Why you should care about FoFA, even if you have no money to manage
The government's Future of Financial Advice reforms are law (just about). But what do they actually mean? And if you don't have a financial adviser, why should you care? Crikey's business editor breaks it down.
After Clive Palmer backed down last week the government’s Future of Financial Advice (FoFA) reforms are law … well, sort of. We take you through the nitty-gritty in the law — what’s changed, and what it means.
What is happening with the act?
We are in a very curious position: the normal legislative process is working in reverse! On June 30, when the government realised it didn’t have the numbers in the Senate, Finance Minister Mathias Cormann circumvented the Parliament and bought time by issuing interim regulations, which gave legal effect to the FoFA reforms from July 1 until the end of 2015. Labor and the Greens tried to disallow the Corporations Amendment (Streamlining Future of Financial Advice) Regulation 2014 but failed last Wednesday when the Palmer United Party voted with the government. The government still has to pass the Corporations Amendment (Streamlining of Future of Financial Advice) Bill 2014, incorporating minor changes requested by Palmer, as was flagged in a media release. At that point the relevant provisions of the regulations will transfer into the act.
I don’t have a financial adviser, why should I care?
Choice campaigns manager Erin Turner says the government’s FoFA wind-back will affect all Australians, firstly through economy-wide impacts — ASIC estimates consumers lost $5.7 billion between 2006-10 as a result of financial advice scandals from Westpoint to Commonwealth Financial Planning, losing their homes and life savings — and secondly through a loss of trust in our largest financial institutions, which will be giving more unsolicited, general advice. “From now on, whenever you walk into a bank, the tellers are going to be incentivised, more than ever, to provide general advice and steer you towards certain products, as part of their bonus,” Turner said. Her recommendation? Exercise extreme caution. The playing field has tilted, back to the advisers.
Best interest test
The Labor government introduced the original FoFA reforms after a series of mis-selling scandals led to the Rippoll Senate Inquiry, and they took effect from July 1, 2012. Section 961B of the corporations law imposed tough new obligations on financial advisers giving client-specific advice, more like the fiduciary duty that falls on other professionals like lawyers and accountants.
Sub-section 961B(1) said financial advisers “must act in the best interests of the client in relation to the advice”. Sub-section 961B(2) gave advisers a seven-point checklist — a so-called “safe harbour”, which, if satisfied, would amount to compliance with the first sub-section. The first six points covered basic obligations to give appropriate client-specific advice. The last clause, s961B(2)(g), obliged the adviser to take “any other step that, at the time the advice is provided, would reasonably be regarded as being in the best interests of the client, given the client‘s relevant circumstances”.
Advisers hated that last “catch-all” provision — the open-ended, “any other step” bit — and now it is gone. So is another provision, s961E, requiring advisers to act with objectivity and care.
Advisers still have to comply with the six-point checklist in s961B(2) to be sure they’ve met their obligations to the client. But there are new exceptions: for example, bank employees are exempt from parts of the checklist, if they are providing advice related to basic banking products, general insurance products, consumer credit insurance or a combination of those.
So the best interests test remains, but it is much weaker.
Personal advice, scaled advice, general advice
Both the previous Labor FoFA reforms and the government’s current reforms distinguish between three forms of financial advice:
personal advice (client-specific, subject to best interests test, provided only by financial advisers);
“scaled” advice (narrower, client-specific advice that can only be given by financial advisers, for example “Let’s just talk about CBA products”); and
general advice (non-client specific — often oral advice, given over the counter or telephone, which can be given by bank tellers, mortgage brokers, insurance salespeople and others). The Financial Planners Association argues this is not advice at all and the term is confusing.
These distinctions are unchanged, except that advisers giving scaled advice may be able to dodge the best interests test completely, by agreement with the client. This is done in a new note to s961B(2)(a), which says nothing in the best interests duty provision ”prevents the provider and a client from agreeing the subject matter of the advice sought by the client”.
Conflicted remuneration is any payment — fee or commission, bonus or rebate — that is linked to the recommendation of a particular financial product. Under Labor’s reforms, section 963A banned paying all financial advisers any benefit, monetary or non-monetary, that might influence what financial products they recommend.
Former assistant treasurer Arthur Sinodinos wanted to remove the ban on conflicted remuneration so it did not apply to general advice at all. When he took over, Cormann soft-pedalled, and the final regulations retain the ban but with a range of new loopholes and exemptions.
Under the old FoFA, any volume-based payments — i.e. payments linked to the amount of product sold — were conflicted remuneration. Now, advisers can receive up to 10% of their remuneration as volume-based payments or bonuses if it is part of what is called a “balanced scorecard arrangement” that includes a mix of volume- and non-volume-based benefits. The whole bonus can be conditional on achievement of a sales target.
Critics say this reopens the door to old-fashioned sales commissions, including ongoing or trailing commissions charged as a percentage of the client’s assets. The government denies it and points to an ABC fact check that found shadow treasurer Chris Bowen was “scaremongering” and that “proposed changes to the conflicted remuneration provisions do not bring back the type of commissions that financial advisers could receive before FOFA was introduced”. (But check out Bowen’s rebuttal — it’s quite convincing)
This is technically true — advisers will be paid by the client, not the fund manager. But for practical purposes, the end result is practically indistinguishable from the trailing commissions of old.
The FoFA reforms introduce all kinds of exceptions to the ban on conflicted remuneration: soft-dollar payments like free overseas trips and conferences — a favourite means of banks showering largesse on advisers — will be allowed again if they are relevant to financial services and for a “genuine education or training purpose”. Never hard to show.
Conflicted remuneration is allowed for any employee of a financial services licensee or an authorised representative giving general advice.
Labor’s FoFA reforms attempted to tackle the problem that two-thirds of financial planning clients were “passive” — not in touch with, or receiving any service from their adviser, but still paying annual percentage commissions or regular fees. It was called the fee-for-no-service model. Labor imposed a requirement that clients must “opt in” to their financial advice arrangement every two years, and if they didn’t, the commission would stop.
Financial advisers hated it — extra work — plus, how exactly do you contact a client you haven’t seen for years, whom you may still be charging unbeknownst to them, and ask whether they would like to keep paying you? It’s unthinkable.
Now the opt-in requirement is gone, completely. Dead.
Labor’s FoFa required an annual statement of fees to be sent to all clients. Now it only applies to clients who made arrangement with a planner after July 1, 2013. Anyone with a pre-existing relationship will not get an annual statement.