Second tranche of FoFA reforms addresses conflicted remuneration

Assistant Treasurer Bill Shorten announced the first tranche of the draft bill for the FoFA reforms covering opt-in, the best interest duty and the increase in ASIC’s power to enforce these reforms.

The Government reconfirmed its position on Opt-in and the best interest duty of a financial planner and dealer groups.  However the draft bill for opt-in provides advisers with greater flexibility through the ability to use emails and phone to obtain the client’s agreement to on-going fees. 

Legal advice obtained by the Government means that many existing arrangements with clients can be maintained and the measures will apply mostly to new clients after 1 July 2012 (and from 1 July 2013 in the case of risk insurance). This means that advisers can continue to receive trail commissions in respect of existing clients. Volume payments relating to existing investments can continue to be paid by platforms to dealer groups and financial planners. This latter grandfathering provision will encourage advisers and dealer groups to maintain client investments in existing platforms and there will be a disincentive to switch existing clients to another platform or to another structure such as an SMSF or direct investments.

Insurance commissions on individual life insurance policies inside choice funds and SMSF’s can continue to apply.   The ban on commissions will apply to group life insurance on all super products from 1 July 2013.  Disclosure on the percentage and dollar amount of the commission will be required at this time.

The second tranche of the FoFA reforms will be released shortly by the Government and will include the ban on conflicted remuneration (covering commissions and volume payments), the ban on ‘soft dollar’ benefits, the ban on asset-based fees (for gearing) and the definition of intra-fund advice.  At this time, the decision on the replacement of the accountant’s exemption will also be announced.

Warning: These draft reforms are subject to debate and may be amended in Parliament. The details summarised in this document could therefore be subject to change. Advisers should seek their own advice before acting on any of the details.

Best interest duty

The Government confirmed the best interest duty which will require financial planners and advisers to give priority to the client’s interests where there is a conflict between the interests of the client and the adviser or dealer group. The objectives, financial situation and needs of the client must be the paramount consideration when giving advice.

Licensees will have an obligation to take reasonable steps to ensure their representatives comply with these obligations.

An exemption will apply where a breach of this requirement occurred because the authorised representative reasonably relied on information provided by their licensee.

Breaches of this obligation will be subject to a maximum penalty of $250,000 for individual and $1 million for corporate entities.

Opt-in measures

The opt-in measure will require financial planners to send a renewal (‘opt-in)’ notice as well as an annual fee disclosure statement every two years, to continue charging client an on-going fee.  This opt-in will apply to new clients from 1 July 2012. Existing clients will be excluded from this requirement which will mean that some existing commission arrangements will be grandfather from this requirement.

The Government does not believe that opt-in will create additional significant costs for advisers. In his release, Shorten referred to the Rice Warner estimates that the cost of opt-in will be $11 per client. This includes set up costs and the costs of chasing up clients who advisers may be in regular contact with.

One concession is that advisers will have greater flexibility in how they record the client’s renewal. The Government will allow advisers to use electronic means including the phone and internet and potentially use a record of advice to record the client’s approval for the on-going fee arrangements. Clients may also fill in a short form online and send their approval via email.

If the client does not renew the adviser’s service then they are assumed to have opted out of any on-going advice fee arrangement and such fees can no longer be charged to the client.

Where the adviser fails to send out a renewal notice or annual fee disclosure, the client will be entitled to recoup any ongoing fees paid to the adviser.  The penalty for an adviser continuing to charge on-going fees where the client has opted out or where the adviser does not comply with these opt-in provisions will be a maximum penalty of $50,000 for an individual and $250,000 for corporate entities.

Ban on risk commissions

Insurance commissions on individual life insurance policies inside choice funds and SMSF’s will continue to be allowed.  This change in the Government’s position was first signalled at the Financial Services Council conference earlier this month.

A ban on commissions will apply to group life insurance in all superannuation products including default/My Super products and Choice products from 1 July 2013. At this time, unbundled disclosure will be required so that dollar and percentage value of commissions are disclosed for new and renewed policies.

The Government will work with the industry and consumer groups on the following:

• Introduce uniform claw back provisions so that advisers have no incentive to shop around for an attractive claw back arrangement
• Effective ways to implement level commissions on replacement policies to reduce the incidence of churn from high upfront commissions.

Enhancement of ASIC's powers

ASIC will be given wider licensing and banning powers to better supervise the financial services industry. These may include:

• Ability for ASIC to refuse or cancel/suspend a license where a person is likely to contravene their obligations. Currently this power is only allowed where the person will not comply with the obligations.
• Ability to ban a person who is not of good fame and character or not adequately trained or competent to provide financial advice (that is, not a fit and proper person).
• Ability to ban a person if they are likely to contravene a financial services law. Currently ASIC can only ban a person if they will not comply with a financial services law.
• ASIC can ban a person who is involved in a contravention of obligations by another person.

Grandfathering of existing arrangements

The Government has received legal advice that the ban on conflicted remuneration including commissions can not apply to existing clients where the adviser receives ongoing commission. Trail commissions on individual products or accounts for these existing clients will continue after 1 July 2012 (and after 1 July 2013 for risk insurance policies). 

Existing trail arrangements from platforms to licensees and dealer groups (or their representatives) in respect of investments made prior to 1 July 2012 will be grandfathered. However the level of volume payments will not increase in size and the ban on payments from platforms to dealer groups and licensees will be banned for any new investments through a platform.

The opt-in arrangements will apply only to new arrangements with new clients after 1 July 2012. It will not apply at all to existing clients.

The best interest duty will have full application to anyone providing personal financial advice to retail clients from 1 July 2012.

Extension of ban on soft dollar benefits

The ban on soft dollar payments will be extended to non-investment linked life insurance outside of superannuation (but not general insurance). The Government had previously announced that a ban on soft dollar payments will apply to retail investment financial products and life insurance within superannuation. The details are expected to be covered in the second tranche of FOFA reforms.

Restricting the term financial planner

The Government will release a consultation paper on restricting the term “financial planner” by the end of the year.