The Ministry of Business, Innovation and Employment (MBIE) has released its Consultation Paper and Exposure Draft of reforms to the regulation of financial advice in New Zealand.
We outline and comment on some of the key changes below. Submissions are due by 31 March 2017.
Summary of the new Financial Advice Regime
The proposed new financial advice regime:
- allows for robo-advice platforms by removing the requirement that personalised advice be provided by natural persons and does away with the class/personalised advice distinction and the dual categorisation of financial products
- classifies financial advisers into Financial Advice Providers (FAPs), Financial Advisers (FAs), and Financial Advice Representatives (FARs)
- requires all FAPs to be licensed at the entity (or sole trader) level to give financial advice to retail clients (via a robo-advice platform or its FAs and FARs)
- creates new duties for FAPs, FAs and FARs to place the interests of their clients first (for both retail and wholesale clients), agree to the nature and scope of services, and meet the expanded Code of Conduct obligations (for retail clients only)
- creates new duties for FAPs to ensure that their FAs and FARs comply with the new duties, establish effective processes and controls to ensure that FARs comply with their duties, and ensure that incentives they pay to their FARs are not 'inappropriate', and
- prevents misuse of the Financial Service Providers Register by permitting financial service providers (FSPs) to register only when they are genuinely in the business of providing financial services and promoting those services in New Zealand.
Chapman Tripp comment
Several issues in the Consultation Paper will need to be carefully considered by anyone making a submission.
'Financial Advice Representative' may confuse – Clients are unlikely to appreciate that 'Financial Advice Representatives' differ from 'Financial Advisers' and are subject to a lower level of accountability. An alternative approach, which may find support in the current AFA community, would be to use the designation 'Salesperson' (as was signalled in earlier consultation rounds), as this better reflects their role. Alternatively, given that the class/personalised advice and category 1/category 2 product distinctions have been removed, having two classes of (individual) financial adviser may no longer be necessary. Any differentiation could be dealt with in the Code of Conduct.
FAs and FARs will have limited accountability – FAs who contravene a conduct obligation will be subject only to disciplinary action. FARs will escape even that. FAPs on the other hand, may be civilly liable for FAs and FARs who act on their behalf. Some have argued that FAs and FARs should have increased accountability. Submitters could consider whether a FAP should have a defence if it can show it took all reasonable steps to ensure its FAs/FARs complied with their legislative obligations.
FAs and FARs can still have “accessory" civil liability if they are “involved in a contravention", and can also still have criminal liability for knowing or reckless acts – similar to Financial Markets Conduct Act liability settings in other contexts.
The duty to place client interests first is potentially very expansive – The duty will apply when giving advice and 'doing anything in relation to the giving of advice'. This could extend the duty beyond the moment of giving advice. For example, as contemplated in MBIE's consultation paper, in determining whether to give 'information only' or 'financial advice', the adviser will need to put the client's interests first.
This may mean that, in some cases, advisers could be compelled to give financial advice. This is not an obligation found in the equivalent Australian duty to 'prioritise the interests of the client'. Submitters could consider the suitability of this duty, any exceptions, and whether a safe harbour should be available for FAPs who take all reasonable steps to ensure that they, or persons acting on their behalf, comply with the duty to place client interests first.
Wholesale providers should not be subject to the duty to place client interests first – MBIE currently proposes that the duty to place client interests first duty will extend to advice provided to wholesale clients. Many would argue that they do not need this protection, which is not provided in Australia. Overlaying this statutory duty on top of a wholesale client's contractual protections may be of concern to providers.
Wholesale and retail services could be better divided – The Bill states that if a financial advice or broking service is provided to any retail client, the entire service is deemed to be a retail service. This would mean that providers who offer services to even one retail client would have to comply with retail obligations even in relation to their wholesale clients – such as meeting standards of competence, agreeing on the nature and scope of advice, and complying with the Code of Conduct. Better demarcation could be achieved by providing that retail service obligations should not apply to services provided to wholesale clients.
Wholesale disclosure unnecessary - MBIE has indicated that a limited form of disclosure to wholesale clients will be required. Given that wholesale clients are sufficiently sophisticated to understand the protections they are giving up, submitters may consider that this is not necessary.
'Inappropriate' incentive restrictions should be clarified – Incentives are defined as 'inappropriate' if they are intended to encourage, or are likely to have the effect of encouraging, an FAR to engage in conduct that contravenes any of their duties under the Act. What is or is not an inappropriate incentive will be difficult for an FAP to determine. Will it extend to soft commissions? Or reward schemes based on sales targets? Remuneration design will likely come under real scrutiny. Submitters could ask whether FAPs should have a defence for putting in place appropriate incentive policies, procedures and controls.
The territorial scope may require refinement – The interrelationship between the territorial scope of the new FAA and FSPR regimes remains unclear – including for electronic and other advice provided by offshore entities that are already highly regulated in their home market. To prevent the regime creating an unintended barrier to such advice, we recommend empowering the FMA to grant exemptions to an “approved list" of offshore jurisdictions so that qualifying providers are not burdened with the licensing and conduct requirements of New Zealand law.
Transition could be long – MBIE's proposed transition arrangements involve a two-step transitional and full licensing process. This is likely to impose potentially significant costs on providers that have already gone through a licensing process (such as DIMS licensees). MBIE has also signalled that providers will be permitted to provide only the financial advisory services they were permitted to provide under the previous regime while operating under a transitional licence (available from February 2019 onwards). This may mean that providers will need to wait until they obtain a full licence to provide new services, such as robo-advice (or accelerate obtaining a licence for robo-advice).
Overview of the regime
Financial Advice Providers, Advisers and Representatives
Financial Advice Providers will be firms or sole traders that require a licence from the FMA to provide financial adviser services to retail clients and:
- will engage FAs or FARs to provide financial advice on their behalf, or give advice directly (e.g. via a robo-advice platform or via an internet site)
- could be civilly liable for failing to comply with their conduct and disclosure duties, or for failing to ensure that their FAs and FARs comply with their duties when advice is given on their behalf, and
- must establish effective processes, controls and limitations regarding advice given by their FARs (but FAs would remain accountable for advice they give), and
- must not give their FARs any 'inappropriate payment or other incentive' to engage in conduct that, for example, does not place the client's interests first.
Financial Advisers will be individuals who:
- will be engaged to give advice on behalf of a licensed FAP and will be registered on the FSPR, and
- could be subject to disciplinary tribunal sanctions if they fail to meet their conduct and disclosure duties (and can only be civilly liable in rare cases where they are “involved in a contravention").
Financial Advice Representatives will be individuals who:
- will be engaged to give advice on behalf of a licensed FAP, but will not be registered on the FSPR, and
- will not be individually accountable for compliance with conduct and disclosure duties either through civil liability (except in rare cases where they are “involved in a contravention") or disciplinary tribunal sanctions.
Duties that will apply to all advisers
MBIE has proposed that any FAP, FA or FAR that provides a financial adviser service must:
- place wholesale and retail clients' interests first when giving advice or “doing anything in relation to the giving of advice"
- provide advice to retail clients only where they meet minimum standards of competence, knowledge and skill set by the Code of Conduct for different types of advice
- when providing advice to retail clients, comply with the standards of ethical behaviour, conduct and client care required by the Code of Conduct
- provide advice to retail clients only if they agree to the nature and scope of the advice and take reasonable steps to ensure that the client is aware of the advice's limitations
- provide retail and wholesale clients with prescribed disclosure, the detail of which will be set by regulations, which will involve more limited wholesale client disclosure, and
- when providing advice to retail and wholesale clients, exercise the care, diligence and skill that a prudent person would exercise in the same circumstances.
All advisers must provide disclosure
All Advisers will be required to disclose information on matters such as their remuneration, the nature of the service they can provide, and the products and product providers they consider when advising. Disclosure regarding conflicts of interest and conflicted remuneration (e.g. soft commissions) may also be required in a prescribed format set by regulations.
Liability and discipline
FAPs could face civil and criminal liability for a breach of their conduct and disclosure duties, and may be held civilly liable for breaches by FAs or FARs who act on their behalf. MBIE has asked whether a FAP should have a defence against its own liability if it can show it took all reasonable steps to ensure its advisers complied with their legislative obligations.
FAs could face disciplinary proceedings in the Disciplinary Committee, but not civil liability. FARs would not be subject to civil liability or disciplinary proceedings. Individual FAs or FARs could be held civilly liable as accessories, but MBIE's expectation is that this would require intent by an individual adviser. MBIE has asked whether FAs and FARs should have direct civil liability.
MBIE is seeking submissions on its proposed phased transition proposal in its Consultation Paper, under which by:
- 31 August 2018 the Minister will approve a new Code of Conduct with the regime to begin six months after the new Code is finalised
- 28 February 2019 all providers of financial advice will be subject to the additional duties in the Act. Existing providers will need to apply for a transitional licence and FAs and FARs will need to be engaged by a FAP with a transitional licence to provide financial advice (with a safe harbour for FAs/FARs who need to upskill to meet the Code of Conduct), and
- 28 February 2021 all FAPs with transitional licences will need to have obtained a full licence and all FAs and FARs will need to meet the new Code of Conduct requirements.
Financial Service Providers Register Reforms
MBIE has proposed that entities will be able to register on the FSPR only if:
- their financial services are promoted in New Zealand (consistent with the territorial application of the disclosure provision of the FMCA), or
- they are required to be licensed or registered by another Act.
The Bill will also permit regulations to prescribe that a person cannot register if the services they provide in New Zealand are below a prescribed threshold. The Bill will also address misuse of the FSPR by providing information gathering powers to the Registrar and by requiring providers to clarify the limitation of being registered in any advertising.