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FINANCIAL LAW INSIGHT - DRAFT FINANCIAL ADVICE CODE UNVEILED
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The draft Financial Advice Code was finally released earlier this month. Reaction from most quarters has been positive, and the principles-based short form Code is a welcome relief after months of speculation over the possibility of a complex and process-driven approach. But is it really a fait accompli? In this Financial Law Insight we share some of our views that we will be incorporating in our submission to the Code Working Group.

In brief:

  • With just 12 principles-based Standards proposed, the draft Code is an approachable read and there’s much to like
  • The conduct Standards are fairly predictable, but will they work with all types of financial advice? 
  • Some of the details will present practical compliance challenges if left unaltered
  • The uniform approach to competency Standards is pragmatic, but does it produce the best outcome?
  • The truncated consultation does not support optimal engagement.

In full: 

The Financial Advice Code will underpin the new regime for regulating financial advice, which now seems set to come into effect sometime in the second quarter of 2020. Once in effect, anyone who provides regulated financial advice to a retail client will need to comply with the standards of ethical behaviour, conduct, and client care required by the Code. There is also a prohibition on providing that advice unless you meet the Code’s standards of competence, knowledge, and skill for giving the advice.

Getting the Code right is critical to the effectiveness of the new regime in meeting its statutory purposes – in particular, the objectives of ensuring the availability of financial advice for those seeking that advice, and ensuring the quality of financial advice and financial advice services.

The initial consultation paper released by the Code Working Group in March this year prompted submissions from 150 submitters. Many of those submissions were critical of the extent to which the Code Working Group appeared to be going down a prescriptive, process-driven route, straying into territory that more appropriately fell within the ambit of financial advice provider licensing.

To be fair, much of the consultation paper content was in the nature of inviting feedback as to possible options the Code Working Group was considering, without actually putting up formal proposals. If nothing else, the draft Code that has now been released is testament to the effectiveness of consultation, with the draft virtually devoid of any process requirements.

What do we like?

The draft Code is very much a principles-based document. With just eight short form ethical behaviour, conduct, and client care Standards to observe, the headline requirements that will impact on day-to-day operations are easily digestible. The four competence, knowledge, and skill Standards are consistent and offer flexibility in how they are observed.  

The approach taken in the conduct Standards follows the structure of the current Code of Professional Conduct for Authorised Financial Advisers, with each Code Standard followed by some commentary to aid the practical application of the Standard. The Code Working Group has gone further in producing worked examples of a couple of the Code Standards in operation.

We support this approach. While we think some of the details need a little work, the extent of the consistency with current Code requirements should assist in transitioning to the new regime. The lack of prescription provides flexibility for the Code to be effective across the full breadth of the financial advice services it needs to support.

The Standards for competence, knowledge, and skill were always going to be the hardest part of the Code to get right. The approach taken of focusing on the qualification outcomes of the New Zealand Certificate in Financial Services (Level 5) is an elegant way of addressing the challenges posed, enabling a range of prior learnings to be recognised without getting buried in the complexity of prescribed alternatives.

By providing freedom in the way people may demonstrate attainment of the relevant Standard, the draft Code potentially overcomes one of the key frustrations of the current Code. Many will just default to the safe harbour of achieving the relevant strands of the Level 5 Certificate, and mapping qualification outcomes against other qualifications will be challenging, but having the flexibility of an unfettered range of alternative pathways makes a lot of sense.

Will it work in practice?

The principles outlined in the Code Standards are hard to argue with. It’s when you start fleshing out the processes that financial advice providers will need to put in place to cater for particular scenarios that cracks start to appear. These are some of the points we intend submitting on:

  • treating clients fairly and acting in their interests and with integrity are hardly radical Standards to operate by, but evidencing that this is what you are doing throughout the advice chain requires thought and discipline.
  • managing conflicts of interest is already a statutory obligation, but proposed Code Standard 3 goes further. Particularly challenging for some will be the requirement to have arrangements in place to avoid conflicts of interest ‘where practicable’. Just how far does this go? We think this obligation needs a bit of a repositioning, and fleshing out to clarify what the Code Working Group has in mind. It’s a key battleground, and warrants more commentary to help guide providers as to what arrangements should be considered ‘practicable’.
  • taking reasonable steps to ensure clients understand the financial advice expands on the statutory obligation to take steps to ensure clients understand the nature and scope of the advice. Ensuring they understand the risks and consequences of that nature and scope – and associated fees and costs – is a logical extension. Ensuring a client actually understands the financial advice they have received is another thing. Just what will be required? How do you deal with generic, mass market advice that is not client-specific?
  • giving financial advice that is suitable for the client is a Standard that works where the nature of the advice is personalised. The Standard doesn’t work where the financial advice is limited to the merits of a financial product without reference to client characteristics, with the current Code's relief for class advice seemingly unavailable.
  • protecting client information is something financial advisers should do. However, we believe it is an obligation that is already well regulated under the Privacy Act. The proposed Code Standard throws up some practical challenges that will have a significant impact on the client information practices of many. This area of the law is currently undergoing a major overhaul. We don’t believe that adding a Code Standard on top of that is helpful.
  • competency, knowledge, and skill Standards are delightfully consistent in their structure, and easy to follow. However, there are some interesting calls made as to the recognition that will be given to existing status and learnings. The procedures, systems and expertise that financial advice providers will need to evidence in order to backfill gaps in individuals’ qualifications will only really be tested when it comes to apply for a full licence. While we like the flexibility, we see this presenting some interesting challenges for compliance assurance teams.

The Consultation Process

By releasing a draft Code with a minimalist consultation paper – in essence, in respect of each Code Standard, do you agree or disagree with the Code Standard, and do you have any comments – the Code Working Group is keeping its cards very close to its chest. Why did it come up with the Standards it has released? What were the alternatives it considered and dismissed? What aspects do its members regard as particularly contentious?

The absence of a discussion paper to accompany the draft Code inevitably impacts on the quality of the consultation process. The risk is that submitters will be digging under rocks that the Code Working Group has had months to turn over, without the benefit of receiving any form of explanation as to why the Group landed at a particular point. This is unfortunate, and risks submitters overlooking key points and implications, and may give rise to a lack of meaningful engagement and buy-in from stakeholders.

What is also unfortunate is that after taking more than five months to release the draft following the close of submissions on its initial consultation, the Code Working Group has only allowed the sector four weeks to respond to the draft. While we understand the desirability of expediency, that is scant time for the sector to tease out the practical implications for the wide range of participants and respond constructively. We shall see.

Next steps

Consultation on the draft Code closes on 9 November 2018, with the possibility of a further round of consultation on an updated version maybe early in the New Year, depending what this first round of consultation throws up. At this stage we anticipate the Code being finalised and formally approved in Q2 2019, with transitional licensing applications opening for financial advice providers in Q4 2019 and the new regime commencing in Q2 2020.

The pieces of the jigsaw puzzle of the new regime are slowly falling into place! 

Start a conversation

If you would like a specific briefing on this or any other aspect of the Bill or what the proposed reforms may mean for your business, or would like advice on planning for the new regime, please contact Catriona Grover on +64 4 498 0816, David Ireland on +64 4 498 0840, or Megan Mcluskie on +64 4 498 0876, or Nick Beresford on +64 9 375 1150 or email the team at bankingandfinancialmarkets@kensingtonswan.com.

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