Why financial service laws need rewriting

These Fundermental flaws’ can be categorised under two broad headings: structure and complexity.

Structure
One of the enduring criticisms of financial advisers is that they are ‘product pushers’ and ‘salespeople’, not professional advisers. But is it any wonder? The financial services industry sprung from the life insurance and fledgling investment product industries – from a time and place where insurances were ‘sold’, not advised on; from an environment where product ‘manufacturers’ with deep pockets and big ambitions provided extraordinary incentives for advisers (or agents) to ‘sell’ their products.

Indeed, Chapter Seven of the Corporations Act (the main financial services provisions) only governs ‘financial product advice’, not financial advice more generally.

That’s right: if you provide only strategic advice and do not recommend or provide an opinion or report on any financial products then, from a strictly legal perspective, this advice is not covered by the legislation that is supposed to govern this very conduct (although it must be said that courts have found on many occasions a fiduciary relationship between adviser and client, with the result being that common law principles may govern the advice even if legislation doesn’t).
How is it that the principal legislation governing financial advisers does not even cover the sort of advice that is at the very heart of a professional advisory relationship?

FOFA has tried to go some way to remedying this by obligating advisers (in the best interests safe harbour provisions in s.961B) to recommend financial products only when, considering the subject matter of the advice sought by a client, it would be reasonable to consider a financial product to satisfy the client’s requirements.

ASIC’s guidance on this point makes it clear that it expects advisers to first consider the strategic imperatives of the advice a client has sought, with a financial product akin to a last resort solution.

The relevant provisions of the Corporations Act refer to ‘the advice sought’ by a client. And the regulations to the act have notated comments about ‘financial advice’. But neither ‘advice’ nor ‘financial advice’ is defined in the act. The only relevant term that is defined is ‘financial product advice’.

Indeed, Chapter 7 covers advisers only when providing financial product advice or dealing in financial products.
Strictly speaking, it does not cover ‘strategic advice’ which does not involve a product. Until the Corporations Act is re-drafted to address this anomaly, advisers will forever be inextricably linked with ‘financial products’, not professional advice.

Of course, the financial services industry is different from other professions since clearly the regulators need to regulate product ‘manufacturers’ as well, not just advisers.

So, financial products need to stay. But in my view, advice needs to be separated from products. It’s a nexus that needs to be broken.

A solution is to define ‘financial advice’ in the act, not ‘financial product advice’. Such financial advice may or may not contemplate a financial product (e.g. risk advice will typically involve a financial product). Naturally such a definition will provide the drafters some difficulties because they will have to tackle the thorny issue of how and where to include or exclude other potential financial advice providers such as accountants, real estate agents, lawyers, business advisers, self-help spruikers, finance brokers and the like.

But once done, one of the biggest shackles holding the industry back from becoming a profession would finally be set adrift.
Allied to the product-focused advice issue above is the development of investment platforms as fee-collection mechanisms for advisers’ fees. While this is perfectly sensible and convenient in many ways, it has also led to one of the other problems that I have observed since entering the industry in 2001.

Allowing advisers to collect fees via financial products and investment platforms has led to many advisers thinking product-first, precisely because it is an easy, non-confronting way for advisers to collect fees and for clients to pay.

It has also led to advisers not having to be as assiduous in building the value proposition of their advice. It’s a much easier ‘sell’ to be able to say to a client, ‘don’t worry, you can pay my fees out of your super [or other investment]’ rather than having to convince a client of the value of digging into their pockets straight away.

I am not suggesting that advisers are not capable of effectively promoting the value of their advice to clients; it’s just that advisers are human too.

Human nature is that – if there is an easier way to do something, we generally will. Collecting fees via financial products is generally the path of least resistance. In many cases, it has led to undervaluing the advice itself.

Complexity
One of the other impediments to the industry we love becoming a profession is the complexity of the law itself.
Unfortunately, we have ended up with highly prescriptive laws instead of much simpler principles-based legislation.

It also doesn’t help that some of the legislation has been poorly drafted from the start. Add to this the relentless change that has continued since FSR was introduced in 2002 and what we’ve ended up with is a poorly drafted and piecemeal regulatory framework. It is not unusual to have to look at the act itself, numerous regulations, class orders, and ASIC relief decisions just to get a clear picture of what the law actually is on a particular issue.

Two simple examples of this are the definitions of wholesale client and the content requirements for Financial Service Guides – two fundamental issues for most advisory businesses. But there are approximately half a dozen definitions of wholesale clients.

As a lawyer advising clients on the issue, the advice can take several pages just to explain all possible definitions. And the prescribed requirements for FSGs, contained in numerous sections of the act as well as the regulations, are so numerous and contain inconsistent terminologies and provisions that it really does take a lawyer to fully document and explain them.

It shouldn’t be that difficult. All this complexity adds to the time and expense required to comply with the law.
It makes financial services businesses cumbersome. And unfortunately, it is the clients that ultimately have to pay for the cost of the compliance burden.

ASIC has stated on a number of occasions that it does not expect licensees and representatives to be able to comply with all their obligations all the time.

ASIC expects licensees and representatives to breach their obligations – which is just as well, because the individual requirements are so numerous and the legislation itself so complex that it literally is almost impossible for even the most diligent and prudent operator to comply one hundred per cent of the time.

Indeed, ASIC has run surveillance campaigns on the basis of licensees who have not reported significant breaches to them.
Which begs the question: is there not something fundamentally wrong with a regulatory regime where no one is expected to be able to fully comply?

Ian McDermott is principal lawyer with imac legal & compliance, a law firm and compliance consultancy.