Allens

Financial Services Regulation

Increase text sizeDecrease text sizeDefault text size

Unravelled: Personal advice and the best interests duty

21 March 2018

Written by Partner Michelle Levy

There has been a great deal of attention given to the meanings of 'financial product advice' and 'personal advice' in the Corporations Act and many of us are eagerly waiting to see what Justice Gleeson will say about the topic in the case ASIC has brought against the BT trustees. However, whatever Her Honour decides in that case, it is unlikely to help very much, because the line between general advice and personal advice will always turn on the facts and, where the facts change with each interaction with a customer or client, it will continue to be difficult for licensees to be confident that they and their representatives are not giving personal advice. While that is a pity, it is, in my view, a greater pity that more licensees are not prepared to take the plunge and give personal advice. If licensees assumed that their interactions with customers and clients about financial products was personal advice, the difference between general advice and personal advice would not matter much.

What is required to give personal advice?

The biggest impediment many licensees see to giving limited personal advice is the best interests duty. There is a view that it is hard to comply with. I am not convinced it is. The real problem is how to sell a product and comply with the best interests duty. In my view, that too is not that hard. Two things are needed – a good product and an honest assessment of whether the customer will be better served by the recommended product than their existing product. I think ASIC might not only agree, but, in its recent information report 562, it provides pretty good guidance on how it can be done.

First, what the best interests duty is not

The 'best interests duty' in the Corporations Act is in fact three separate duties. A person who provides personal advice to a retail client must act in relation to the advice in the best interests of the client under section 961B(1). They must only give advice if it is reasonable to assume that the advice is appropriate for the client under s961G and, if there is a relevant conflict, they must give priority to the interests of the client under s961H.

Lots has been written (including by me) about what these duties mean. Lawyers (again, I put my hand up) were particularly upset by the use of the term 'best interests' because it is a term borrowed from equity where it has become a shorthand formulation to describe the duties of a fiduciary. The fiduciary is a person whose powers must be exercised for the benefit of another person. To ensure that the fiduciary can do so, the law says that the fiduciary must act without a conflict and must not obtain an unauthorised profit.

The safe harbour steps in s961B(2), the appropriate advice duty and the duty of priority all make it pretty clear that the statutory best interests duty in s962A(1) does not mean this. The first two go to the provider's process, while the last appears to create a code for dealing with conflicts (which does not have much to do with the fiduciary's duty not to act with a conflict).

ASIC's information report 562 on conflicts in vertically integrated financial institutions

ASIC's recent information report on conflicts in vertically integrated financial institutions is very useful because it is possible to infer from it what ASIC thinks is required to comply with the best interests duty.

The report followed ASIC's investigation into the make-up of approved product lists by licensees owned by AMP, ANZ, CBA, NAB and Westpac and the quality of advice provided to 200 clients who were advised to move their superannuation to the in-house superannuation platform.

The findings have been widely reported – in ASIC's view, 75 per cent of the advice provided was 'non-compliant advice'. Non-compliant advice was advice that did not comply with the best interests duty and related obligations. ASIC said that in 10 per cent of cases the client was 'likely to be significantly worse off as a result of following the advice' and that in '65 per cent of cases the files did not demonstrate the customer would be in a better position following the advice'. The Corporations Act does not impose a duty on an adviser to only give advice that will, or which is likely to, put the client in a better position. However, after reading this report from ASIC, I have been persuaded that it is not a bad measure of whether an adviser is likely to have complied with their statutory obligations.

So, what is required by the best interests duty?

In reviewing the 200 files ASIC (and an external reviewer) considered first whether the adviser was able to rely on the safe harbour. An adviser who is able to demonstrate that they have taken each of the steps in s961B(2) is deemed to have provided advice that was in the best interests of the client. The steps are not difficult and are narrow or extensive based on the advice being given. As ASIC has said many times, where the advice is limited, it is often (but not always) the case that the inquiries required by the safe harbour steps are also limited.

Given the protection offered by the safe harbour and the procedural nature of the steps, it is a surprise that providers of advice do not step carefully through them. But they do not.

ASIC said that in the 75 per cent of cases the advisers did not satisfy the safe harbour steps. This was commonly because the adviser failed to demonstrate that they had sufficiently researched and considered the customer's existing financial products and based all judgments on the customer's relevant circumstances. ASIC makes the point that investigating a client's existing financial products and assessing whether they could meet the client's needs are 'very important considerations' when recommending a replacement product. This is also a standalone obligation under s947D of the Corporations Act.

There is quite a lot to say about this. In short, advisers did not consider or properly consider their clients' existing superannuation funds before recommending they switch their superannuation to another superannuation fund. Often providers of advice say that they cannot consider a client's existing product because it does not appear on the approved product list. But it is hard not to be slightly suspicious of this. The investigation of a client's existing product does not need to be as extensive as the review of a product for the purposes of deciding whether advisers can recommend the product to clients.

It is worth pausing here to note that ASIC did not appear to expect any further step to be taken under the last limb of the safe harbour – being to take any other step reasonably necessary to act in the best interests of the client. This limb of the safe harbour has been roundly criticised because it could undo the usefulness of the safe harbour itself. But five years on, it appears that it has no work to do.

In each case where the adviser could not rely on the safe harbour, ASIC said that it then went on to consider whether the adviser nevertheless provided advice that was in the client's best interests under s961B(1). The paper says: 'In each case where the adviser could not rely on the safe harbour, we also found that the advice provided was not in the customer's best interests under s961B(1)'. This is the most unsatisfactory part of the paper because ASIC does not say what it considered in asking this question and forming its opinion.

Was the advice nevertheless appropriate?

ASIC then looked at whether the adviser had complied with their duty under s961G to only give advice if it is reasonable to assume that the advice is appropriate.

This is an interesting obligation. It might be thought that the reference to reasonableness would help an adviser whose advice was being tested – but what ASIC shows in the report is that that help might only be available for an adviser who brings themselves within the safe harbour.

ASIC found that in each case where the adviser had failed to provide advice in the best interests of the client, the adviser also failed to comply with s961G. In ASIC's view, because the advisers did not undertake the investigations necessary to bring themselves within the safe harbour, they were not in a position to reasonably assume that their advice was appropriate (whether or not it was in fact appropriate).

The duty of priority

Finally, ASIC considered whether the adviser satisfied the duty of priority. Section 961J applies where there is a conflict between the interests of the client and the adviser's interests or the interests of an associate of the adviser. In ASIC's review, the product manufacturers and advice licensees were related entities. ASIC said that because these businesses were vertically integrated, there was a conflict between what was in the product manufacturer's interests and the client's interests. That is of itself an interesting proposition.

The law dealing with conflicts of interest and conflicts of duty applies where one person owes a duty to another person and either has a conflict between their duty and their personal interest or between their duty to the other person and a duty to another person. The rules that apply in those circumstances have been developed because a person with a fiduciary duty to another person cannot be relied upon to ignore their own interests and cannot be put in a position where they cannot discharge their duty to that person. The general law has no similar rules when the duties or interests are held by two different people simply because the same problems don't arise. And so, leaving aside those cases where the adviser received an incentive for recommending the in-house product (in which case there would have been an actual conflict between their personal interest and their duty to the client), the adviser has no duty to the product manufacturer and no personal interest in selling the product. Similarly the product manufacturer's presumed desire to sell products has nothing to do with the advice provided by the adviser.

But ASIC does not grapple with any of these legal niceties. ASIC says that there is a conflict within the meaning of the section between the interests of the product manufacturer (who is an associate of the adviser) and the interests of the client without explaining why (for example, if the product manufacturer was a not-for-profit trustee of an industry fund, would ASIC reach the same conclusion?) and on that basis says that the duty of priority applies. And while this seems pretty unsatisfactory, it might be an assumption that is required to be made to give this limb of the duty of priority any meaning.

Having decided that the duty of priority applies ASIC then goes on to conclude that none of the advisers who did not comply with the best interests duty or the appropriate advice duty gave priority to the client's interests. They said that, because there was a conflict, the adviser was required to demonstrate that the client would benefit from the advice to move their superannuation to the in-house superannuation platform.

And where does this take us?

There are a couple of conclusions to be drawn.

ASIC says that it does not expect advisers to recommend external products in proportion to the number of external products on the approved product lists. Separately, ASIC has also said that it is possible to have a single product on an approved product list. What I think can be inferred from this is that ASIC accepts that an adviser can recommend an in-house product consistently with their best interests duty.

The information report provides a nice roadmap for how it can be done. In short, an adviser who demonstrates that they have taken all of the steps in the safe harbour (for which purpose paragraph (g) can be pretty much ignored) will not only be deemed to have complied with the best interests duty but also to have satisfied the appropriate advice obligation. Finally, the adviser must be able to show that the advice is going to provide some benefit to the client in order to satisfy the duty of priority. This turns on the product manufacturer arming the adviser with good products, not the skill of the adviser. If the adviser decides, after some investigation of the client's existing superannuation, that the in-house superannuation product will provide a benefit to the client, they can recommend that the customer move, if not they have to say so. It is hard to disagree with this as a proposition.

Other article in this edition of Unravelled

Unravelled banner

Preparing a target market determination for a financial product
As the 'design and distribution' obligations for issuers and distributors of financial products inch closer, there is a good deal of hand-wringing taking place. Much of it concerns what a target market determination should look like. Guidance from the European Securities and Markets Authority on MiFID II provides a sense of what local issuers may be in for. But first - Treasury's proposal. Read more>>

For further information, please contact:

Share or Save for later

What are these?

 

To save this publication on your smartphone or
tablet for off-line reading (eg on a plane flight),
we recommend Pocket.

 

 

You can leave a comment on this publication below. Please note, we are not able to provide specific legal advice in this forum. If you would like advice relating to this topic, contact one of the authors directly. Please do not include links to websites or your comment may not be published.

Comment Box is loading comments...