As we reported in our October 2019 special bulletin, the Canadian Securities Administrators (CSA) have finalized their client-focused reforms (CFRs) to National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations (NI 31-103) and its related Companion Policy (NI 31-103CP) (Policy). These provisions came into force late last year and will take effect in two phases, beginning on December 31, 2019.

This month, we highlight the new prohibitions on misleading communications as well as the relationship disclosure information (RDI), compliance training and record-keeping requirements. The RDI requirements will come into effect on December 31, 2020 and the other provisions discussed in this article will come into effect on December 31, 2021. To streamline our discussion, we refer to NI 31-103 and NI 31-103CP in their current form as the Current Rules and Policy and to the amended versions as the Revised Rules and Policy.

This article is the third in our series of closer looks at the CFRs. We discussed the conflict of interest provisions in our October 2019 bulletin and the know-your-client (KYC), know-your-product (KYP) and suitability provisions in our November 2019 bulletin.

A.  Misleading Communications

Securities regulators and investor advocates have been concerned for years that some registered firms and individuals use confusing or misleading titles, designations, awards and/or other descriptions of themselves and their services. The securities regulatory framework already incorporates prohibitions that are broad enough to capture at least some of this conduct. For example, subsection 44(1) of the Ontario Securities Act prohibits people and companies from making statements that a reasonable investor would consider relevant in deciding whether to enter into or maintain a trading or advising relationship with that person or company if that statement is untrue or omits information necessary to prevent the statement from being false or misleading. Section 2.1 of National Instrument 31-505 Conditions of Registration requires registered dealers, advisers and representatives to deal fairly, honestly and in good faith with clients. And in 2011, the Canadian Securities Administrators (CSA) outlined their specific concerns and provided guidance to portfolio managers regarding the use of trade names and individual titles in marketing materials in Staff Notice 31-325 Marketing Practices of Portfolio Managers.

New section 13.18 of NI 31-103 reflects the securities regulators’ conclusions that this principles-based approach is inadequate. The new rule, scheduled to come into effect on December 31, 2021, will prohibit registrants from holding out their services in any manner that could reasonably be expected to deceive or mislead any person as to:

  • Their proficiency, experience or qualifications;
  • The nature of the person’s relationship or potential relationship with the registrant; or
  • The products or services provided or that might be provided.

It also will prohibit registered individuals who interact with clients from using from any title or designation without their sponsoring firm’s approval. In addition, they will be prohibited from using corporate officer titles unless appointed to that office under corporate law, and they will not be able to use any title, designation, award or recognition based on their sales activity or revenue generation.

The Revised Policy emphasizes that particular scrutiny should be given to titles that may convey an expertise in seniors’ issues or retirement planning. It also recommends that firms consider whether a particular designation has a rigorous curriculum, examination process and experience requirements issued by a reputable or accredited organization when deciding whether to approve the designation’s use.

As registrants develop their project plan for implementing these new requirements, they should also take into account the following:

  • The CSA has indicated that there is potential for further rulemaking on the use of titles and designations. And in 2020, the Financial Services Regulatory Agency of Ontario (FSRA) intends to consult stakeholders and publish draft rules to implement the Financial Professionals Title Protection Act, which will regulate individuals’ use of “financial planner” and “financial advisor” titles in Ontario. AUM Law will monitor these developments and keep you informed.
  • As noted above, there are principles-based laws already on the books that could support enforcement action against a firm or individual for misleading communications. Therefore, although the official effective date for the new rules is December 31, 2021, we encourage firms to review their policies, procedures and practices in this area sooner rather than later.

B. Updated RDI Requirements

Section 14.2 of NI 31-103 has been amended to reflect changes with other CFRs (e.g. relating to conflicts of interest, KYC, KYP and suitability determination requirements) and, according to the CSA, to “better implement” the principle in subsection 14.2(1) that a registrant must deliver to the client “all information that a reasonable investor would consider important about the client’s relationship with the registrant.” Among other things, when revised section 14.2 comes into effect it will:

  • Expand the existing requirement for registrants to provide a general description of the products and services that the firm offers to the client to include, as applicable, descriptions of any restrictions on the client’s ability to liquidate or resell a security and any investment fund management expense fees or other ongoing fees the client may incur;
  • Require registered firms to describe generally any limits on the selection of products or services that the registrant will offer to the client, including whether the firm will primarily or exclusively use proprietary products in the client’s account;
  • Require registered firms to explain generally the potential impact of operating charges, transaction charges, investment fund management fees, and any other ongoing fees the client might occur; and
  • Expand the requirement for pre-trade disclosure to expressly require disclosure of investment fund management expense fees or other ongoing fees that the client may incur.

Also, the existing requirement to describe compensation paid to the registered firm in relation to the types of products a client might purchase will be broadened. It will require a general description of any benefits received or expected to be received by the registrant from anyone other than the registrant’s client, in connection with the client’s purchase or ownership of a security through the registrant.

The Revised Policy includes expanded sections on:

  • Information to be included in the description of the nature or type of a client’s account;
  • Factors to consider in describing limits on the selection of products or services, including guidance emphasizing that a registrant is required to tell a client if it does not have products or services suitable for them; and
  • When a firm is expected to provide a client with the KYC information it has collected (i.e. at the time of account opening and when the firm collects updated information).

The new RDI rules will take effect on December 31, 2020. AUM Law can help you prepare for the new regime by reviewing and updating your existing disclosure materials for clients, as well as the related policies, procedures and controls.

C.  Compliance Training

Under the Current Rules and Policy, training is specifically addressed through:

  • Prohibitions on registered individuals performing registrable activities, and chief compliance officers (CCOs) performing their responsibilities as CCOs, without having the education, training and experience that a reasonable person would consider necessary to perform the activity competently; and
  • Language in the Current Policy indicating that registered firms should provide training, including ongoing communication and training on changes in regulatory requirements or the firm’s policies and procedures, to ensure that everyone at the firm understands the standards of conduct and their role in the compliance system.

Section 11.1 of NI 31-103 has been amended to introduce a broadly worded requirement for registered firms to provide training to their registered individuals on compliance with securities legislation, including without limitation the KYC, KYP, suitability determination and conflicts of interest requirements. This new rule is supplemented with guidance in the Revised Policy, which emphasizes the following concepts:

  • A firm’s compliance training will depend on the nature, size and complexity of its business. For some small firms, a formal compliance training program or written training materials might be unnecessary. However, the CSA will expect firms to exercise professional judgment in determining what training is appropriate for their operations.
  • Although Section 11.1 of the Revised Rules speaks only to the need for firms to train registered individuals, the Revised Policy retain the concept that CSA members expect firms’ training programs to ensure that everyone at the firm understands the standards of conduct when dealing with clients and understands their role in the compliance system. In our view, this broader definition of the firm’s training responsibility can be seen as flowing from the existing requirement in section 11.1 for registered firms to have a system of controls and supervision sufficient to provide reasonable assurance that the firm and every individual acting on its behalf complies with securities legislation.
  • Although the Revised Rule calls for compliance training on securities legislation generally, it and the Revised Policy specifically highlight the need for compliance training on the KYC, KYP, suitability, and conflicts of interest provisions. According to the Revised Policy, training should provide examples of how to:
    • Identify existing and reasonably foreseeable, material conflicts of interests between registered individuals and their clients;
    • Address material conflicts of interest in the client’s best interest; and
    • Put the client’s interest first when making suitability determinations.
  • Consistent with the KYP requirements, firms also will be expected to assess whether any additional training or proficiency requirements are needed so that their registered individuals understand the securities and can make appropriate determinations.
  • Firms can outsource elements of their training programs but remain responsible for demonstrating that their registered individuals have been trained on the firm’s policies and procedures.
  • Training programs should include “ongoing” communication and training on changes in regulatory requirements or the firm’s policies and procedures.
  • Firms will need to document their compliance training programs.

Although these specific, new compliance training requirements won’t come into effect until December 31, 2021, we recommend that firms begin enhancing their compliance training programs in 2020, so that your employees become familiar with the CFRs. AUM Law offers compliance training programs tailored to your firm’s needs. We can help you identify compliance gaps or topics that need reinforcement, determine who needs to be trained and when, develop the content for training sessions, update your compliance manual to reflect the new training requirements, and prepare the needed documentation to show that the compliance training requirements have been met.

D. Record-Keeping Requirements

Section 11.5 of NI 31-103 has been expanded so that registered firms will have to maintain records that:

  • Demonstrate compliance with the new KYP and suitability determination requirements;
  • Demonstrate compliance with the conflict of interest provisions in Part 13, Division 2;
  • Demonstrate compliance with the requirements relating to misleading communications;
  • Document training actions conducted by the firm; and
  • Document the firm’s sales practices, compensation arrangements and incentive practices as well as any other compensation arrangements and incentive practices from which the firm, any of its registered individuals or any of its affiliates or associates, benefit.

The Revised Policy provides detailed guidance on the kinds of records that it expects registered firms to keep. It also stresses the importance of firms maintaining adequate documentation to support the firm’s supervision of its compliance processes in these areas. We expect that some of the more challenging aspects of these new requirements will include:

  • Documenting suitability determinations and related supervisory measures (e.g. to address patterns of unsuitable trades); and
  • Documenting the KYP process, including where the firm concludes that using proprietary products and services as opposed to a third party’s products and services puts the client’s interests first.

In addition to presenting some conceptual challenges, some of the new record-keeping requirements (such as those documentation of conflicts of interest, sales practices, compensation arrangements, incentive practices) will require a substantial deployment of firm resources to design and maintain.

AUM Law can help you implement these new requirements by, for example, assessing your existing record-keeping practices, identifying any gaps and developing new protocols and record types to cover the elements listed above.

E. Now What?

This is the last article in our introductory series highlighting the CFRs. Giving registered firms practical advice on compliance with NI 31-103 is one of AUM Law’s core services, and we have already started with working with some of our clients on implementation. We can help you understand the implications of the CFRs for your business, develop a pragmatic implementation plan, revise any of your policies and client-facing documentation that are looking a little “ratty” in light of the recent reforms, update your record-keeping protocols, and train your employees on the new requirements.