Australia: Banking Royal Commission final report – Implications for the financial planning industry

Last Updated: 28 February 2019
Article by Michael Bishop

The Final Report of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry was handed down on 4 February 2019. The Commissioner, the Honourable Kenneth Madison Hayne AC QC, outlined a number of key recommendations to address the issues identified by the Commission. These are likely to have a significant implication for participants in the financial planning sector.

Summary of the key recommendations

Ongoing fees:

In response to fees being charged where no services were provided the Commissioner recommends that the law be amended to:

  • Require that ongoing fees be renewed annually by the client;
  • Require a record of the services that the client will receive for the year and the total fees; and
  • Require that payment from any account held on behalf of the client only be permitted with express written authority of the client.1

Conflicts of interest and conflicted remuneration:

To address conflicting interests and duties of financial advisers the Commissioner recommends:

  • That the law be amended to require financial advisers to give clients a statement explaining why the adviser is not independent, impartial and unbiased if they are not. 2
  • That the grandfathering provisions in respect of conflicted remuneration be repealed.3
  • That ASIC consider reducing the cap on commissions in respect of life risk insurance products in its 2021 review.4
  • That it be considered whether exemptions to the ban on conflicted remuneration remained justified.

Misconduct/ Disciplinary action:

To better address misconduct the Commissioner recommends a new disciplinary system be established. Under such a system AFSL holders would be required to:

  • Give effect to reference checking and information sharing protocols for financial advisers as now provided by the ABA.5
  • Report 'serious compliance concerns' about financial advisers to ASIC on a quarterly basis.6
  • Take steps to determine the nature and extent of a financial adviser's misconduct if they detect misconduct has occurred; and
  • Tell affected clients and compensate those clients where there is information to suggest they have suffered from adviser misconduct.7

Detailed background

Fees for no service:

Fees for no service concern the charging of ongoing fees to client accounts for services that were not provided. The Commissioner recommends that the law be amended to provide that ongoing fee arrangements be required to be renewed annually, record the services the client will be entitled to receive and only permit fees being taken from the client's account on express written authority from the client.

The Commissioner in his report identifies certain conduct engaged in by financial advice entities that he considers relevant to the offence for dishonest conduct in s1041G of the Corporations Act.

Two scenarios are identified in the report in which the charging of fees for no service are considered relevant to a contravention of section 1041G.

These include where an ongoing fee was charged and:

  1. There was no adviser linked to the client; or
  2. The client had died and the entity had been notified of the death.

It is stated in the report that ASIC has been investigating the conduct of one entity in relation to this offence, and that the Commissioner has provided to ASIC information in relation to a further two entities that may be relevant to contravention of s1041G.

Conflicts of Interest:

The report examines the conflicting duty of financial advisers to act in the best interests of their clients and the personal interests of advisers in circumstances where they are set to benefit financially from the advice provided.

Financial advisers are required to act in the best interests of their client under s961B(2) of the Corporations Act. This section requires that advisers:

  • Identify the subject matter of the advice;
  • Identify the client's relevant circumstances;
  • Make reasonable inquires to remedy the deficiency if the information about the client's relevant circumstances appears incomplete or inaccurate;
  • Assess whether the adviser has the required expertise;
  • Conducts a reasonable investigation into the financial products that might achieve the client's objectives and the meet the client's needs;
  • Base all judgements on the client's relevant circumstances; and
  • Take any other step that would be reasonably be regarded as being in the best interests of the client.

The Commissioner indicates that the law has not seen client's interests preferred over the interests of advisers. He refers to ASIC's January 2018 report which indicates that on average two thirds of client investments of advisers licensed with the largest five banking institutions where made in in house products. He notes the incompatibility between the financial benefits to advisers in using in house products and adviser's best interest's duty. This is reflected in ASIC's report which concluded that 75% of advice files that ASIC reviewed did not demonstrate compliance with s961B.

Better disclosure of adviser interests is recommended to better manage conflicts of duty and interest. There is currently no requirement for financial advisers to disclose any information about their approved product lists used. The Commissioner considers that disclosure should be required where an adviser will only consider products issued by their firm or entities having close links with the firm. He recommends that where advisers are not independent or impartial in this way that they be required to provide a statement disclosing that they are not independent or impartial.

Conflicted remuneration:

Conflicted remuneration concerns monetary and non-monetary benefits given to licensees or their representatives who provide financial product advice in circumstances where that advice could be expected to influence the choice of financial product recommended or the advice given to clients.8

The Commissioner notes that whilst the Corporations Act provisions in relation to conflicted remuneration appear comprehensive there a number of exceptions that exist to their application.

Grandfathered Commissions:

Grandfathered Commissions are a form of conflicted remuneration that has been permitted to continue by 'grandfathering' provisions made by Subdivision 5 of Division 4 of Part 7.7A of the Corporations Regulations 2001 (Cth). This was permitted by the FoFA reforms which allowed arrangements entered into prior to the reforms coming into effect in July 2013 to continue.

The report indicates that these benefits account on average for a third of licensees' total income. The Commissioner recommends that such provisions be repealed as soon as reasonably practicable.

Life Risk Insurance:

Until 1 January 2018, commission paid in respect of life risk insurance products were exempt from the ban on conflicted remuneration. The report indicates $6.1 billion was paid by life insurers to financial advisers in the last 5 years in respect of such products.

Since 1 January 2018, conflicted remuneration has included volume-based benefits given to a licensee or a representative in relation to a life risk insurance product. A monetary benefit will not be conflicted remuneration however if it is a level commission with the applicable cap and provides a 'clawback' arrangement if the policy is cancelled, not continued or the policy cost is reduced in the first two years of the policy.9

ASIC will conduct a post-implementation review in 2021 to assess the effect of the reforms. The Commissioner indicates that few submissions in response to the Interim Report supported making further changes and recommended that ASIC consider reduce the cap when it conducts its review.

General Insurance, Consumer Credit Insurance and Non-Monetary Benefits:

The Commissioner recommends that the justification of these exemptions be reviewed.

Professional Discipline:

The Commissioner cites the fragmented disciplinary arrangements for financial advisers as leading to advisers who have engaged in poor or unlawful conduct not facing appropriate consequences for their actions. He examines how the primary responsibility is on AFSL holders in relation to their employees and authorised representatives, an obligation imposed by the Corporations Act.

The report notes that more needs to be done to ensure 'best practice' in the design of audit and consequence management systems. Poor auditing and communication between licensees in relation to misconduct by advisors is cited as limiting proper discipline.

The formalisation of reporting of 'serious compliance concerns' by AFSL holders to ASIC is recommended to allow ASIC greater capacity to take action.

Footnotes

1 Recommendation 2.1

2 2.2

3 2.4

4 2.5

5 2.7

6 2.8

7 2.9

8 S963A Corporations Act 2001 (Cth)

9 ASIC Corporations (Life Insurance Commissions) Instrument 2017/510, 3 May 2017 (Cth) s6

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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