The bans on conflicted remuneration, volume-based shelf space fees and asset based fees on borrowed amounts commence on 1 July 2013, together with the statutory duties for financial advisers and new ongoing advice fee rules.
The anti-avoidance provisions commenced a year ago. While benefits provided under existing arrangements on 30 June 2013 might be able to continue to be paid under grandfathering rules, benefits provided under arrangements entered into from 1 July 2013 must comply.
However, notwithstanding a long lead time, what is banned, what is not banned and what is grandfathered is not only poorly understood, but uncertain.
First, grandfathering – only two weeks away from the start date, regulations limiting grandfathering still haven’t been made. As the law stands, any conflicted remuneration or volume-based shelf-space fee provided under an existing arrangement on 30 June 2013 is grandfathered. It can continue to be paid and accepted for so long as the benefit is provided under the same arrangement. After initial statements from Treasury last year that this was it, multiple drafts of regulations limiting grandfathering have been circulated, some publicly and others confidentially, and are still being negotiated. The intention appears to be to limit grandfathering not only to benefits provided under existing arrangements on 30 June 2013, but also to benefits provided in relation to financial products acquired or issued before 1 July 2014.
When these regulations are finally made, this will introduce a further complexity to what is already very difficult legislation. Not least of the difficulties is identifying whether a benefit is conflicted remuneration or whether an exception applies.
In considering whether a person is receiving or accepting conflicted remuneration, it is necessary to be able to determine whether a benefit is in fact conflicted remuneration. The benefit must be reasonably capable of influencing financial product advice provided to a retail client by an Australian financial services licensee or a representative of a licensee. Superficially the test seems obvious. However, applying it can be hard.
What about the case of an employed adviser who recommends a single product issued by their employer? They are provided with a bonus each time a customer buys the product. Does the bonus influence their recommendation? It is easy to say yes, but what if they are required by the terms of their employment to recommend the product to customers? In that case, the employee would recommend the product irrespective of the bonus. Unless the bonus could be reasonably expected to encourage the employee to be more persuasive or effective in their recommendation, it is difficult in this case to say that the bonus has the relevant influence. Alternatively, it might be that the employee’s salary is in fact the influencer and the conflicted remuneration. Neither is the intended result of the ban. However, these facts do exist, as do others which make the question of whether a particular benefit is in fact conflicted remuneration very difficult.
Licensees and their representatives should be able to readily identify a benefit that is conflicted remuneration.
Benefit provided by a retail client
Second, it can be very hard to say confidently that a benefit which would otherwise be conflicted remuneration is not because it satisfies an exception. The exceptions for benefits provided by clients are particularly hard and, will likely be closely examined by ASIC and the courts as they are relied on by licensees and representatives to defend themselves against allegations that they have accepted conflicted remuneration.
Nevertheless, these exceptions will be widely relied upon to support remuneration arrangements for licensees and their representatives. There are two complexities. First, benefits are not often given by clients to their advisers, instead, the benefits are provided by the client to the product issuer and the product issuer will pass on some of that benefit to the adviser. ASIC says that it will administer the law in such a way that a benefit provided with the authority of the client or with their specific consent is a benefit provided by a client for the purposes of FOFA. This is very helpful, but ASIC goes on to say in Regulatory Guide 246 Conflicted Remuneration that where a benefit or a portion of a benefit is “passed on”, the exception will only apply if the client has not only authorised the passing on of the benefit but that the person passing on the benefit has no discretion over the portion that is passed on. This is not based on any provision of the law. It is also not clear whether ASIC would agree that a product issuer who “passes on” a benefit to a licensee does not have a discretion as to the amount where it has entered into an agreement with the licensee to pay a fixed amount to the licensee unless that fixed amount is also consented to by the client.
It is also worth noting that consent is not enough. In order for a benefit to fall within an exception for a benefit provided by a retail client, the benefit must also be provided in relation to the issue or sale of a financial product by the licensee or representative, financial product advice provided by the licensee or representative or a dealing in the financial product on behalf of the client by the licensee or representative.
Finally, FOFA includes a very broad anti-avoidance provision which again, makes it difficult to know with certainty that particular arrangements comply with FOFA. While the provisions are very broad, they apply only where a scheme is entered into in order to avoid a provision of FoFA. It should not apply to a scheme entered into in order to comply with a provision of FoFA.
This view is supported by an example provided by ASIC in Regulatory Guide 246 of a dealer that previously rewarded representatives with cash bonuses substituting those bonuses with computer software. The computer software is a non-monetary benefit which falls within an exception to the ban on conflicted remuneration. ASIC says that this arrangement would not breach the anti-avoidance provision. Obtaining a client’s consent to a benefit being passed on should not breach the anti-avoidance provision since, like the dealer swapping a cash bonus for computer software, what might otherwise be conflicted remuneration will be substituted for a benefit that satisfies an exception. The arrangement will be entered into to comply with, and not avoid, the ban on conflicted remuneration.
However, the distinction between conduct that is intended to avoid a provision of FoFA and conduct that is intended to comply with FoFA is fine and ASIC’s views might change when confronted by a particularly artificial arrangement or merely one that it does not like.