To: Economic Development, Science and Innovation Committee. on Financial Services Legislation Amendment Bill

Transcription

1 To: Economic Development, Science and Innovation Committee on Financial Services Legislation Amendment Bill 23 February 2018

2 INTRODUCTION Chapman Tripp welcomes the opportunity to submit on the Financial Services Legislation Amendment Bill (the Bill) and would like to be make oral submissions too. We have no objection to our submission being published. ABOUT CHAPMAN TRIPP We have been at the forefront of advising on the Financial Advisers Act 2008 (FAA), the Financial Service Providers (Registration and Dispute Resolution) Act 2008 (FSP Act) and the Financial Markets Conduct Act 2013 (FMCA). Our clients include major banks, retail and wholesale managed funds, KiwiSaver and superannuation schemes, brokers, insurers, adviser networks and providers of other financial products such as custodians and wrap account operators. We also act for a range of corporate trusts, equity and debt issuers, investors, arrangers, trustees/supervisors, derivative market participants and other intermediaries on a broad range of domestic and international capital markets transactions. We have experience of the full spectrum of compliance issues from the FAA and FSP Act and understand the issues, challenges and frustrations the industry has faced. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 2

3 KEY POINTS We welcome the many improvements made in the Bill over the exposure draft published in the Ministry of Business, Innovation & Employment s (MBIE) Consultation Paper New Financial Advice Regime (the Consultation). They illustrate that MBIE has taken on board several industry concerns. However, issues remain which we believe warrant further consideration to ensure that the Bill achieves its stated objectives. Duty to give priority to the client s interests likely to create difficulties in practice, particularly in the wholesale context As drafted, a literal application of the duty is likely to cause problems in practice. For example, it seems to require a financial adviser to consider all alternative products in the market to ensure none are more beneficial to the client and then recommend a competitor s product where its own product was objectively inferior (no matter how marginally). We doubt that this impractical outcome is intended but, without further refinement, there is a real risk that the new duty could prevent competition, limit customer choice and reduce the availability of advice, contrary to the policy aims of the Bill, leading to worse outcomes for customers. A solution would be to: make the duty subject to the nature and scope of the advice sought, and permit recommendations where, despite a technical conflict, there is no material detriment to the client and the advice is reasonable in the circumstances. A duty limited in these ways would: be workable in real life advice situations prevent a scenario in which the adviser might be required to advise on all other products in the market, beyond the agreed scope, in order to meet its client first obligations, and clarify that the client first duty does not extend beyond the products and services the client has sought advice on (and does not extend to an indeterminate range of products or services on which the adviser might possibly be qualified to advise). Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 3

4 In addition, we submit that the duty should not be applied to: wholesale clients as they (particularly institutions and professional investors) have sufficient sophistication and knowledge to understand the products and services they are obtaining and sufficient bargaining power to negotiate the contractual protections they require, and simple banking and insurance products, in line with the exemption provided in Australia. Guidance needed on reasonable steps in section 431I We welcome the removal of the requirement to agree the nature and scope of advice with the client as this would likely have caused difficulties in practice. However, Financial Advice Providers (FAP), financial advisers (FA) and nominated representatives (NR) will require guidance on what constitutes reasonable steps in the context of the revised section 431I. The guidance should be flexible and principles-based as a rigid set of compliance requirements is unlikely to be workable in all contexts. Flexibility needed in duty to meet standards of competence, knowledge and skill We appreciate that: compliance with the new standards will not be required on day one, and the scope of the duty to meet standards of competence, knowledge and skill will be refined as Code Committee develops the new Code of Conduct. However, it is important that the standards in the new duty are set at the right level: too low and clients will be inadequately protected; too high and the adviser industry may be reluctant to advise in all but straightforward scenarios. In neither scenario are the Bill s objectives achieved. It would also be beneficial for businesses and individuals to have flexibility in how they meet the new standards. For example, the Code of Conduct should permit the use of inhouse training where appropriate. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 4

5 AFAs should not be required to requalify Related to the need to set the new competency standards at the right level is a need to avoid further attrition of experienced financial advisers, as occurred after the FAA came into effect. In light of this, we believe authorised financial advisers (AFAs) should not be required materially to retrain, if at all, in relation to their existing business practices. Disclosure regime must be flexible and should not apply in the wholesale context To avoid an undue compliance burden, the disclosure regime must be flexible and principles-based. Ideally, it would prescribe the substantive matters which advisers need to disclose and leave the form of delivery to those best-placed to make that assessment: the advisers themselves. In addition, we submit that requiring disclosure in the wholesale context should be removed as it is inappropriate, unnecessary and inconsistent with the general approach in the FMCA. Wholesale/retail tests should be rationalised We welcome the alignment in the Bill of the wholesale client tests under the FAA with those in the FMCA. We also consider that the replacement regulations to the Financial Advisers (Custodians of FMCA Financial Products) Regulations 2013 (FAA Custody Regulations) should be amended to exempt the categories of wholesale client in clauses 3(2) and 3(3) of Schedule 1 to the FMCA. Individuals should not have civil liability for involvement in a contravention or should have a defence if they comply with FAP s policies and procedures We consider that accessory civil liability for individual financial advisers and nominated representatives is not appropriate because: they will be criminally liable where their behaviour is so egregious and deliberate as to warrant censure under section 511, and there is a risk that they, particularly less qualified nominated representatives, will be reticent to advise customers for fear (however unfounded) of liability. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 5

6 If Parliament believes that accessory civil liability for individual advisers must be retained, there ought to be a specific defence available where an individual has acted in accordance with the processes, controls and limitations of the relevant FAP. Current drafting of responsible lending exclusion problematic We and our clients support this exclusion but consider that it is too narrow, and should apply more broadly to a lender giving advice for the purposes of complying with the Credit Contracts and Consumer Finance Act 2003 (CCFA). Also, the requirement to take reasonable steps to ensure a borrower understands when certain advice is not regulated (see clause 10(1)(b) of Part 2 of the new Schedule 5 to the FMCA) will contort client interactions and compromise the efficiency of the exemption by introducing a disclosure requirement. This is particularly the case where the advice relates to several products, only some which are eligible for the exclusion. We therefore submit that clause 10(1)(b) should be deleted. The exclusion should also contain an anti-double jeopardy provision, so that an adviser cannot be liable under both the new financial advice regime and the CCCFA regime. Terminology AFA title The views of industry should be taken into account before making a final decision to abandon the AFA moniker. Many industry participants see merit in retaining it, given the investment AFAs have made in acquiring the relevant qualifications and the status and traction the title now has in the financial advice industry. FSPR registry categories should be rationalised We believe that the Bill gives Parliament an opportunity to: align the categories of financial service provider with the categories of financial institution in the Anti- Money Laundering and Countering Financing of Terrorism Act 2009 (AML/CFT Act). This could be best achieved by amending the AML/CFT Act to align with the ultimate position reached in these reforms, and require the Registrar to change the categories of registration so that they align exactly with the categories in the legislation. These misalignments have caused confusion in the market. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 6

7 Searching the FSPR register While the FSP Act currently requires the information to be provided, the FSP Act and regulations do not allow some important information to be searched or presented in search results. The Bill and/or regulations should enable (a) the name and place of residence (but not full address) of directors and senior managers and (b) the name of controlling owners, to be searched, and presented in search results. Technical issue section 431E Section 431E appears to provide that the only persons who can give regulated financial advice (which includes advice to wholesale clients) on behalf of a financial advice provider are: financial advisers (who must be registered and qualified as financial advisers), or nominated representatives (who can only be nominated by a licensed financial advice provider). This would seem to mean that an FAP advising a wholesale client could do so only through a FA or NR. If so, it is a fundamental shift from the current position under the FAA which allows entities to give financial advice to wholesale clients (i.e. that advice does not have to be given by an individual). We do not believe this is the intention, but would submit that section 431E be amended to make that clear. Generic advice Under the FAA, class advice was able to be given by entities, rather than being required to be given by individuals which was the case for personalised advice. While we support the abandonment of the class/personalised advice divide, we believe it is necessary that advice which is generic (e.g. provided to a class of persons) should not require the same level of compliance as financial advice being provided to a named individual. A good example of this is research notes by broking houses which contain buy or sell recommendations but are not targeted at any particular individual. We consider adequate consumer protection is provided for material like this by the obligations on the FAP to act with care, diligence and skill and the fair dealing requirements in Part 2 of the FMCA. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 7

8 We therefore submit that the Bill should recognise that financial advice contained in material such as research notes should only be subject to the duties in section 431K, 431L and 431M and the fair dealing provisions in Part 2 of the FMCA. Territorial scope The territorial scope of the FAA should be amended by creating an approved list of offshore jurisdictions. Qualified providers located in these jurisdictions would not have to comply with any additional requirements under New Zealand law (with some tolerance for where there are gaps for example, European jurisdictions where the concept of holding assets on trust does not exist). The creation of such a list would recognise that the rules of the some jurisdictions are sufficiently robust or similar to New Zealand s to provide adequate consumer protection. And the need for jurisdictional approval would ensure consumers have the benefit of New Zealand regulation where that is superior. We also support targeted exemptions to address certain false positives resulting from the territorial scope, for example relieving the need for compliance when a client is in New Zealand on a temporary basis only. In addition, we submit that the territorial scope for the Custody Regulations should be altered to exempt offshore custodians holding client assets solely offshore, where the only connection to New Zealand is the location of the client. We are conscious that this is outside the scope of the Bill, but would like it to be considered when the replacement regulations to the Custody Regulations are drafted. Our experience has been that offshore providers find compliance with our regime somewhat frustrating, especially when they are already heavily regulated offshore. Other minor changes and improvements to the FMCA As noted in the Explanatory Note, the Bill includes other minor changes and improvements to the FMCA. We submit that the FMCA should be amended to address the additional anomalies and matters described in Part 3 of the Schedule to this submission. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 8

9 SCHEDULE PART 1 AMENDMENTS TO THE FMCA 1 Duty to give priority to the client s interests likely to give rise to difficulties in practice, particularly in the wholesale context 1 We agree that it is appropriate for the revised FMCA to contain a form of conflict management duty. However, in order to achieve its intended purpose, the new duty must be workable in real life advice scenarios. As currently drafted, duty could give rise to practical challenges for advisers 2 While the amendments to this duty since the Consultation Paper draft are helpful, the duty could still give rise to challenges for advisers if it were applied literally in practice. 3 For example, based on the current drafting, it is arguable that a FAP which issues its own financial products ought to provide an objective comparison of its product against all other similar products in the market before advising the client on which product to acquire. If the competitor s product is objectively better, no matter how marginally, the FAP would, on a strict interpretation of this duty, have to recommend the competitor s product in order to comply with the client first duty. 4 This is the case even where the client, with the benefit of the comparison, has expressed a preference for the FAP s product because, if the duty to put the client s interests first is left unqualified and there is even a possibility that a competitor s product might be better (no matter how marginally), then a prudent FAP would evaluate its own product against all alternatives available in the market and make a recommendation accordingly. 5 This is clearly impractical and, without further refinement, there is a real risk that the new duty could prevent competition, limit customer choice and reduce the availability of advice, contrary to the policy aims of the Bill, leading to worse outcomes for customers. 6 We submit that, for the duty to be workable in practice, it should be open to advisers and their clients to agree, without breaching the duty, that the scope of the advice will not extend to a comparison of similar products available in the market. 7 In light of the above, our proposed solutions are for: 7.1 the new duty to: (a) (b) be limited by the nature and scope of advice understood between the adviser and the client (see further below), and contain an explicit carve-out so that an adviser is not prevented from giving a recommendation where, despite a technical conflict, there is no material detriment to the client and the advice is reasonable in the circumstances, and Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 9

10 7.2 the FMA to publish guidance on how it will interpret the duty to give priority to the client s interest when enforcing the new regime, in order to minimise the risk that the new duty will be interpreted in an overly conservative manner. 8 In Australia, the Australian Securities and Investments Commission has published its Regulatory Guide 175, Licensing: Financial product advisers Conduct and disclosure in the context of a similar duty. The guidance states that the conflicts priority rule will not always prohibit an advice provider from recommending the client acquire interests in a product issued by a related party. 1 It goes on to say that, where there is a potential conflict, the focus should be on whether additional client benefits can be demonstrated. 2 Duty should apply only to matters within the nature and scope of advice sought 9 The duty to place the client s interests first should be limited by the nature and scope of the advice sought. 10 Put another way, advisers should be required to put the client s interests first only insofar as doing so would fall within the nature and scope of the advice sought. This would ensure that the client first duty aligned with the obligation in the new section 431I to take reasonable steps to ensure that the client understands the nature and scope of the advice being given and mean that it is open for an adviser and the client to agree that comparisons with other products will not be covered. 11 Without this limitation, if a customer seeks advice on one type of product only, the adviser may nevertheless be compelled to go outside the agreed scope to persuade the client to expand the scope in an attempt to give priority to the client s interests, contrary to the client s choice. For example, if a customer seeks advice on a home loan product, and the client directs that the nature and scope of the advice sought should be limited only to home loan products offered by the advice provider, then the adviser should not be obliged, in putting the client s interests first, to advise on alternative products offered by third parties which may have different (possibly more attractive) features. To do so would likely lead to confusion and dissatisfaction on the part of the customer. Duty should be limited to giving regulated financial advice to retail clients 12 Wholesale clients (particularly institutions and professional investors) have sufficient knowledge and sophistication to understand the products and services they are obtaining. They also have sufficient bargaining power to negotiate the contractual protections they require. 13 Imposing a duty to give priority to the client s interests on providers giving advice to wholesale clients would impose increased compliance costs and introduce complexity in advising these clients in New Zealand and overseas. 1 2 See p.94, paragraph 379 of ASIC s Regulatory Guide 175, Licensing: Financial product advisers Conduct and disclosure. See p.95, paragraph 382 of ASIC s Regulatory Guide 175, Licensing: Financial product advisers Conduct and disclosure. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 10

11 14 The imposition of such a duty is not appropriate in the truly wholesale context (i.e. those persons who fall within clause 3(2) of Schedule 1 of the FMCA) because: 14.1 truly wholesale clients, who choose to receive a wholesale service rather than a retail service, are in a position to negotiate their own protections or are afforded them by providers as a matter of market practice, so generally would not expect to be afforded the protection of this type of duty. This is particularly significant given that the Bill has narrowed the concept of a wholesale client and that wholesale clients generally have the option to opt out of being treated as such, should they wish it, 14.2 in any event, wholesale clients have the protection of the fair dealing provisions in Part 2 of the FMCA, as well as the Fair Trading Act 1986, overlaid by the general appetite providers will have to protect their brand and reputation, and 14.3 we are not aware of other jurisdictions which impose such a duty on the providers of wholesale advice services. The imposition of a duty to give priority to the client s interests on wholesale market participants would require overseas financial advisers who advise on global transactions (who would be captured by the territorial scope of the FMCA) having to comply with specific New Zealand standards that are not imposed by any other jurisdiction. 15 More importantly, we do not see that extending the duty to wholesale clients will be of significant benefit to them. Indeed, it could be to their detriment: 15.1 given the potential for issues to arise as a result of the new statutory duty, advisers may well provide more conservative advice, or refrain from giving advice at all, leading to wholesale clients receiving a limited or sub-optimal service, and 15.2 the overlay of the client-first duty could cause confusion, particularly where a provider has standard commercial terms with different wholesale clients which would typically deal with conflicts as between clients (e.g. product allocation where there is a limited amount available, such as an IPO or placement that is scaled back due to excess investor appetite). The presence of an overriding statutory duty to act in every client s best interest could lead to irreconcilable duties owed to multiple clients, which is sub-optimal. 16 If Parliament insists that this duty must extent to wholesale clients, there ought at least to be a safe harbour which would apply where the adviser has an agreement in place with the wholesale client to manage conflicts and the adviser complies with the agreement. If the safe harbour applies, the duty would not apply (or would be deemed to have been complied with). The exclusion in clause 16(3) of Schedule 5 of the Bill would mitigate the application of the duty to wholesale clients somewhat but only for the provider s own products, not third party products 17 Clause 16(3) of Schedule 5 provides that financial advice given by a person is not regulated financial advice if: Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 11

12 17.1 it is given in connection with an offer of a financial product by or on behalf of the offeror, and 17.2 the offer does not require disclosure under Part 3 of the FMCA because of any of clauses 3 to 5 of Schedule 1 (i.e. exemptions for wholesale investors under the FMCA). 18 This exclusion alleviates the application of the duty to wholesale clients somewhat but it only applies to a provider (or an adviser on the provider s behalf) giving advice on the provider s own products, not to the large number of advisers who advise wholesale clients on third party products. 19 This inconsistency of treatment is not justified as a matter of policy hence (along with the reasons above) our submission that the duty to give priority to the client s interests should not apply to wholesale clients. Duty should not apply to certain simple banking products 20 We submit that the duty to give priority to the client s interests should not apply to advice provided to retail clients on basic banking products (such as bank deposits, term deposits, stored value instruments and travellers cheques). 21 In our view, such products are unlikely to result in material conflicts between the advice provider and the customer, and requiring banks to take account of the new duty in relation to these products may result in customers not receiving advice on a product that may be suitable for them. 22 An exclusion for simple banking products would align with the client first standard in Australia. Specifically, section 961F of the Corporations Act 2001 defines a basic banking product as: 22.1 a basic deposit product (defined in section 761A), 22.2 a facility for making non-cash payments (e.g. a stored value instrument), 22.3 a facility for providing traveller s cheques, and 22.4 any other product described by regulations. 23 The exclusion for simple banking products should also exclude the duty to take reasonable steps to ensure that the client understands the nature and scope of advice being given in relation to these types of products. Our preferred drafting of the duty 24 Based on the above submissions, our suggested drafting of the duty to give priority to the client s interests in section 431J of the Bill is: 431J Duty to give priority to client s interests (1) This section applies if a person who gives regulated financial advice (A) to a retail client knows, or ought reasonably to know, that there is a conflict between: Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 12

13 (a) the interests of the person to whom the advice is given (B); and (b) A s own interests or the interests of a person associated with A. (2) Subject to subsections (3), (4) and (5), in giving advice within the nature and scope understood between A and B, A must give priority to B s interests ahead of the interests described in subsection (1)(b) above, including by taking all reasonable steps to ensure that A s own interests or the interests of a person associated with A do not materially influence the advice. (3) For the avoidance of doubt, subsection (2) does not require A to give advice outside of the nature and scope understood between A and B. (4) Subsection (2) does not prevent A giving regulated financial advice to B where there is a conflict between A s own interests, or the interests of a person associated with A, and B s interest, provided that giving such advice would: (a) (b) not be materially detrimental to B; and otherwise be reasonable in the circumstances. (5) Subsection (2) does not apply to the extent that the advice provided by A relates to a basic banking product, provided that A is satisfied that its own interests have not materially influenced the advice given. 2 Restriction on hiring NRs in transitional period may give rise to difficulties in practice 25 The new clause 75 of Schedule 4 to the FMCA says that only providers who were a QFE or members of a QFE group under the FAA immediately before the commencement of clause 75 will be able to nominate NRs during the transitional period. The implication is that providers who do not fall into this category will have to appoint FAs. 26 We query whether this is an appropriate distinction. 27 We think that it is reasonable to assume that the salary demands and other costs associated with FAs are likely to be higher (given the higher level of knowledge and training involved), and therefore that this distinction, prima facie, makes the transitional regime potentially more costly for business which are not QFEs or members of a QFE group. 28 In addition, the reform may well encourage consolidation in the financial advice industry. In this context, there would be increased scope for larger businesses, who are not currently a QFE or a member of a QFE group, to enter the market. It does not seem reasonable for such businesses to be forced to engage only one (more expensive) category of adviser should they require more staff. 3 Guidance needed on reasonable steps in section 431I 29 As noted in our submissions on the Consultation Paper: Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 13

14 29.1 we are aware that there is concern in the industry (and at MBIE) that customers are too frequently in situations where they do not understand the limitations on advisers, in terms of the scope of products they can advise on, and/or the nature of advice they can give (e.g. if they are only able to advise up to a certain level of complexity, after which a more experience adviser would be required), and 29.2 the duty to ensure that the client understands the nature and scope of advice being given needs to be calibrated in a way that facilitates positive customer outcomes, while simultaneously being workable for advisers. Our experience is that interactions between advisers and clients tend to be quite fluid, such that it only becomes apparent that advice is, or may be, required part way through an interaction. 30 In light of the above, we welcome the removal of the requirement to agree the nature and scope of advice with the client, which would likely have created unnatural and distracting interactions between advisers and their clients. We also support the new approach based on taking reasonable steps to ensure the client understands the nature and scope of advice. 31 FAPs, financial advisers and nominated representatives will, however, require guidance on what constitutes reasonable steps in the context of the new duty. The guidance should be flexible and principles-based, so as to reflect the reality of customer interactions. 32 A rigid set of compliance requirements is unlikely to be workable in all contexts, whereas a principles-based approach will allows advisers to achieve compliance in a manner which facilitates positive client interactions, particularly given the variety of media through which advice is given to clients (e.g. in a face-to-face meetings, over the phone, via web-chat, etc.). 4 Flexibility needed in duty to meet standards of competence, knowledge and skill 33 We appreciate that: 33.1 compliance with the new standards will not be required on day one, and 33.2 the scope of this duty will be refined as the Code of Conduct develops. 34 However, it is clearly important that the new standards are set at the right level: 34.1 if the standards are set too low, clients will be inadequately protected from unscrupulous advisers, and 34.2 if the standards are set too high, the adviser industry may be reluctant to advise in all but straightforward scenarios, leading to reduced availability of advice and worse client outcomes. That this could happen is evidenced by the current regime, where consumers, at times, lack access to high quality and affordable advice due to the high burden placed on advisers if they wish Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 14

15 to feel confident that they are legally permitted to provide the requested advice. 35 In either scenario, the policy aims of the Bill would not have been achieved. 36 We consider that it would be beneficial for businesses and individuals to have flexibility in how they meet the new standards. 37 In particular, we are aware that some providers feel strongly that the Code of Conduct should permit the use of in-house training where appropriate. Requiring training to be given by third party providers in all cases would materially increase the cost, and decrease the efficiency, of training advisers. 38 While we acknowledge the shift away from rigid category 1 and category 2 classifications, another key element of flexibility (which we support) is the approach of prescribing differing levels of competency depending on the relevant circumstances and type of product at issue. The Code of Conduct should recognise that the competency requirements for advice on straightforward products (such as general insurance) should be suitable to that product. Setting the bar too high (or having the bar at the same level for all products) will make it more difficult for consumers to access advice and more costly for providers to provide fit-for-purpose advice. 39 We note too that the objectives of appropriately calibrating the standards and providing flexibility would both be served by releasing the draft Code of Conduct soon. This will allow industry to comment at an early stage, helping the Code Committee to set standards at an appropriate level and build a flexible regime which is workable in practice. The earlier drafts are made available for consultation, the more robust and productive this process is likely to be. 5 AFAs should not be required to requalify 40 As noted in our submissions on the Consultation Paper, we consider that AFAs should not be required to re-qualify in order to become FAs because they have already expended significant time, effort and resources on: 40.1 the required qualifications to be experts in their area, 40.2 becoming AFAs, and 40.3 the AFA brand. 41 We welcome the transitional relief provided to AFAs in the new clause 78 of Schedule 4 to the FMCA (New competency requirements do not prevent certain persons from continuing to give certain advice). 42 However, given the level of AFAs expertise, we believe that the transitional relief should allow them to continue to provide services to their clients with minimal disruption beyond the transition period. So, the two year period in clause 78(7) of Schedule 4 should be extended to five years. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 15

16 6 Disclosure regime should be flexible and not apply in wholesale context 43 We acknowledge that the detail of the disclosure regime is yet to be laid out in regulations. We accept too that the disclosure is one important way of ensuring consumers receive good quality, fit-for-purpose financial advice. 44 However, it is widely recognised among financial advice industry participants that the existing disclosure regime is over-engineered and largely ineffective. 45 In order for the new regime to produce better results for customers and not present an undue compliance burden, it must be flexible. In terms of regulatory design, this means that the regime should be principles-based and leave the form of delivery to the advice provider. 46 We recognise that a flexible, principles-based regime will likely mean that customers would receive different disclosures from different advisers. However, we submit that the requisite degree of uniformity can be achieved by mandating compliance with certain substantive standards. 47 Affording advisers a degree of flexibility is likely to produce better and more comprehensible disclosures overall (thus achieving the objectives of the reform) because it is advisers who will be best placed to judge what type of disclosure (e.g. a conversation, , notification on an app, formal letter etc.) is most appropriate in a given context. 48 Making the regime flexible will also help it adapt to technological change and the associated shifts in consumer expectations. Disclosure regime should apply to retail clients only 49 As well as making the disclosure regime flexible, we submit that any new obligations should only apply to regulated financial advice given to retail clients. 50 In the wholesale context, additional disclosures are likely to cut across established processes under the FMCA and cause confusion and duplication. 51 Moreover, it is somewhat anomalous for certain activities (e.g. offering financial products to wholesale clients) to be exempt from disclosure while others (e.g. giving financial advice) require disclosure. 52 The disclosures are also unnecessary. The only category in the new definition of wholesale client which could, in theory, encompass a non-sophisticated investor is the $5 million asset/turnover test. However, it seems very unlikely that an investor with this profile will be so unsophisticated as to require the protection of additional disclosure. The other categories relate to investors with substantive investment experience or require self-certification confirmed by an independent professional and so manifestly do not require the benefit of additional disclosure. 53 If Parliament insists on retaining disclosures in the wholesale context, these should be limited strictly to warning statements similar to those used in the wholesale context under the FMCA. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 16

17 7 Individuals should not have civil liability for involvement in a contravention or should have a defence if they comply with FAP s policies and procedures 54 We have some concern with FAs and NRs being civilly liable under section 533 where they are involved in contravention of the new duties. 55 We acknowledge the policy drivers for this regulatory setting in the context of financial products (and certain financial services, such as DIMS). We acknowledge too that the prospect of a FA or NR being involved in a contravention is potentially higher than a director or senior manager, because FAs and NRs will deal more directly with individual customers. 56 However: 56.1 these are significant consequences which may make FAs and NRs (as well as the FAPs who employ them) overly cautious in how they engage with clients and, possibly, hesitant to give advice, thereby compromising the access to advice goal of the reform, 56.2 NRs in particular are likely to be far more constrained in the type of activity they undertake on behalf of a FAP than the financial markets participants captured by sections 511 and 533 of the FMCA, such as the directors or senior managers of an issuer, 56.3 individual advisers can still be criminally liable where there behaviour is so egregious and deliberate as to warrant criminal censure, 56.4 financial advice is often given in real time and so the statements made will not have gone through the same rigorous verification checks that would be done when an offeror produces a product disclosure statement for a new financial product (in which scenario accessory liability for a director involved in approving the product disclosure statement could be appropriate), 56.5 while the financial advice duties and the Code of Conduct will apply FAs and NRs, NRs (and to a lesser extent FAs) are not persons who are meant to be afforded a material amount of discretion in the advice they provide, and 56.6 invariably FAs and NRs will have little say in the overall compliance approaches of their employers so may not be in a position to do anything except toe the party line, even if they feel that that is not optimal. 57 Accordingly, we believe that either: 57.1 FAs and NRs should be excluded from having civil liability for being involved in a contravention, or 57.2 there should be a specific defence available for FAs and NRs where they have acted in accordance with the processes, controls and limitations of the relevant FAP. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 17

18 8 Current drafting of responsible lending exclusion problematic 58 We believe that an exclusion of this nature should be included in the Bill. However, we do have some concerns over how it is currently drafted. 59 Specifically, the requirement to take reasonable steps to ensure that a borrower understands when certain advice is not regulated financial advice (see clause 10(1)(b) of Part 2 of the new Schedule 5 to the FMCA) will lead to confusing and unnatural client interactions. 60 This wording is less problematic where an adviser is advising solely in relation to one product as the client interaction can begin with the appropriate disclosure. 61 However, where the advice relates to several products, some which are eligible for the exclusion and others which are not, the wording becomes an issue. In a dynamic client interaction, it will be challenging for the adviser to differentiate between the products to which the exclusion applies and those to which it does not. The scope for the client to become confused, and therefore for the advice to be compromised, is substantial. 62 One of the reasons for including the exemption in the Bill was that the lender responsibility provisions in the CCCFA already included the necessary protections. As such, it was acknowledged that requiring dual compliance would be unduly burdensome. Being required to advise clients that they are getting the benefit of one regime but not the benefit of another, without any obvious detriment in the level of protection they will enjoy, is likely to be confusing. 63 One could argue too that the disclosure is redundant because the client will not have the opportunity to elect for the advice to be regulated financial advice (i.e. the client will not be able to opt-in to the new regime). If anything, it may make clients feel that they are missing out on something which might otherwise be available when that is not the case. 64 Clause 10(1)(b) should therefore be deleted. 65 We submit that the exclusion should also contain an anti-double jeopardy provision so that an adviser cannot be liable under both the new financial advice regime and the CCCFA regime. 66 This would mean that the exclusion works as intended by preventing liability under both the revised FMCA and CCCFA regimes. 67 Finally, we also believe that it will be important to take into account the views of industry on the workability of this exclusion. It will be important that the exclusion can be operationalised effectively by industry if it cannot, then it will undermine the utility of the exclusion, which would be an unfortunate outcome. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 18

19 9 Territorial scope 68 The proposed territorial scope of the Bill meaning that the relevant provisions of the revised FMCA will apply where a service is received by a client in New Zealand mirrors that in section 157 of the FAA. 69 Usual practice where a client is physically present or incorporated in New Zealand is to treat any service they receive as received by the client in New Zealand and therefore subject to the FAA. This is despite the fact that all other aspects of the service are provided offshore, and are often regulated (sometimes heavily) in those offshore jurisdictions. In our experience, this can result in dual regulation and unnecessary compliance costs. 70 One consequence is that the FAA applies even where, for example, a service is provided electronically to a New Zealand client in circumstances where the client has sought the service and the service provider has not solicited that client in New Zealand. We have experience with this where New Zealand residents have formed business relationships with providers while offshore and then sought to continue those relationships once they have returned to New Zealand, thereby bringing the relevant service provider into the New Zealand regulatory regime. 71 This issue can be particularly acute in the broker context (which is to be renamed the client money and property services regime), where the relevant financial products are held offshore and the only link to New Zealand is the location of the client here. 72 We have previously submitted that the territorial scope of these provisions should be amended, or supplemented by regulation, to create an approved list of offshore jurisdictions so that qualified providers located in those jurisdictions do not have to comply with the additional requirements under New Zealand law (with some tolerance for where the offshore requirements may differ from New Zealand requirements for example, European jurisdictions where the concept of holding assets on trust does not exist). 73 We believe that the creation of an approved list of this nature will recognise that, in many cases, consumers can be adequately protected under the rules of foreign jurisdictions and the requirement for approval means that New Zealand consumers will still be protected by New Zealand regulation where a country is not on the approved list. 74 If Parliament does not support this approach, then the precise territorial scope of the FMCA as it applies to the giving of financial advice should, ideally, be clarified in the Bill by using the phrase where a service is provided to a client or an investor located in New Zealand. 75 The relief currently provided for Australian advisers has been achieved through the use of two exemptions covering reasonably specific matters (including relief from AFA qualifications for Australian advisers in certain circumstances). We see this as a matter that should be dealt with as part of the regulatory framework, not sporadically through exemptions. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 19

20 10 The definition of financial advice product should exclude switching 76 We are aware of, and we acknowledge, reasoned views that advice on switching between investment funds in a retirement scheme (i.e. a KiwiSaver, superannuation or workplace savings scheme) is financial advice regulated by the Financial Advisers Act These views are based on the proposition that a switch is a variation of the terms or conditions of an existing category 1 product. 77 However, if it is intended that this advice be captured by the new regime, then we nevertheless recommend (given the respectable legal arguments the other way which we set out below, and the significance of retirement savings switching decisions including, increasingly, in the KiwiSaver context) that the definition of financial advice product in part 1 of the Bill be clarified to capture explicitly switches between funds in retirement schemes (KiwiSaver schemes, superannuation schemes and workplace savings schemes). 78 In the context of these schemes, a decision to switch funds within a scheme is not, in our view, a renewal or variation because: 78.1 there is only a single financial product an interest in the scheme (see section 11(2)(a) of the FMCA, which makes it clear that the interest is issued when a person becomes a member), 78.2 further contributions to, and investments in, the relevant scheme do not result in the issue of further financial products (see section 11(2)(c)(i) of the FMCA), 78.3 a switch between funds within the scheme does not result in a variation to the terms and conditions of that single financial product. The rights that a member has in relation to the scheme are governed by the trust deed and the terms of the offer documents applying to the scheme, and the switch is an exercise of those existing rights, 78.4 a switch similarly does not constitute a renewal of the membership interest in the scheme, 78.5 before the FMCA provisions referred to above became law, it had already been well accepted that membership of a superannuation or KiwiSaver scheme was a single security and that an exercise of choice (including investment choice) in the member capacity was not a variation to membership terms or conditions, and 78.6 in summary, all that has happened is that the member has directed (by exercising a power already available to them under the unamended terms of the scheme) that the funds they have invested in in respect of which they have the same rights both before and after the switch be invested in a different investment option or options. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 20

21 11 Protection of FA or NR reporting breach should align with the original FAA provision 79 The whistleblower protection provision in section 431R of the Bill should more closely align with the current provision in section 45A of the FAA. In particular, subsection (2) of section 431R of the Bill should contain a provision that prohibits the FMA from disclosing information in a report (whether or not it has been made in good faith) that might identify a client of the reporting adviser, unless that client consents or the FMA believes disclosure is essential. 12 The designation power for what constitutes financial advice would create further uncertainty on the boundary between financial advice and information only services 80 Participants in the financial services industry need to have certainty as to the boundaries between regulated and unregulated conduct. These boundaries are crucial for determining the regulatory impost of providing a service. Without them, financial service providers may hesitate to provide no-advice services to clients, potentially restricting customers ability to access information. 81 The potential mischief addressed by the FMA s current designation power does not arise in the context of advisory services. The definition of financial advice is already expansive, requiring only that a person make a recommendation or give an opinion about acquiring or disposing of (or not acquiring or disposing of) a financial advice product (which term is itself broadly defined). 82 In contrast, the definitions relating to the various kinds of financial products in the FMCA are narrowly cast and highly prescriptive, making it conceptually possible to structure a security so as to fall legally within one product definition when in substance it fits another definition better. It was the prospect of such structuring which drove the need for FMA s designation power in the FMCA. 83 We therefore submit that the designation power in the context of financial adviser services be removed. 13 Additional exemptions from definition of regulated financial advice Services provided to a limited partnership by related parties should fall outside the definition of Regulated Financial Advice 84 As with the FSP Act (see regulation 5(1)(b) of the Financial Service Providers (Exemptions) Regulations 2010), services provided to a limited partnership, where the service provider is related to that limited partnership s general partner, should fall outside of the definition of regulated financial advice. Principal officers exclusion should be retained 85 As with the current FAA, the concept of principal officer should be maintained (see section 14(1)(i) and the definition of principal officer in section 5), so that advice from a director, or person who occupies an analogous position (for example, a trustee or partner) is not regulated financial advice. 86 The definition of principal officer could be clarified as follows: Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 21

22 Principal officer means in respect of a company, any director; in respect of a partnership, any partner; in respect of a trust, any trustee; in respect of a limited partnership, any limited partner or general partner; or any person who occupies a position equivalent to them. The exclusion for licensed derivatives issuers should apply to all derivatives issuers 87 In relation to clause 21(b) of new Schedule 5 in the Bill (which contains exclusions from the client money and property service regime), the exclusion for derivatives issuers should apply to all derivatives issuers, not just to those licensed to issue derivatives to retail investors under part 6 of the FMCA. We say this because all of the relevant protections in the client money and property service regime, both for retail and wholesale clients, are already provided within regulations of the Financial Markets Conduct Regulations which impose custody type obligations on derivatives issuers (which apply to both licensed and unlicensed derivatives issuers). Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 22

23 PART 2 AMENDMENTS TO THE FSP ACT 14 FSPR registry categories should be rationalised Category relating to acting as an offeror of financial products under an FMC offer should be removed 88 The FSP Act category relating to acting as an offeror of financial products under an FMC offer should be removed from the list of financial services because requiring persons who are in the business of issuing securities to register on the FSPR is unnecessary and causes undue confusion All of the primary entities who are acting as an offeror of financial products offered under an FMC offer are already captured by existing categories, being: 89.1 registered banks and NBDTs, 89.2 managers of managed investment schemes, peer-to-peer lenders and crowd funding service providers, and 89.3 derivatives issuers and DIMS providers, each of whom are who are already covered by the licensed provider category, or if they are not covered, will be covered by category [26] if they operate under an exclusion or exemption. 90 The other primary group of businesses who are acting as an offeror of financial products offered under an FMC offer are listed companies, who regularly issue debt securities under dividend reinvestment plans (DRPs) or equity securities through capital raises. Listed companies already operate on licensed markets and should not be required to register on the FSPR solely because they engage in these activities. 91 This leaves one remaining group of businesses, being those who infrequently engage in debt or equity issuances, who often find it difficult to determine whether or not they are in the business of engaging in such activities, and as a consequence find it difficult to determine whether they must be registered on the FSPR. 92 While we appreciate that the category originates from the Financial Action Task Force (FATF) definition of financial institution, specifically category 8, persons who are in the business of participation in securities issues and the provision of financial services related to such issues, we consider that this category overlaps with, and is already substantially covered by, the licensed categories set out above. 93 Removing the category altogether would simplify the list of categories, remove existing confusion for industry and the public and have a limited impact on the integrity of the FSPR (given that most providers are already required to register under other categories in any event). 3 See also Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 23

24 Category relating to keeping, investing, administering, or managing money, securities or investment portfolios on behalf of other persons should be removed 94 The proposed FSP Act category relating to keeping, investing, administering, or managing money, securities or investment portfolios on behalf of other persons should be removed entirely because those entities who are in the business of keeping, investing, administering or managing money, securities or investment portfolios on behalf of other persons will, in almost all cases, be covered by one of the licensed entity or client money or property service categories. 95 As the Consultation Paper noted, there is a substantial degree of overlap between the categories, which can lead to confusion among industry and the public. 96 Almost all entities that would be captured under category [24] would also be captured by one or more of the other categories. 97 That being the case, we consider that it would be preferable if this category were removed entirely, to avoid confusion and improve the FSPR s usefulness for the public and regulators. Definition of financial institution in the AML/CFT Act should align with the updated definition of financial services in the amended FSP Act 98 It would be appropriate to align the categories of financial services with the definition of financial services in the AML/CFT Act. 99 In practical terms, we believe the sensible outcome here would be to amend the AML/CFT Act s definitions to align with the ultimate position reached in the Bill, as that will reflect the most up to date policy position. We appreciate that this may be outside the scope of the Bill, but we believe it is a matter which should be strongly considered, given the level of uncertainty we believe this mismatch has created for financial sector participants. Categories in online register need to align with those in legislation 100 We also note that the categories on the online FSP register need to replicate those that are in the legislation. This is not the case currently and has caused a great deal of confusion for customers and potential customers. 101 The register should be re-designed to reflect the outcome of the Bill. 15 FSPR should set out the provider s AML/CFT supervisor and the names of directors and names and roles of senior managers 102 We support including further information on the FSPR and consider that this will help the public make informed decisions. In particular we support the inclusion of: information on the providers AML/CFT supervisor (if any), information on the names of directors and names and roles of senior managers of the FSP (but in neither case their date of birth or home address). 103 Including this information on the FSPR would improve public access to information that is collected by the Registrar already, and/or is publicly available elsewhere, but is difficult to access. For example, an entity s AML/CFT supervisor can be found by searching three separately published lists on each Supervisor s website. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 24

25 104 The second change can easily be accommodated by expanding Schedule 2 of the Financial Service Providers (Registration) Regulations 2010 to include clauses 4(a)(i), and clauses 4(b)(i) from Schedule 1 in Schedule 2 and should not need a transitional provision since the information is already collected. 105 Any decision to require further information will need to be considered carefully in terms of the functionality and workability of the register (i.e. it would need to take into account the costs of expansion and whether there would be increased utility or benefit for users). 16 Title of the FSP Act should be changed 106 The title of the Financial Service Providers (Registration and Dispute Resolution) Act 2008 should be simplified to "Financial Service Providers Act 2008". Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 25

26 PART 3 OTHER MINOR CHANGES AND IMPROVEMENTS TO THE FMCA 17 Clarify application of Subpart 2 and Subpart 3 of Part 5 of FMCA 107 Subpart 2 (Insider Trading) and Subpart 3 (Market Manipulation) of Part 5 of the FMCA are arguably unclear whether issues of quoted financial products trigger the relevant subparts. 108 Under the Securities Markets Act 1988 the definition of security for the equivalent subparts was one that has been allotted and is listed on a registered market [i.e. NZX]. Allotted is a synonym for issued, or brought into existence. 109 Although the explanatory note to the Financial Markets Conduct Bill made it clear that no substantial changes were intended to the equivalent provisions, instead of carrying forward the definition which made it clear the subparts only applied to allotted financial products the relevant operative provisions instead apply to quoted financial products. 110 We assume that Parliamentary counsel had considered that it was no longer necessary to include the word allotted since it is not possible to have a quoted financial product that does not exist. However some lawyers have in practice focused on the absence of the word allotted from the definition, and discerned that, contrary to the explanatory note to the Bill, a change may have occurred. 111 This uncertainty has ramifications for issue costs, as legal opinions with open legal issues can increase underwriting cost. 112 Accordingly, until 30 November 2017, a transitional provision was included in regulation 114A of the Financial Markets Conduct Regulations 2014, which sought to put the uncertainty beyond doubt for at least subpart 2 of Part 5 of the FMCA. Unfortunately that regulation expired before it could be considered following the change of government. 113 MBIE has consulted on the position and, we understand, there was broad support for the policy position that issues/allotments of securities should not be covered by Subpart We submit that removal of the uncertainty is important, and that it is more appropriate that it be dealt with directly in the FMCA rather than just by transitional regulation. The simplest approach may be to define financial products for the purpose of Subpart 2 and Subpart 3 of Part 5 of the FMCA as being one that is allotted. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 26

27 18 Clarify that options and financial products convertible into quoted financial products require disclosure under Subpart 6 of Part 5 of FMCA 115 Subpart 6 (Disclosure of relevant interests in quoted financial products by directors and senior managers of listed issuers) currently only requires disclosures of relevant interests in quoted financial products. 116 However it is common for company executives to have relevant interests (e.g. under employee/executive incentive schemes) in financial products that comprise an option to subscribe for a quoted financial product, or are a financial product that is convertible into a quoted financial product. We anticipate this will only increase with forthcoming changes to taxation law. 117 Because an option or a convertible financial product is unlikely to be quoted, they strictly fall outside the Subpart. Although Subpart 6 can capture specified derivatives, under the FMCA a derivative does not include an option to subscribe for a financial product (see section 8(4)(b)(ii)). 118 Section 296(1) provides: 296 Purposes of subpart (1) The purposes of this subpart are to promote good corporate governance, and to deter, and to assist in the monitoring of, insider conduct and market manipulation, by (a) (b) ensuring that information about directors and senior managers trading activities in listed issuers is available to participants in financial product markets; and enabling the dates of trades to be checked against the dates at which material information became generally available to the market. 119 We submit these purposes could be undermined, if the true position of senior manager (and, if relevant) director interests in quoted financial products are not caught by Subpart 6. Accordingly, we submit that the subpart should be extended to director and senior manager relevant interests in an option to subscribe for, or a financial product convertible into, a quoted financial product. 19 Broaden clause 8 of Schedule 1 of FMCA 120 Clause 8 of Schedule 1 of the FMCA (exclusion for employee share purchase schemes) has proven to be too narrow to adequately cover common forms of employee share purchase scheme. Accordingly the Financial Markets Authority made the Financial Markets Conduct (Employee Share Purchase Schemes) Exemption Notice 2016 (ESS Exemption Notice). 121 To improve accessibility of this important extension, we submit that those clauses of the ESS Exemption Notice covering issues of equity securities to eligible investors be incorporated into clause 8 of Schedule 1 of the FMCA. Economic Development, Science and Innovation Committee Financial Services Legislation Amendment Bill 27

28