‘Inherent conflict’ in AFSLs assessing sophisticated investors: ASIC

In response to questions on notice, the Australian Securities and Investments Commission (ASIC) has expressed concerns around the process to ensure an investor meets the sophisticated threshold.

“We acknowledge the benefit of the current tests in ss708(10) and 761GA, to capture investors with investment experience,” ASIC told the parliamentary joint committee on corporations and financial services.

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“However, as set out in our submission, the tests rely on an AFS licensee’s assessment of the investment experience of an investor, include a subjective element that might be open to abuse, and rely on an investor presenting evidence to demonstrate their previous experience in using financial services and investing in financial products.

“There is an inherent conflict because the AFS licensee may benefit from the classification of the investor as being a ‘wholesale client’.”

It added that the tests currently are “not specific” on exactly what experience, qualifications or knowledge would “satisfy the reasonable grounds tests”, noting that they are principle-based requirements.

“ASIC’s submission and submissions from some other parties, including the Financial Services Council (submission 44), have submitted that the tests would benefit from the introduction of objective elements in the Corporations Act, such as requirements about the investor’s financial experience and qualifications,” the regulator said.

“Further, as set out in our submission (paragraph 96) and AFCA’s submission (submission 28), the current tests in ss708(10) and 761GA tend to be infrequently used and to the extent it is used there may be inadequate consideration and assessment of the criteria. The introduction of objective criteria might facilitate more effective assessment.”

ASIC also argued against the ability for individuals to “self-certify” as a sophisticated investor, noting the “inherent difficulties in an investor assessing their own knowledge and experience, and the potential for abuse”.

Responding to another question on notice, the regulator extended its concerns beyond the sophisticated investor test to include certification of meeting the asset and income thresholds to meet the wholesale investor test.

“The client certifying that they meet the net asset or gross income test is potentially problematic because the client may lack the experience to carry out the assessment required of their individual income and assets (particularly, if more complex joint financial arrangements exist),” it said.

“The client may also be susceptible to influence by the issuer or other interested party to acquire the financial product or receive the financial service.”

ASIC added that an AFSL could, alternatively, be tasked with certifying this aspect of the test; however it reiterated its previous concerns around conflicts of interest.

“If this approach was adopted, we note that conflicts could arise as the licensee would have an incentive in the client acquiring the financial product or receiving the financial service. The client’s financial circumstances would also not be subject to any independent review,” ASIC said.