MiFID II : Information to Clients concerning Client Categorisation
The “Markets in Financial Instruments Directive II” (“MiFID II”) of the European Union requires that financial institutions conduct their business with the necessary professional knowledge, care and diligence to ensure that the client’s interests are served as best possible. Under this regulation, investment firms and credit institutions are obliged to collect and record all expedient information about the financial situation of their clients (such as the ability to bear losses or the ability to tie up capital), their previous experience and knowledge with security transactions and investment objectives (risk tolerance, risk reward profile) with respect to the intended investment targets.
Clients are divided into three categories, namely “retail clients”, “professional clients” and “eligible counterparties”. The extent to which the client is protected by legislation depends on this client classification, whereas the requirements for “professional clients and eligible counterparties” are less stringent than for “retail clients”. It is mandatory for financial institutions to inform clients about their appropriateness for the defined client category. In this regard, investment firms must ensure that new clients as well as existing clients are notified and classified in one of the following client categories, i.e. retail client, professional client or eligible counterparty, depending on the client’s needs and characteristics. Furthermore, they should inform their clients about the right to request a different classification and any limitations in the context of client protection that a different classification would entail.
Retail clients: The strictest protection regulations apply to the category of retail clients. All clients who are not classified as professional clients or eligible counterparties belong to this category. The protection safeguards, best-practice regulations and the obligation to carry out and process client instructions in the best interest of the client must be strictly observed.
Professional clients: Clients belonging to this category have sufficient experience, know-how and expertise in order to be able to take their own investment decisions and are therefore in a position to adequately assess the associated risk. Pursuant to the regulation, the following legal entities are considered to be professional investors by law: credit institutions, investment firms, insurance companies, investment funds, pension funds, national and regional governments (including public bodies managing public debt at national or regional level), Central Banks, international and supranational institutions as well as large companies meeting two out of the following three factors: balance sheet total of at least EUR 20,000,000 net turnover of at least EUR 40,000,000 and own funds of at least EUR 2,000,000.
Eligible counterparties: The regulatory duties for investment firms and credit institutions towards an eligible counterparty, such as a credit institution, insurance company or investment firm, are less far reaching. As is the case with professional clients, a client is either treated as an eligible counterparty per se or on request.
Upon request a higher level of protection has to be provided to a professional client/eligible counterparty (Opting-Down): Upon written request of the client or on the initiative of the investment firm / credit institution, clients may be treated as a professional or retail client in case the client is classified as an eligible counterparty or as a retail client in case the client has been considered a professional client.
Retail clients can be treated as professional clients, if the following criteria are met (Opting-Up): A retail client can request treatment as a (elective) professional client if two out of the following three criteria are satisfied:
- The client has carried out transactions, in significant size, on the relevant market at an average frequency of 10 per quarter over the previous four quarters.
- The size of the client’s financial instrument portfolio, defined as including cash deposits and financial instruments exceeds EUR 500,000.
- The client works or has worked in the financial sector for at least one year in a professional position, which requires knowledge of the transactions or services envisaged.
Clients must confirm in writing both, the request and the fact that they are aware of the consequences of the regulatory protection they may lose when being treated as professional client.