EU watchdog to tighten outsourcing rules for banks ahead of Brexit

LONDON (Reuters) - The European Union’s banking watchdog has proposed tighter rules for lenders that want to outsource essential operations such as IT, saying Brexit could trigger a big rise in such arrangements.

The European Banking Authority (EBA) said it wants a more harmonised and detailed framework to identify “critical” functions that are outsourced.

“Over the recent years, there has been an increasing tendency by institutions to outsource activities in order to reduce costs and improve flexibility and efficiency,” EBA said in a statement on Friday.

“If such critical or important functions are outsourced, stricter and stronger requirements apply as compared to other outsourcing arrangements.”

Regulators are concerned that many banks are outsourcing critical functions such as IT to the same firm, creating risk for the broader financial system if that firm went down.

EBA said its 62-page draft guidelines put out to public consultation are also relevant for banks based in “third countries” or non-EU states that want to gain or maintain access to the bloc’s financial market.

“Outsourcing to third countries may change in volume after the UK has notified their intention to leave the European Union.”

Banks in London are opening or expanding hubs in the EU to maintain customer links after Brexit next March, but would like to use their UK base for some services.

“In particular, third country institutions may set up subsidiaries or branches in the EU in order to get or maintain access to EU financial markets and infrastructures, while the parent institution would provide a material part of the business activities,” EBA said.

Banks in the EU must follow a “due diligence” process to assess risks before entering into outsourcing arrangements - and responsibility of a bank’s management body can never be outsourced, EBA said.

“Outsourcing must not lead to a situation where an institution becomes a so-called ‘empty shell’ that lacks the substance to remain authorised.”

Banks must have written outsourcing agreements both for themselves and for regulators, and are required to maintain a register of all outsourcing arrangements, EBA said.

Reporting by Huw Jones, editing by Louise Heavens