Clarifications of Requirements Related to the Distribution of Undertakings for Collective Investment in Transferable Securities (UCITS)

Circular 2/2024
Clarifications of Requirements Related to the Distribution of Undertakings for Collective Investment in Transferable Securities (UCITS)

The Circular applies to management companies for UCITS, investment firms, and associated agents, banks, and custodians of UCITS shares ("nominees").
5 July 2024

Norwegian Financial Supervisory Authority – Circular 2/2024: Clarifications of Requirements Related to the Distribution of UCITS 2

Introduction
The Norwegian Financial Supervisory Authority (Finanstilsynet) has observed a need for guidance on the regulatory framework in certain areas relating to the distribution of UCITS. The guidance is relevant for both management companies and other distributors of UCITS, such as banks, investment firms, and associated agents. Section 3 is also relevant for custodians of UCITS shares who are entered into the register of shareholders instead of the actual shareholder ("nominee").
Payments from Management Companies to Fund Distributors
who are Passed On to Shareholders
The right of fund distributors to receive trail commissions under the Securities Trading Act with regulations is limited. Many have therefore moved to a model of direct payment from their customers (shareholders). Customers often pay ongoing fees to the fund distributor for the distributor's services (often called platform fees). In addition, the customer pays fees to the management company through a management fee that is charged to the fund on an ongoing basis.

UCITS with net share classes with lower management fees are designed for such a fee model.

The Norwegian Financial Supervisory Authority has observed that some distributors who have moved to a direct payment model also require payment from the management company. Management companies have entered into agreements whereby payments from the management company are entirely or partially passed on from the distributor to the distributor's customers. Some fund distributors may have a practice where the fee that customers are to pay for the distributor's services is offset against payments from the management company, so that customers do not need to transfer amounts to the fund distributor. From the consumers' perspective, such payment arrangements are not very transparent and make it more difficult to compare prices on UCITS. From the fund distributor's side, the payments involve obvious conflicts of interest.

Payments from the management company that are to be passed on from the fund distributor to the shareholders are in reality a special compensation from the management company to these shareholders. The management company contributes to giving the distributor's customers access to a fund at a lower price than that set for the management fee. Such special treatment of certain shareholders is considered to be in conflict with the duty of the management company to treat shareholders equally under Section 4-5 of the UCITS Act.

The payments are also considered to be in conflict with the requirements for good business practice and the duty to safeguard the best interests of the shareholder community, in that the UCITS is not burdened with unnecessary costs, cf. Section 2-15 of the UCITS Act and Section 2-25 of the UCITS Regulations. Payments from the management company must constitute payment for a service and not weaken the management company's duty to act in the best interest of the shareholder community. See also point 23 in the briefing from the European Securities and Markets Authority (ESMA) on the supervision of costs and fees, dated 4 June 2020:

Supervisory briefing – On the supervision of costs in UCITS and AIFs

The management company must ensure equal treatment of shareholders and ensure that shareholders in the fund, or possibly in a share class, pay the same management fee. Instead of entering into agreements that in practice give certain shareholders access to the fund at a lower management fee, the management company must reduce the management fee so that this benefit accrues to the entire shareholder community in the form of a lower price.

Norwegian Financial Supervisory Authority – Circular 2/2024: Clarifications of Requirements Related to the Distribution of UCITS 3

Management companies that wish to give shareholders different terms for management fees in UCITS must do so through the option of using share classes, cf. the Norwegian Financial Supervisory Authority's comments in identical letters to management companies, dated 21 June 2022:

Management companies and discount schemes - change in management practice

Custodian Registration – Some Central Duties
3.1. Prohibition on Combining Subscription Amounts from Multiple Customers in Relation to Share Classes
The Norwegian Financial Supervisory Authority has seen a development towards increased custodian registration of UCITS shares, where the fund distributor, with which the management company enters into distribution agreements, is entered into the register of shareholders instead of the actual shareholder. Chapter 13 of the UCITS Regulations regulates the duties of the custodian.

The Norwegian Financial Supervisory Authority would like to remind of the requirement in Section 13-5 of the Regulations that the custodian shall not be considered as one shareholder in relation to the conditions for subscribing to a UCITS with share classes. This means that the custodian cannot combine subscription amounts from multiple shareholders to subscribe to shares in a share class with a lower management fee than the individual's subscription is entitled to under the conditions applicable to the individual share class. The provision in Section 13-5 applies regardless of what other service the custodian provides to its customers, for example advice, or merely assistance in connection with subscriptions.

A practice of aggregating customers' subscription amounts in relation to share classes is in conflict with Section 13-5 of the UCITS Regulations and is considered unlawful discriminatory treatment under Section 4-5 of the UCITS Act. The custodian (nominee) and the management companies must ensure that shares are subscribed in the share class that the individual customer is entitled to under the conditions applicable to the individual share class. Shareholders who subscribe for the same amount in a UCITS shall pay the same management fee, regardless of whether the shareholder is entered into the register of shareholders directly, or if the customer's shares are custodian-registered. Both the custodian (nominee) and the management company must arrange their routines so that these requirements are complied with.

3.2. Duty to Inform Shareholders
Management companies have a number of information duties towards shareholders under the UCITS Act with regulations. Shareholders are to receive, among other things, information about shareholder meetings in connection with amendments to the articles of association and mergers, and periodic information about their fund holdings. Prior to subscription, customers must be given key information. That shareholders are given the legally mandated information is central for consumers to receive the protection that underlies the UCITS Act.

When management companies enter into distribution agreements where the distributor is also to be the custodian (nominee) for its customers, the management company will not necessarily know the identity of these shareholders. In such situations, the distributor must be involved so that shareholders can receive the legally mandated information. The Norwegian Financial Supervisory Authority emphasizes that it is not sufficient to fulfill the information duties for the management company to have provided the legally mandated information to the distributor. The management company must regulate through its agreements with its distributors how the distributor is to contribute to sending out the information, so that shareholders are given the legally mandated information in accordance with the assumptions in the law.

Norwegian Financial Supervisory Authority – Circular 2/2024: Clarifications of Requirements Related to the Distribution of UCITS 4

The management company must ensure that the distributor has good routines for informing shareholders, and through its own routines and controls of the distributors ensure that shareholders are actually given the information they are entitled to.

In planning shareholder meetings, the management company must also make arrangements so that shareholders who are not themselves entered into the register of shareholders have a practical and effective opportunity to participate and vote at the shareholder meeting, or possibly vote through a proxy. This work must be coordinated to the necessary extent with the distributors of the management company.

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Norwegian Financial Supervisory Authority
Revierstredet 3
P.O. Box 1187 Sentrum
NO-0107 Oslo
Tel. +47 22 93 98 00 post@finanstilsynet.no finanstilsynet.no