Paddy Brennan & Dan Antioch Towers Watson. All rights reserved

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1 Implications of the FoFAFA reforms Paddy Brennan & Dan Antioch

2 Agenda 1. Timeline 2. Corporate collapses and the Ripoll Review 3. Overview of the FoFA reforms 4. Comparison with RDR and Ripoll Review 5. Potential implications

3 Timeline MAR08 JAN/FEB09 NOV09 APR10 APR11 SEP/NOV11 MAR12 JUL12 JUL13 Collapse of Opes Prime Collapse of Storm Financial Commission of the Ripoll Review Report on Ripoll Review First information pack Second information pack Draft FoFA reforms FoFA reforms passed by lower house Voluntary compliance with FoFA reforms Mandatory compliance with FoFA reforms

4 Context of the Ripoll Review Corporate failures of Storm Financial and Opes Prime generated a great deal of media attention Storm clients given the same advice irrespective of circumstances. Many were encouraged to take out loans against the equity in their homes to invest in the share market Some Opes Prime clients did not understand products they had invested in, and had unknowingly passed beneficial ownership and interest in securities to Opes Prime Ripoll Review commissioned to inquire and report on issues associated with recent financial product and services provider collapses

5 Context of the Ripoll Review The most common method for providing financial advisory services in Australia is through one of the approximately 160 dealer groups The largest 20 groups hold approximately 50% of market share Around 85% of financial advisors are associated with a product manufacturer Only 16% of total financial adviser revenue in 2008 came from fee-for-service for charges. Independent advisors are more likely to earn a majority of their revenue from fee- for-service than aligned planners or bank planners

6 The Ripoll Review Terms of reference for inquiry The role of financial advisers Finding Sales-advice conflict. Historically sales force for product manufacturers. Contemporary expectation ti of a professional service that meets clients best interests Approximately 85% of financial advisers are associated with a product provider The general regulatory environment for these products and services The role of commissions, including the potential for conflicts of interests, the need for appropriate disclosure, and remuneration models for financial advisers Disclosure and conduct regulation. Prohibit inappropriate advice, but allow conflicted advice Recommended cessation of payments from financial product manufactures to financial advisers

7 The Ripoll Review Terms of reference for inquiry The role of marketing and advertising campaigns The adequacy of licensing arrangements The appropriateness of information and advice provided to consumers, and how the interests of consumers can best be served Consumer education and understanding of these financial products and services Finding Recommended advisers prominently disclose in marketing material restrictions ti to advice and any potential conflicts of interests Recommended ASIC s powers in relation to licensing are extended Recommended inclusion of a fiduciary duty for financial advisers Recommended ASIC develop and deliver more effective activities

8 The FoFA reforms It is a concern that only one in five Australians access financial advice. These reforms will restore trust and confidence in the sector following collapses such as Storm, Westpoint and Trio. They also remove the red tape that has prevented low-cost, good quality advice being delivered ered to millions of Australians. - The Hon. Bill Shorten, Minister for Financial Services and Superannuation Aims of the FoFA reforms include Improve trust and confidence in the financial i planning industry Strengthen investor protection Encourage more people to seek financial advice Improved quality of advice

9 The FoFA reforms Key elements of the FoFA reforms Annual fee disclosure and opt-in obligations Best interests duty Ban on conflicted remuneration Increased discretionary powers of ASIC

10 Annual fee disclosure and opt-in Fee disclosure and opt-in obligations are designed to protect disengaged clients from paying ongoing fees while receiving little of no advice Financial advisers are required to issue two separate notices: 1. Fee disclosure notice Annual fee disclosure statement Outlines all fees and charges for the previous 12 months Required for retail clients that will receive advice for a period longer than 12 months 2. Renewal notice Biannual renewal notice If a client does not opt-in within 30 days, the agreement is terminated Required for retail clients paying ongoing fees for a period longer than 24 months

11 Annual fee disclosure and opt-in Exclusions to the annual fee disclosures and opt-in obligations are: where a person is paying an adviser by installments for advice that has already been provided the ongoing g payment of an insurance premium the ongoing payment of a product fee ASIC will be able to exempt advisers from the opt-in obligation if they are satisfied the is signed up to a professional code which removes the need for opt-in Issues raised during the consultation process include: Increase the cost of providing advice, which will likely be passed on to clients

12 Best interests duty Best interests duty replaces current conduct obligations, which allow advice that favours the adviser s interests above those of the client Best interest obligations are divided into several components, including: a general duty that advisers act in the best interests of their clients, supplemented by a series of steps advisers can take in order to meet this duty a requirement that advice given by providers is appropriate to the client a requirement that if there is a conflict of interest, priority must be given to the clients interests Authorised representatives ti who contravene the best interest t provisions i will be subject to civil il penalties

13 Best interests duty Carve-out to the best interest duty for basic banking products and general insurance products Simple and widely understood by customers Carve-out for ADI employees or agents is conditional on the advice not being provided in connection or in addition to advice on financial products other than basic banking products Intention is to encourage customer specialists, who wish to continue receiving volume bonuses, to focus on providing advice on basic banking products only Issues raised during the consultation process include: How the best interests duty will work in connection with scaled advice

14 Ban on conflicted remuneration Retail clients are often unaware of the true cost of receiving personal advice as this is often bundled into the overall fees they pay for financial products Payments banned include: Commissions Volume payments from platform operators to financial advice dealer groups Volume-based shelf-space space fees paid by fund managers to platform operators Asset-based fees on borrowed amounts Soft dollar benefits over $300, as long as the benefits are not identical or similar and provided on a frequent or regular basis

15 Ban on conflicted remuneration Exclusions to the ban on conflicted remuneration include: General insurance Life insurance policies which are not bundled with a superannuation product Individual life policies which are not connected with a default superannuation fund Execution-only (non-advice) services Non-monetary benefits in relation to general insurance Soft-dollar benefits under $300 Soft-dollar benefits with an educational or training purpose Soft-dollar benefits that provide information technology software or support Employees or agents of an ADI that are providing advice on basic banking products Volume-based payments where it can be proven that the benefit of the payment is not conflicted

16 Ban on conflicted remuneration Current structure of volume-based rebates Volume- Fund managers / Platform Volume Financial advice based shelf- Product issuers operators payments dealer groups space fees Issues raised during the consultation process include: Dealer groups may restructure their businesses into vertically integrated models Rebates allowed that are considered to reflect reasonable scale efficiencies may still influence adviser behavior unless the cost benefit is passed through to the end investor

17 Discretionary powers of ASIC ASIC has encountered difficulty restricting or removing industry participants as the license entry threshold is low and the threshold for cancelling a licence is relatively high ASIC s licensing and banning powers will be extended to: refuse or cancel/suspend a license where ASIC has reason to believe a person is likely to contravene its obligations ban a person who is not of good fame and character or not adequately trained or competent to provide financial services consider any conviction for an offence involving dishonesty that is punishable by imprisonment for least three months, in having a reason to believe a person is not of good fame and character for licensing and banning decisions ban a person if it believes they are likely to contravene a financial services law ban a person who is involved, or is likely to be involved, in a contravention of obligations of any other person

18 Discretionary powers of ASIC Under the current arrangements it is relatively easier to be reactive by enforcing the law after is has been breached the focus is on entities rather than its agents, meaning that ASIC relies on licensees to ensure the competency and integrity of its representatives in the industry Existing review rights in relation to ASIC decisions about licensing and banning continue to apply and, as such, are subject to review of the Administrative Appeals Tribunal ASIC has stated that they will adopt a facilitative compliance approach for the first 12 months of the implementation of the FoFA reforms

19 Comparison with Ripoll Review Element of FoFA reforms Annual fee disclosure and opt-in obligations Best interests duty Ban on conflicted remuneration Increased discretionary powers of ASIC Contained in Ripoll?

20 Comparison with RDR 1 Element of FoFA reforms Annual fee disclosure and opt-in obligations Best interests duty Ban on conflicted remuneration Increased discretionary powers of ASIC Contained in RDR? 1 Retail Distribution Review

21 Potential implications The FoFA reforms are expected to generate significant structural and operational change in the financial planning sector. During the consultation process the reforms have attracted a great deal of media attention. FoFA to add costs say funds, advisers AFR A financial future to safeguard everyone SMH Changes will mean fewer people get advice The Australian More and cheaper advice on way AFR Rebate ban will hit adviser profits AFR Sector warns cover rates may fall AFR

22 Potential implications Structural change to distribution ownership Bias towards vertically integrated models Evidence of consolidation among dealer groups following announcement of FoFA reforms Count/CBA, Shadforth/Snowball, DNK/IOOF Increased concentration and reduced competition

23 Potential implications Churn of in-force business Shift away from trailing commissions to up-front fee-for-service remuneration models Impact of best interests duty on existing high fee products

24 Potential implications Affordability of advice Additional cost from annual disclosure and opt-in obligations Higher up-front charges may lead more investors to forego advice Increased provision of scaled advice and intra-fund advice may limit the impact

25 Potential implications Underinsurance in Australia Vast majority of the population settle for the default insurance cover provided within their default super fund Carve-out tfor risk kinsurance outside of super may distort distribution of life risk insurance Incentive to recommend risk insurance outside of super over group life cover (which may have discounted wholesale rates)

26 Questions?

27 Contact details Towers Watson Level 14, 60 Margaret Street, Sydney NSW (switch) Paddy Brennan Dan Antioch (direct) (direct) patrick.brennan@towerswatson.com daniel.antioch@towerswatson.com. A licence to publish is granted to the Actuaries Institute