Written by Senior Regulatory Counsel Michael Mathieson
A lot has happened since our most recent update. The Royal Commission has published the submissions received from ASIC and industry participants on policy questions posed by Counsel Assisting at the end of the financial advice hearings. And the small business lending hearings have been held.
Fees for no service
ASIC thinks fee disclosure statements and opt-in notices are insufficient to protect against 'fees for no service' (and it is not as if ASIC's view is unsupported by the facts). ASIC considers that a fee for a service should be invoiced to the customer and the payment 'specifically authorised, as and when the service' is provided. In other words, ASIC favours 'introducing a requirement for advisers to invoice clients for ongoing advice services'.
If ASIC's position were to be implemented, it would almost certainly spell the end of asset-based adviser service fees.
ASIC thinks 'grandfathered commissions operate to incentivise advisers to keep clients in legacy products with a continuing commission structure, even where there may be better products available to meet the client's needs'.
ASIC's view presupposes that there is an ongoing advice relationship between the adviser and the client to whom the adviser originally sold the product. This may be true in some cases but in many other cases the adviser and the client will have no ongoing interaction at all. In this second category of case, the trailing commission will almost certainly not be conflicted remuneration, as a benefit can only be conflicted remuneration if it could reasonably be expected to influence the adviser's financial product advice or recommendations. In this case, commissions are lawful not because of grandfathering but because they are not conflicted remuneration in the first place.
Be that as it may, ASIC believes that 'the grandfathering of commissions should cease as soon as reasonably practicable and to the maximum possible extent'. The submissions from industry participants varied as to whether grandfathering should cease and, if so, how quickly. However, they all questioned whether the repeal of grandfathering could result in an acquisition of property on unjust terms contrary to the Commonwealth Constitution. The Government's legal advice on that issue and its preparedness to have that view tested in court are likely to be key practical considerations. In this way, the fate of grandfathered commissions may play out in much the same way as a game of chicken.
Investment platform fees
During the hearing, investment platforms were described as providing a 'collection mechanism' for adviser service fees. The Commissioner called this an 'interesting characterisation'. In its submission, ASIC said it 'is a significant step to deduct money from a client's investments' and argued that 'platform operators should be expected to have controls in place to ensure that fee recipients are legally entitled to the funds removed from client funds'. Industry participants, to a greater or lesser extent, demurred.
Counsel Assisting asked, 'Are there particular characteristics of the financial advice industry which lead to there being a higher incidence of improper, unethical or dishonest conduct than in other industries? If so, what are those characteristics?' ASIC had quite a bit to say in response (and it is easy to imagine there was a little pent-up frustration lying behind what was said):
Financial advice is a complex consumer service, so that it can be difficult for a consumer to assess the quality and true cost of financial advice, and often the consequences of inappropriate advice may not be apparent to the consumer for many years (if at all) …
… the financial advice industry has historically been plagued by conflicts of interest …
… too many licensees have historically operated without adequate monitoring and supervision of their advisers …
… although the financial advice industry holds itself out as providing independent, disinterested and competent advice, there is a substantial element of the industry which has not yet adopted a professional ethos or approach …
… the permissive regulatory regime around financial products has meant that advisers have been able to recommend and sell products to consumers that create a higher risk of inappropriate, unethical or damaging outcomes …
… although the industry universally pays lip service to the values of being customer focused, "doing what is right" for customers and acting with integrity, the reality is that the culture of many participants in the industry has tended, at least historically, to be sales-driven and to favour their short term financial interests …
As to what should be done, ASIC favours: as mentioned earlier, an invoicing/authorisation requirement for ongoing advice services; facilitating the provision of basic, more commoditised, advice offerings to a large proportion of the population; simplifying financial products; and, restricting access to more complex, riskier products. The architects of the Financial Services Reform Act 2001 would be unlikely to be impressed – but then again, their own creation did not bear up so well during the GFC.
ASIC and industry participants agreed that the general obligations of an AFS licensee in section 912A of the Corporations Act are not expressed at too high a level of generality to be capable of being effectively enforced. This is borne out by a string of recent cases where the obligation to provide financial services 'efficiently, honestly and fairly' has been applied, amongst them the recent decision of the Federal Court in the BBSW case. And, as we will see, the idea of expressing obligations with some degree of generality cropped up again in the small business lending hearings.
ASIC said its 'present view' is that 'it should not be necessary to enforce the separation of products and advice'. Industry participants did not demur.
In addition to disliking grandfathered commissions, ASIC said that 'conflicted remuneration structures which are tolerated under the present regime on the basis of an assumption of transparency and fully informed consent should be looked at more closely'. Deducting fees from products and asset-based fees are what ASIC had in mind here. ASIC's statement reflects a further hardening of its attitude towards reliance on the exception to conflicted remuneration for benefits given by, or with the clear consent of, retail clients. Other evidence of that hardening may be found in the revised version of RG246 published last December.
There were two exchanges during the small business lending hearings that stood out, from a financial regulation perspective.
The first was a widely-reported exchange between the Commissioner and Mr Cohen of CBA concerning some 'informing principles': (1) don't mislead or deceive; (2) don't act unconscionably; (3) the implied warranty as to fitness for purpose and services being rendered with due skill and care; and (4) the responsible lending obligations. Mr Cohen accepted that it is 'sometimes difficult to distil the very essence of the fundamental obligations' from the plethora of compliance policies, procedures and processes. He also accepted that this may be 'a case of not seeing the wood from the trees'.
The applicable law already sets down these 'fundamental obligations', plus an awful lot more. It is the 'more' that appears to be the problem (or, in Mr Cohen's terms, the trees). Few would be disappointed if one outcome of the Royal Commission was a shorter, simpler version of Chapter 7 of the Corporations Act.
The second exchange was between the Commissioner and Mr Saadat of ASIC. Again, this exchange was widely reported; it concerned ASIC's approach to enforcing the unfair contract terms legislation when it was extended to small business in 2016. ASIC's approach to enforcement was compared with the ACCC's approach to enforcement – and it is not difficult to work out which approach the Royal Commission prefers. It is also worth reflecting on the fact that ASIC's responsibilities concerning consumer protection and financial services and products rested with the ACCC up until the late 1990s.
The next round of hearings will examine 'experiences with financial services entities in remote and regional communities'. This rather obscure description raises various questions, not the least of which is whether the Commission accepts or rejects the Bush Myth. At school, I was taught that Australia has long been a very highly urbanised country – indeed, it was already such a country in Henry Lawson's time. All will be revealed between 25 June and 6 July, in Brisbane and Darwin.