Date posted: 5/02/2019 3 min read

How the Royal Commission impacts financial advisers

The Banking Royal Commission outlines a new approach to disclosure, review and remuneration practices for the financial advice industry.

In brief

  • The Government will end grandfathering of conflicted remuneration effective from 1 January 2021
  • The Government will mandate a reference checking and information sharing protocol for financial advisers for all AFSL holders
  • The Government will introduce a new disciplinary system for financial advisers to build professionalism in the financial advice industry

As expected, CAs working in financial planning are the group within our membership most affected by Commissioner Hayne's recommendations.

Annual renewal and payment (Recommendation 2.1)

Financial advisers will need to:

  • seek annual renewal, in writing, of ongoing fee arrangements
  • record, in writing, the services that will be provided and the associated fees; and
  • mandate the client's express written authority for the payment of fees from any account held for or on behalf of a client given at, or immediately after, the latest renewal of the ongoing fee arrangement.

These requirements will apply for all clients. Currently, financial advisers are only required to seek clients' agreement for ongoing fee arrangements for new clients after 1 July 2013, and are only required to do this every two years.

These changes will help ensure clients understand if their adviser is in receipt of any third party payments, as a wider range of advice activities will be caught under these provisions, including some which were carved out of the Future of Financial Advice (FoFA) reforms introduced in 2013.

For those advisers who have always disclosed their fees in full, this change will represent unnecessary further administrative work. It will, however, bring all advisers onto a level playing field which will be positive for client sentiment.

The 'best interests duty' – the statutory duty requiring persons who provide personal financial advice to act in the best interests of their clients – was brought in under the FoFA reforms in 2013. The reforms were meant for everyone who provided personal financial advice to retail clients and were initially aimed at ensuring retail clients understood exactly how their advisers were being remunerated by third parties. Mortgage brokers were not initially included.

It is proposed that the best interests duty provisions will be extended to mortgage brokers, which will be a positive for consumer protection. It is also proposed that the safe harbour provisions as they stand will be reviewed in three years' time, a reform that will be welcomed by many advisers.

Disclosure of lack of independence (Recommendation 2.2)

The Government will require advisers to provide a written statement to a retail client explaining why the adviser is not independent, impartial and unbiased before providing personal advice, unless the adviser is allowed to use those terms under section 923A of the Corporations Act 2001.

This is a good initiative for clients whose adviser is authorised by a product provider and therefore could be influenced by product sales. However, as the definition of 'independence' incorporates the receipt of any commission, even if the Australian Financial Services Licence (AFSL) has no institutional ownership, this appears to be overkill.

Review of measures to improve the quality of advice (Recommendation 2.3)

There will be a review in 2022-23 on the effectiveness of FoFA reforms and the more recently introduced FASEA measures to improve the quality of advice.

CA ANZ has advocated that any inconsistencies between the previous FoFA reforms and the upcoming FASEA reforms will be addressed at the Government's earliest convenience.

The review will also encompass legislation currently before the Parliament to ensure that financial products are appropriately targeted and to give ASIC the power to intervene before a consumer suffers harm.

Grandfathered commissions (Recommendation 2.4)

In a widely expected move, the Government will end grandfathering of conflicted remuneration effective from 1 January 2021. Why?

The Government says:

  • grandfathered conflicted remuneration "can entrench clients in older products even when newer, better and more affordable products are available on the market"; and
  • grandfathering has been in place for over five years, and industry has had sufficient time to transition to new arrangements.

Also, the Government wants the benefits of removing grandfathering to flow to clients.

From 1 January 2021, payments of any previously grandfathered conflicted remuneration still in contracts will instead be required to be rebated to applicable clients who can reasonably be identified.

Where it is not practicable to rebate the benefit to an individual client – for example, because the grandfathered conflicted remuneration is volume‑based so it is not able to be attributed to any individual client – the Government expects industry to pass these benefits through to clients indirectly – for example, by lowering product fees.

Whilst this is a good initiative in theory, it will be difficult to quantify whether or not insurance companies are passing on volume-based fees to clients indirectly.

Finally, to ensure the benefits of renegotiating current arrangements to remove grandfathered conflicted remuneration ahead of 1 January 2021 flow through to clients, the Government will commission ASIC to monitor and report on the extent to which product issuers are acting to end the grandfathering between 1 July 2019 to 1 January 2021 and how they are passing the benefits to clients, whether through direct rebates or otherwise.

The Government also sees this as a response to the Productivity Commission's recent report Superannuation: Assessing Efficiency and Competitiveness which also recommended ending grandfathered trailing commissions.

Life risk insurance commissions (Recommendation 2.5)

ASIC will conduct a review to determine whether reforms made in 2017 to life insurance remuneration – capping the commissions a financial adviser receives for advising on the purchase of a life insurance product – have in fact "better aligned the interests of advisers and consumers".

Commissioner Hayne thinks ASIC should consider further reducing the cap on commissions in respect of life risk insurance products and, unless there is a clear justification for retaining those commissions, the cap should ultimately be reduced to zero.

CA ANZ thinks it likely that ASIC will conclude the reforms have not resulted in significant improvement. If we are right, the Government has already stated it will move to mandate level commissions, as recommended by the Financial System Inquiry.

This ASIC review will take into account the factors identified by the Hayne Royal Commission.

Ultimately, CA ANZ thinks all commissions – upfront and ongoing –  for new life insurance products are likely to be banned, a position we support. However, for existing policies which are in the clients best interest to retain, we support the Government's view that product providers be required to rebate ongoing commissions to applicable clients.

General insurance and consumer credit insurance commissions (Recommendation 2.6)

Commissioner Hayne recommended that the review referred to above to improve the quality of advice (Recommendation 2.3) 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
  • non‑monetary benefits set out in section 963C of the Corporations Act 2001.

The Government has agreed to review these remaining exemptions in the course of its review in three years' time on the effectiveness of measures to improve the quality of advice.

Reference checking and information sharing (Recommendation 2.7)

The Government will mandate a reference checking and information‑sharing protocol for financial advisers for all Australian Financial Services Licence (AFSL) holders. References are already sought by ASIC in many cases.

This recommendation builds on recent work to remove advisers who have engaged in misconduct from the industry, particularly, through the establishment of the Financial Advisers Register and the FASEA reforms.

Facilitating licensees to undertake reference checks will make it even more difficult for advisers who engage in misconduct to find alternative employment in the industry.

Reporting compliance concerns (Recommendation 2.8)

The Government will mandate reporting of 'serious compliance concerns' about individual financial advisers to ASIC on a quarterly basis.

An example given of a serious compliance concern is "where the licensee believes and has some credible information in support of the concerns identified that a financial adviser may have engaged in dishonest, illegal, deceptive and \ or fraudulent misconduct or any misconduct that, if proven, would be likely to result in an instant dismissal or immediate termination".

The Government has also agreed to strengthen the obligations to report breaches to ASIC. The Government will implement this recommendation as part of strengthening the breach reporting requirements.

Misconduct by financial advisers (Recommendation 2.9)

All AFSL holders will be required to make whatever inquiries are reasonably necessary to determine the nature and full extent of an adviser's misconduct (when detected by the licensee) and inform and remediate affected clients promptly.

There are obvious important financial issues relevant here, such as the impact on professional indemnity arrangements.

This recommendation will be reinforced by the Government announcement to provide ASIC with a new directions power as part of its response to the ASIC Enforcement Review.

A new disciplinary system (Recommendation 2.10)

The Government will introduce a new disciplinary system for financial advisers in a bid to build professionalism in the financial advice industry. Again, this is seen as building on the FASEA reforms.
The report states "the new disciplinary system will bring financial advisers into line with other professions — such as lawyers, doctors and accountants — where individual registration is standard practice."

This disciplinary system for financial advisers will operate concurrently with the existing AFSL regime and ASIC will retain the powers it has under the current regulatory framework, including the power to commence investigations and undertake enforcement action.

CA ANZ will be interested to see if this new disciplinary body will be combined with any Government endorsed FASEA Code Monitoring Body.

No hawking of insurance (Recommendation 4.1)

The hawking of insurance products will be prohibited. However, the ability of insurers to contact policy holders in relation to existing policies will not be restricted. The definition of hawking will be clarified to include selling of a financial product during a meeting, call or other contact initiated to discuss an unrelated financial product.