Five FoFA issues for fund managers

If you are a fund manager, you may have assumed that the FoFA reforms have very little to do with you and everything to do with financial advisers, dealer groups and platform operators. This is not the case.
The FoFA reforms will have a significant impact on your business, your payment flows and how your products are distributed.

If you are a fund manager, you may have assumed that the Future of Financial Advice (FoFA) reforms have very little to do with you and everything to do with financial advisers, dealer groups and platform operators.

This is understandable given the original scope of the Rippoll Inquiry and the subsequent debate on the impact of the FoFA reforms on the financial advice industry. However, if you are a fund manager, the FoFA reforms will have a significant impact on your business, your payment flows and how your products are distributed.

In particular, there are five key issues arising out of the FoFA reforms that every fund manager distributing product in Australia needs to be aware of.

1. Fund managers will be prohibited from providing general advice

From 1 July 2013, fund managers will be prohibited from giving general financial product advice to retail clients. This includes a prohibition on the publishing of websites, educational materials and advertisements containing general financial product advice and educational seminars for retail clients.

Initially, this was considered to be an unintended consequence of the drafting of the ban on conflicted remuneration. However, despite this issue having been raised with Treasury, this prohibition has remained.

This is due to the broad drafting of the ban on conflicted remuneration which provides that any benefit given to a financial services licensee (here, a fund manager) who provides financial product advice, including general advice, to persons as retail clients that, because of the nature of the benefit or the circumstances in which it is given, could reasonably be expected to influence the financial product advice given,
is conflicted remuneration and is banned.

In most cases, financial product advice given by a fund manager on its website, in educational materials and seminars, albeit general in nature, could reasonably be expected to be influenced by the management and other fees the fund manager hopes to earn from managing its products. For example, the fund manager is more likely to give general advice about its own products than about its competitors’ products.

In these circumstances, a fund manager has two options:

  • stop earning any remuneration from managing its products, or
  • stop providing general financial product advice.

Obviously, the first option is not tenable. The consequence is that fund managers will be required to stop publishing educational materials to retail clients and advertisements containing general financial product advice, restrict the information on their websites and cease giving educational seminars to retail clients.

Fund managers will be able to continue to publish:

  • product disclosure statements − although the short form PDS regime applicable to many fund managers from June this year will significantly restrict what can be said in a PDS and, accordingly, a fund manager’s ability to distinguish its products from others via its PDSs
  • educational materials and seminars that are not for release to retail investors − that is, fund managers will be able to continue to publish educational materials and advertisements and hold educational seminars for financial advisers and dealer groups, and
  • other materials that contain purely factual information not amounting to financial product advice.

This is clearly a sub-optimal outcome for consumers. No one is better placed to give general advice on a financial product than its manufacturer. A recent amendment to the Explanatory Memorandum to the applicable FoFA bill does not go far enough to address this issue. If Government and ASIC do not intend to ban fund managers from giving general financial product advice to retail clients, regulatory or ASIC guidance is necessary.

2. Ban on commissions and rebate payments to advisers

From 1 July 2013, fund managers will be prohibited from entering into new contracts to pay commissions or rebates to financial advisers.

They will, however, be able to continue to meet contractual obligations to pay commissions and rebates to financial advisers under contracts entered into prior to 1 July 2013. This is subject to the potential application of the new anti-avoidance rules to arrangements entered into in order to avoid the new FOFA rules.

Importantly, fund managers need to be aware that there is significant uncertainty in relation to:

  • whether, and on what terms, new commission or rebate arrangements will be able to be entered into with financial advisers after 1 July 2012, and
  • whether significant variations to existing commission and rebate arrangements can be made after 1 July 2012.

The uncertainty arises from:

  • the FoFA Act, which enables a fund manager to opt-in to the FOFA regime from 1 July 2012 thereby imposing a ban on it from entering into new contracts to pay commissions or rebates to financial advisers
  • broad anti-avoidance provisions will apply from 1 July 2012 and while it appears that the anti-avoidance provisions are not intended to impact arrangements between fund managers and financial advisers entered into between 1 July 2012 and 1 July 2013, this is not at all clear
  • recently released draft FoFA regulations which purport to limit the scope of an arrangement which can be grandfathered, and
  • existing commission and rebate arrangements between fund managers and financial advisers which will be grandfathered, but there is no clarity on the extent to which those existing arrangements can be varied and/or supplemented without giving rise to a ‘new’ arrangement which will not have the benefit of grandfathering and accordingly will be banned.

It is the last two points which will cause the greatest ongoing concern for fund managers and financial advisers. Each variation to a grandfathered contract will need to be considered carefully, whether it involves changing the term of the contract, the amount of the commission or rebate payable, adding additional products or advisers or varying the scope of the services provided under the contract. Each amendment will raise the issue of whether a ‘new’ contract has been entered into and will bring some, or all, of the contract under the FoFA regime. Fund managers and financial advisers will need to seek advice on these issues each time an amendment to a grandfathered contract is proposed. Significant commercial issues may arise if the advice differs.

3 Fund managers may be asked to facilitate payments from retail clients to advisers

FoFA permits a financial adviser to receive an ongoing volume-based payment from a retail client where the payment relates to advice given to the client by the financial adviser.

We anticipate some financial advisers putting in place arrangements with their retail clients whereby the retail client requests and directs a fund manager, at regular intervals, to redeem a part of the client’s investment in a fund and to pay the proceeds to the client’s financial adviser.

Fund managers will need to consider whether they are willing to facilitate these arrangements. This will also require consideration of what, if any, restrictions will be imposed on such arrangements and the representations and undertakings the fund manager will require from its clients and the financial advisers involved.

4. Volume based shelf space fees

Volume based shelf space fees paid by a fund manager to a platform operator will no longer be permitted under FoFA. Under the new regime, platform operators will only be permitted to charge a reasonable fee for services provided to the fund manager. Discounts or rebates attributable to efficiencies gained by a fund manager because of the number or value of the fund manager’s financial products on the platform will be permitted.

The transitional issues raised in point 2 in relation to the ban on commissions and rebate payments to advisers apply equally to existing and transitioning shelf space fee arrangements.

5. Training for financial advisers and other soft dollar benefits

Fund managers will continue to be able to sponsor ‘relevant’ educational seminars for financial advisers and dealer groups. However, there will be monetary caps and other restrictions imposed by regulation and ASIC policy. These caps and re-sections are still being formulated.

The good news? Christmas parties, which are specifically referred to in the revised Explanatory Memorandum to the applicable FoFA bill, will also be allowed, provided the cost per head is less than the prescribed cap which is proposed to be $300