General securities advice not personal or legal advice
Reading through the Commissioner’s Final Report it is clear that he is taking a practical approach to change. Recognising that major structural change to the law would be hard to get through Parliament and very disruptive to industry, he instead works with the existing legislative and regulatory framework, making 76 recommendations that should be relatively easy to implement.
The government has said they will implement 75 of the 76 recommendations, baulking at the mortgage broking recommendations (on grounds it could reduce competition). Labor have confirmed they intend to implement all 76, if elected.
There are no major structural changes, just a set of recommendations that seek to achieve the following general rules:
the law must be applied and its application enforced;
industry codes should be approved under statute and breach of key promises made to customers in the codes should be a breach of the statute;
no financial product should be ‘hawked’ to retail clients;
intermediaries should act only on behalf of, and in the interests of, the party who pays the intermediary;
exceptions to the ban on conflicted remuneration should be eliminated; and
culture and governance practices (including remuneration arrangements) both in the industry generally and in individual entities, must focus on non-financial risk, as well as financial risk.
We have picked out the key recommendations in the following sections: Banking, Financial Advice, Superannuation, Insurance, Culture & Governance and Regulators. We also add our comments to each section.
Law to be amended so that mortgage brokers act in the best interests of the borrower
The borrower, not the lender, should pay the mortgage broker a fee for home lending
Recommend change in remuneration over 2-3 years, first prohibiting trail commission on new loans and then prohibiting lenders from paying other commissions to mortgage brokers
Mortgage brokers should be subject to the laws that apply to financial product advice to retail clients
This will have a major impact on the mortgage broking industry and it looks to be the most adversely impacted by the Royal Commission recommendations. The government actually baulked at accepting all the recommendations regarding mortgage brokers.
Car dealers finance
The exemption of car dealers (point-of-sale exemption) from National Consumer Credit Protection Act (NCCP) should be abolished
This will have practical implications for car dealerships looking to sell finance and insurance products to clients. We note that this has already been factored into the share prices of listed car dealers, APE and AHG.
Ongoing fees must be approved annually by the client
The law should be amended to provide that ongoing fee arrangements (whenever made):
must be renewed annually by the client;
must record in writing each year the services that the client will be entitled to receive and the total of the fees that are to be charged; and
may neither permit nor require payment of fees from any account held for or on behalf of the client except on the client’s express written authority to the entity that conducts that account given at, or immediately after, the latest renewal of the ongoing fee arrangement.
A move to annual ongoing fee approvals. Not clear whether “total of the fees” mean % fee or absolute fee amount. Absolute fees might be hard to estimate for platforms and managed funds.
Ongoing fees can only be deducted after the client has approved. This will have practical implications for platforms deducting fees. Any dealer fees will also need to be approved by the client.
Advisers to disclose lack of independence
The law should be amended to require that a financial adviser who would contravene section 923A of the Corporations Act by assuming or using any of the restricted words or expressions identified in section 923A(5) (including ‘independent’, ‘impartial’ and ‘unbiased’) must, before providing personal advice to a retail client, give to the client a written statement (in or to the effect of a form to be prescribed) explaining simply and concisely why the adviser is not independent, impartial and unbiased.
If an adviser does not meet the test of independence as outlined in S923A, they will be required to disclose to the client exactly why there are not independent.
Just a reminder on the requirements of S923A:
A financial adviser is independent if they do not receive:
commissions (apart from commissions that are rebated in full);
forms of remuneration calculated on the basis of the volume of business placed by the person with an issuer of a financial product; or
other gifts or benefits from product issuers which may reasonably be expected to influence that person;
the person operates free from direct or indirect restrictions relating to the financial products in respect of which they provide financial services; and
the person is free from conflicts of interest that might arise from any relationships with product issuers and which might reasonably be expected to influence the person.
Note: the restriction on volume-based remuneration does not include asset-based fees, i.e. asset- based fees are allowed under the test of independence.
The key question here is: how important will the title of independent become in the future to an adviser? Will this written disclosure force advisers to rethink their business models?
While there is no forced structural separation of the vertical integration model this recommendation could be a ‘trojan horse’.
Grandfathered commissions - Grandfathering provisions for conflicted remuneration should be repealed as soon as is reasonably practicable.
Life risk insurance commissions - When ASIC conducts its review of conflicted remuneration relating to life risk insurance products and the operation of the ASIC Corporations (Life Insurance Commissions) Instrument 2017/510, ASIC should consider further reducing the cap on commissions in respect of life risk insurance products. Unless there is a clear justification for retaining those commissions, the cap should ultimately be reduced to zero.
General insurance and consumer credit insurance commissions - The Quality of Advice review in 3 years’ time should also consider whether each remaining exemption to the ban on conflicted remuneration remains justified, including:
the exemptions for general insurance products and consumer credit insurance products; and
the exemptions for non-monetary benefits set out in section 963C of the Corporations Act.
There is a total attack on commissions. We are surprised by the consideration of banning general insurance commissions in 3 years’ time, at the next review. This has implications for general insurance brokers – Steadfast (SDF) and AUB Group (AUB). We will investigate this further.
Quality of Advice review
In three years’ time, there should be a review by Government in consultation with ASIC of the effectiveness of measures that have been implemented by the Government, regulators and financial services entities to improve the quality of financial advice. The review should preferably be completed by 30 June 2022, but no later than 31 December 2022.
Another review, nothing new for the industry! A ban on general insurance commissions will be considered at this review.
Personal Advice Advisers to be registered with a single, central, disciplinary body
Improved reporting of conduct of financial advisers by AFSL holder, clients and other stakeholders to the central disciplinary body
This is a sensible change that I think most advisers would agree with. It is always the minority that ruins it for the majority.
The trustee of an RSE should be prohibited from assuming any obligations other than those arising from or in the course of its performance of the duties of a trustee of a superannuation fund
Deduction of advice fees from a MySuper account should be prohibited
Hawking of super products should be banned
Employees should have only one default super fund
Super trustees should be banned, under a new civil penalty provision, from "treating" employers in order to have their fund nominated as a default fund
The bank executive accountability regime BEAR should be extended to super trustees
The Trustee obligations will ensure independence of Trustees from Management. This was a key issue at IOOF regarding the Questor Master Trust. This recommendation could have far reaching consequences for the vertically-integrated model that we are not aware of as yet.
The default super fund recommendations lack detail on how the default fund should be selected and the Industry Funds will most likely be impacted by the default fund restrictions.
No Hawking (unsolicited selling)
The exemption for the sale of funeral insurance should be removed
ASIC should impose a cap on the amount of commission that can be paid to car dealers for the sale of add-on insurance
Sensible changes, also see the proposed banning on general insurance commissions in 3 years’ time under the Financial Advice section.
Remuneration, Culture and Governance
APRA should aim to ensure sound management of misconduct, compliance and other non-financial risks in its supervision of bank remuneration systems
APRA should set limits on the use of financial metrics in connection with long-term variable remuneration
Banks should review at least once a year the design of remuneration for front-line staff
One of the trickiest areas to regulate. The commissioner has gone for a sound ‘big-picture’ approach by APRA and the industry.
Retain ASIC and APRA as regulators
ASIC should go to court for contraventions of the law, infringement notices should only apply to administrative failings
Superannuation to be co-regulated by ASIC and APRA
The roles of APRA and ASIC in relation to superannuation should be adjusted to accord with the general principles that:
APRA, as the prudential regulator for superannuation, is responsible for establishing and enforcing Prudential Standards and practices designed to ensure that, under all reasonable circumstances, financial promises made by superannuation entities APRA supervises are met within a stable, efficient and competitive financial system; and
as the conduct and disclosure regulator, ASIC’s role in superannuation primarily concerns the relationship between RSE licensees and individual consumers.
The Banking Executive Accountability Regime (BEAR) to be co-regulated by ASIC and APRA
ASIC and APRA to share information and co-operate with each other
ASIC and APRA to be subject to new oversight authority
No major change to the regulators. Instead, ASIC becomes the conduct and disclosure regulator while APRA focuses on prudential standards. ASIC is brought into the Superannuation and BEAR regimes, so it can enforce conduct. A new small oversight committee is set-up to oversee the performance of each regulator.
Banks – less impact than expected on lending regime. Changes to broker channels could actually be a net positive for the banks in terms of sourcing loans direct from consumers. Bank stocks will probably rally short-term but CBA reports in February and the growth outlook is likely to remain challenged. There could also be criminal proceedings out of the Royal Commission investigations.
Mortgage brokers – big changes ahead in terms of gradual ban of commissions and move to consumer pays. In addition, mortgage brokers to move in line with financial adviser requirements. That will be a major hurdle for many in the industry.
Wealth Management – no forced structural separation of the vertically integrated model but ‘winter is coming’. The new regulatory regime is likely to erode profit margins for institutions and advisers will continue to drift to independent AFSL’s. The model is likely to continue to break down and each entity in the chain (fund managers, platforms, brokers, research, licensees and advisers) will focus on their area of specialty, as an independent provider, and areas where they can drive productivity. In the end, client outcomes will be much better and the fee loads will continue to move lower.
We expect IFL and AMP to rally but again the rally could be short-lived as the industry comes to terms with the real impact of the recommendations.
Insurers – no major impact apart from the recommend banning of life insurance commissions and the recommended review of general insurance commissions in 3 years’ time. We don’t expect the insurance stocks to react too much but the insurance broker stocks could fall in the short-term but future changes still remain very uncertain.