The impact of the Global Financial Crisis saw a spotlight shone on all the dark places in financial planning. What was found was not pretty – the existing laws (or in some cases, a lack of) facilitated a culture of greed, recklessness and egotism. Successive Labour governments sought to address this by introducing reforms titled Future of Financial Advice (FOFA). The Tony Abbot-led Liberal government sought to address certain concerns that FOFA is too consumer-centric by altering the legislation (‘the Reforms’). Following vigorous debate, which often tended to be misinformed – these changes went through as regulations on 1 July 2014. This article intends to explore certain key elements of the reforms and explain how they are intended to operate.
Duty to act in a client’s best interests
Claims by many opponents to the Reforms including opposition Treasury spokesperson Chris Bowen that a financial advisor will not have to act in a client’s best interests under the new laws, is inaccurate.
The original FOFA legislation required a financial advisor to act in the best interests of their client. The Act then went on to provide 7 steps that an advisor must complete in order to be considered to act in the best interests of the client. The seventh step required the advisor to ‘take any other step that… would reasonably be regarded as being in the best interests of the client’. Whilst this appears to be beneficial to those who access financial advice, it is a potentially significant burden upon the advisor who is then likely to pass the cost on to the client by driving up the cost of financial advice.
The Reforms remove this seventh step – which still leaves the other 6 steps that an advisor must follow. These other 6 steps are not a mere tick and flick exercise and include conducting reasonable investigations, assessing their own level of expertise and identifying the client’s objectives, needs and financial situation.
It is clear from this that whilst there is less protection, the duty to act in a client’s best interests still remains.
FOFA introduced the requirement that all financial advisors who receive fees on an ongoing basis must send each client a letter every two years asking them if they wish to continue the service. If a client says no or fails to respond then the advisor must terminate the arrangement.
Following the removal of this requirement in the reforms, advisors have no responsibility to seek ongoing confirmation from clients.
The consumer protection position is that an opt-in requirement enhances consumer engagement whilst those representing the financial advice industry, contend that the additional cost of seeking approval to continue the service every two years is disproportionate to the protection it provides.
Conflicted remuneration occurs when a financial advisor receives a benefit that is expected to influence the advice that is provided to a client. For example, it would be conflicted remuneration where a super fund paid your financial advisor every time he got a client to switch to that super fund.
FOFA saw the introduction of new rules that banned this in most situations. The reforms initially sought to reduce this ban to instances where the advisor was providing personal advice (as opposed to general). The government has eased their position so that conflicted remuneration will be banned in most instances except for certain circumstances. These exceptional circumstances include basic banking products, education and where the advisor is merely executing an order rather than providing advice.
Whilst the government has slightly reduced consumer protection, it argues that this will facilitate more affordable advice as advisors can receive payments form other sources then just the client. The question is whether the reduction in price is worth the decreased protection, or whether it will reduce the price at all?
It was contended that FOFA appeared to require a financial advisor to undertake a full investigation into a client’s needs, objectives and financial situation no matter how minor the subject matter. Therefore, if a client was to seek advice on how to deal with a windfall of $2,000, it appeared the advisor was required to conduct a comprehensive review of the client’s situation. Due to the time taken to conduct such a review, the cost of the advice would likely cost $2,000 itself.
This amendment has a close connection with the best interests duty as both are intended to reduce the compliance costs for advisors. Once again, proponents suggest that this will provide more people with access to financial advice, whilst not affecting the protections in the Act. This assertion has been accepted on both sides of the aisle.
Whilst it is often difficult to appreciate the true issue behind the ill-informed rhetoric, it is important that conclusions are based upon the facts.
The information provided here is by no means exhaustive, however it does provide an introduction to the details of Australia’s governance of the financial advice system. For more information, there are many sources that provide a more in depth analysis of the issues, which can be complex. A good starting pointing is the government’s Future of Financial Advice site and The Financial Planning Association of Australia.
If you are seeking more information, please consult one of these sources or contact Sync or Swim.
Article by: Liam O’Sullivan, Business Development and Compliance Consultant.