is responsible for the preparation of decisions regarding remuneration. It is required to directly oversee remuneration of the senior officers in risk management.
  • Bonus deferment: The UCITS V Directive Proposal aims at implementing the principle of the Commission Recommendation pursuant to which a part of the bonus should be deferred with a minimum deferment period. UCITS V provides indeed that at least 40 percent of the variable component of the remuneration of the managers shall be deferred for a period of at least three years unless the UCITS life cycle is shorter.
  • Disclosure in UCITS annual report: UCITS are required to disclose certain information in relation to fixed and variable remuneration paid by the management company or the UCITS and in relation to the break down of the remuneration paid to the different risk takers.

ESMA Level 3 guidelines on sound remuneration policies are expected to clarify the above.

Common standards for sanctions  

The lack of sanctions harmonisation would lead to regulatory arbitrage opportunities and render the sanctioning regime ineffective on a cross-border basis.

  • The Commission extended the EU minimum common standards on national sanctioning regimes to the UCITS framework so as to align the regime applicable to other sectoral EU legislation concerned (CRD IV, MiFID, Market Abuse Directive, Transparency Directive)[2].
  • The future harmonised sanctioning regimes would consist in the establishment of (i) a catalogue of breaches of main investor protection safeguards in the UCITS Directive, (ii) a catalogue of administrative sanctions and measures, and (iii) a minimum list of sanctioning criteria, and in the obligation for competent authorities and management companies to establish whistle-blowing mechanisms.  

For further information, please refer to:

UCITS V Proposal

Impact Assessment

Comparison between Proposed UCITS V Directive provisions and AIFMD provisions