If proposed amendments to the Corporations Act and the National Credit Act legislation become law, short term credit arrangements such as Afterpay and Zip Money; Funeral Insurance; and extended warranties are likely to be declared 'financial products' under the Corporations Act 2001 (Cth), giving ASIC power to regulate and intervene in relation to such products. And these products are likely to the first of many deemed to be 'financial products' by ASIC.
The above changes are only the tip of the iceberg in relation to the enhanced powers that may be given to ASIC to regulate and intervene when it sees products it believes are likely to cause significant consumer detriment.The above is what will happen if the Treasury Laws Amendment (Design and Distribution Obligations and Product Intervention Powers) Bill 2018 ('the Bill') becomes law.
So, what's this all about?
Origins of the current proposals
The current proposals have their genesis in the report of the Financial System Inquiry ('FSI') in 2015. The FSI Report proposed that ASIC be given new powers to enable it to intervene where it was concerned that certain products were being sold incorrectly or if there was a risk of significant consumer detriment.
Back in 2015 the financial investment failures and the stresses and losses caused by Storm Financial; Opes Prime; Westpoint; various agri-business schemes; and unlisted debenture schemes; were fresh in everyone's mind.
These reforms, which have bubbled away in the background for a while, are now back on the agenda. We would suggest it is not coincidental that a further revised exposure draft of the bill has been released now, during the currency of the Royal Commission into Misconduct into the Banking, Superannuation and Financial Services Industry (Royal Commission).
The consultation process
The Australian Government has released for public consultation a revised exposure draft of the Bill and explanatory materials.
The consultation period in relation to the Bill ends on 15 August 2018. Interested parties are invited to comment on the consultation by communicating with Federal Treasury.
What are the two main reforms contemplated?
Two main reforms contemplated are to introduce:
- design and distribution obligations in relation to financial products – to ensure the products are targeted at the right people (FSI Recommendation 21)
- a product intervention power in relation to both financial products and credit products – to enable ASIC to intervene where there is a risk of significant consumer detriment (FSI Recommendation 22).
The expression 'financial product' refers to a product that is a financial product within the meaning of Chapter 7 of the Corporations Act 2001 (Cth). The expression 'credit product' refers to a product (including proposed product) which is a credit contract, mortgage, guarantee or consumer lease within the meaning of the National Consumer Credit Protection Act 2009 (Cth).
Our opinion on the reforms
While we understand there are concerns with the way some products (which are exempt from current laws) operate in the market place, the ability for ASIC to declare that such products are 'financial products' is a very heavy handed approach and one that should be approached with caution. It also makes it difficult to advise clients about new products and application of relevant laws when the whole ball game can be changed at short notice by a declaration.The product intervention powers are in a slightly different category. We can see a use for these powers in circumstances where new laws have been agreed to by government but not yet implemented. Often there are long lead times between agreement by government that laws should be changed and the actual passing and implementation of those laws by parliament. Use of a product intervention power in the intervening period could be a useful tool.
The first reform – introduce design and distribution obligations for financial products
This reform proposes to amend the Corporations Act to introduce design and distribution obligations in relation to certain financial products. This will involve the insertion of a new Part 7.8A (Design and distribution requirements relating to financial products for retails clients) into the Corporations Act.
There will be a long lead time before these reforms become operational – a two year lead time from the date the Bill becomes law.
The objective of the Bill is to prevent financial products being 'mis-sold' Clause 1.11 of the explanatory memorandum states:
The objective of new design and distribution regime is to promote the provision of suitable financial products to consumers. In particular, the new regime requires issuers and distributors to appropriately market and distribute financial products to consumers.
The proposed changes will not apply to all financial products. Some products, such as My Super products, margin lending facilities, employee share schemes and fully paid ordinary shares will be exempt from the new regime.
In summary, the way the new scheme will work is that 'offerers' of a financial product:
- must make a target market determination for the financial product
- must develop a plan for reviewing that market determination periodically and abide by that plan
- must communicate specified distribution information to distributors
- along with distributors, must ensure the plan is observed and monitored
- must report to ASIC any significant dealings inconsistent with the plan.
The second reform – the product intervention power
There are two essential elements to the new proposed product intervention powers likely to be granted to ASIC. These are:
- the regulations may declare anything to be a financial product
- ASIC is granted wide ranging powers to intervene in connection with both "financial products" and "credit products".
ASIC will have power to declare that anything is a 'financial product'
This new power to declare that something is a financial product will be inserted in the Corporations Act at subsection 764A(3). That subsection is proposed to read:
Subject to Subdivision D, the Regulations may declare that anything is a financial product for the purposes of all or specified provisions of this chapter (Chapter 7).
The logic behind this amendment is that there are many products in the marketplace that are neither 'financial products' nor 'credit products' within the scope of existing legislation, and yet those products operate in a functionally equivalent way to kindred 'financial products' or 'credit products'.
Once a product is declared to be a 'financial product' ASIC will then be able to use its product intervention order power to modify or ban the product or change the way it is marketed and to whom.
Product intervention orders
- Summary of the power
The government proposes to amend both the Corporations Act and the National Credit Act by granting ASIC power to make product intervention orders. This is done, in the case of financial products, by the insertion of a new section part 7.9A (product intervention orders) in the Corporations Act and, in the case of credit products, by insertion of a new part 6-7A (product intervention orders) in the National Credit Act.
The power both in relation to financial products and credit products is to be used by ASIC in circumstances where it perceives there to be a risk of significant detriment to consumers resulting from either credit products or retail financial products.
The product intervention order power does not affect products already sold to consumers, only new sales of products post the making of a product intervention order.
ASIC, in exercise of its powers, among other things, may:
- ban a person from issuing a product or class of product to consumers
- direct that a particular product or class of product only be offered to particular classes of consumers or in particular circumstances
- direct that a product or class of product not be distributed unless accompanied by an appropriate warning or label.
Product intervention orders last for up to 18 months, but may be extended with the consent of the relevant minister. ASIC is accountable and has to follow guidelines and procedures as set out in the Bill before making a product intervention order. In particular it must consult and issue a public notice explaining the reason for exercise of the power.
- Consultation requirements before the power is exercised
The first accountability mechanism is a requirement that ASIC must consult.
- ASIC must consult with people or entities that are likely to be affected by the order. If the consultation process is targeted, then ASIC must identify the parties affected and invite them to participate in the consultation process.
- However, ASIC may also undertake a public consultation processIf the proposed product intervention order affects an APRA regulated entity, ASIC must also consult with APRA
- Finally, ASIC must also comply with any further consultation requirements prescribed by regulations (none are proposed to be prescribed so far).
- Requirements to publish notice of exercise of power
The second accountability mechanism is a requirement that ASIC publish a public notice of the proposed intervention order. The notice must include details of the following:
- identify and explain the significant detriment to consumers in relation to which the intervention is made
- if the order takes effect later than the day it is published then the date on which the order is to take effect
- a description of the consultation ASIC has engaged in with respect to the order made
- why the order is an appropriate way of reducing the 'significant detriment'.
It will be interesting to see how the product intervention power is used by ASIC.
In relation to short term credit arrangements, funeral insurance and extended warranties, potential consumer detriment issues have already been fairly widely canvassed, including, in the case of funeral insurance, before the Royal Commission.
However, the product intervention powers are not limited to these three areas – it will also apply to most financial products and credit products. ASIC will no doubt use its newfound powers in relation to existing products. ASIC has already expressed concerns over how certain products impact upon certain sectors of the community. Targeted use of the power could address some of the concerns expressed to date.
The legislation still has some way to go before it will become law. We will monitor progress and we can keep you posted upon request.
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.