The second round hearings of the Royal Commission into misconduct in the Banking, Superannuation and Financial Services Industry has provided us with a fortnight of newspaper headlines, and resulted in some high profile embarrassment for several organisations.

The case study style analysis by Senior Counsel assisting the Royal Commission Ms Rowena Orr QC has concentrated on certain themes. In this article, we provide a summary of the themes and output from these second round hearings, which may provide an indicator as to the Commissioner’s final recommendations and learnings for all licensees.

Given the scrutiny on advice businesses following the recent round of hearings, licensees may want to review their policies and procedures to determine whether they are adequate in light of the clear breaches of law exposed at the Royal Commission (such as charging fees for no service).

Even where operational practices are technically compliant with the law, licensees may need to consider whether they are consistent with ‘community expectations’ as technical compliance with the law may not save a licensee from complaints, and perhaps scrutiny and reputational damage.

The Commissioner (and probably ASIC going forward) is unlikely to have much sympathy for licensees that attribute breaches of the law to systems constraints. Licensees should consider now whether their systems allow for sufficient audit and effective quality assurance.

Fees for no service

The Royal Commission explored the systemic issues arising from the charging of ongoing advice fees. These included:

  • failure to ensure that ongoing advice services were provided to customers who paid for these services
  • acceptance of payments for financial services that the licensee had no reasonable grounds to believe that it would supply to clients and
  • failure of product issuers to stop charging ongoing advice fees to customers who did not have a financial adviser.

Systemic issues highlighted in the case studies included the failure to have adequate systems in place to ensure that dialling down of fees could actually occur in circumstances where customers did not have an adviser or were not provided with advice.

Much was made of the importance of a culture that supported good governance, risk and compliance arrangements. This was contrasted with a culture in which conscious decisions were made to protect profitability at the expense of the interests of clients. Further bad behaviour was also attributable in part to remuneration and performance practices which were not aligned to ensure delivery of a service.

In relation to breach reporting, the case studies highlighted the length of time taken to report breaches or likely breaches and contrasted them with the legislative requirement to report as soon as practicable, and in any event within 10 business days. The scale of business was also a subject of analysis, noting that a significant failure at the level of an individual authorised representative may not be treated as a significant breach in a large organisation.

Platform fees

The Royal Commission explored situations where

  • platforms did not allow in specie movement of assets. This meant that any exit would trigger a CGT event, and consequently acted as a disincentive to change platforms
  • fees were significantly higher than the market average fees, with no rationale for being so, in that the platform offered no distinguishing or unique features
  • there was an automatic sell down of assets to pay fees and
  • no confirmation was required by the client or by another mechanism in relation to whether the fees were actually payable.

Questions were also raised as to whether it was appropriate to charge fees by reference to FUM when the costs incurred by the platform operator are not referenced to FUM.

It was noted that vertical integration of platform operators with advice licensees raised the potential for conflicts of interest of clients and the financial service entity that owns the platform operators and the advice licensees. This creates a systemic risk of planners failing to act in their clients’ best interests, due to advice licensees using approved product lists offered on platforms operated by their related companies.

Inappropriate advice and improper conduct by financial advisers

Systemic issues included:

  • the inadequacy of checklists, and similar documentation. Specifically in the case explored, policies and procedures were too high level to support ongoing advice and did not provide practical guidance to support the giving of quality advice
  • planner indifference to policies, processes and controls and maintenance of entrenched bad behaviours
  • lack of investment in systems to provide preventative oversight of advice activities
  • inadequate vetting, due diligence and training at the recruitment/onboarding stage
  • the dishonest conduct included false witnessing of documents, false impersonation of clients to third parties, and falsifying planner qualifications and
  • the basis upon which adviser’s client agreements purported to avoid liability for the acts of its representatives.

Significant too was the failure of appropriate disciplinary procedures and failure to align remuneration practices to desired behaviours. Poor advice, failing competency testing or complaints did not necessarily result in effective increased monitoring or supervision or reduction in remuneration. Financial incentives were not aligned with a risk management objective, but rather with increasing funds under management.

Audits were not consistently undertaken in a timely manner, on the basis of appropriate sample files. Where advice was identified as inappropriate, implementation of review or remediation programs had been significantly delayed, or have not been implemented.

Disciplinary processes in the financial services industry

In connection with this topic, the Royal Commission heard evidence from witnesses about the FPA, the AFA and ASIC about their disciplinary procedures. Questions were raised about the adequacy of existing laws and policies and the effectiveness of industry self-regulation to identify, regulate and address misconduct in the industry.

Highlighted in particular was the current division of responsibility between employers, ASIC and professional associations to ensure that financial advisers face appropriate consequences for breaching their statutory and professional obligations.