The FSCA published a discussion document on investment related matters in June 2018 and has asked the industry for input in response to their thinking and proposals by 17 August 2018.
In our first ‘special edition’ we had a look at the FSCA’s thinking about the different types of activities that discretionary financial services providers perform and how these could potentially be separated into different licence categories with a set of fit and proper requirements for each. In our second article we discussed the FSCA’s proposed approach to categorising investment advisors within an RDR framework.
In this article we discuss the implications of the FSCA’s proposed approach to remuneration and charging in connection with investments within an RDR framework.
The following quote from the initial RDR proposal (published in October 2014) really sets out why the regulators feel it is important to address remuneration and charging structures:
“The potential consumer impact of unfair or inappropriate charging structures is particularly important in the investment product space, where product, distribution and advice-related costs all have a direct impact on the ability of products to meet reasonable customer benefit expectations.”
Leading on from this, they identified a number of principles for intermediary remuneration as necessary to support the desired RDR outcomes, including the following:
- Intermediary remuneration should not contribute to conflicts of interest that may undermine suitable product advice and fair outcomes for customers.
- Ongoing fees may only be paid if ongoing advice and services are rendered.
- Intermediaries may not be remunerated twice for the same service.
- All fees paid by customers must be motivated, disclosed and explicitly agreed to by the customer.
- The different types of services and fees should be readily comparable by customers.
So, when considering any recommendations/proposals, one needs to test those proposals and/or reactions to the proposals against these principles.
Possible additional regulatory measures
Apart from the earlier RDR proposals, the regulators want to consider the following additional regulatory measures in relation to remuneration and charging structures:
- How best to use or enhance the ASISA Effective Annual Cost (EAC) disclosure mechanism to ensure that customers fully understand the quantum and impact of all charges and layers of charges in the investment value chain. This includes all Investment Manager and Model Portfolio Provider (MPP) charges, administrative charges, LISP platform charges, and advice fees.
- How to mitigate the risk of inappropriate duplication of fees and charges by different entities in the investment value chain. In order to do this, one would need to consider things like:
1. How does one ensure that:
(a) the fees charged by different parties in the investment value chain (eg. the CIS management company, the third-party investment manager and/or the MPP) are appropriately allocated between them,
(b) the fees charged are reasonably commensurate with the activities performed by each party, and
(c) that the total cost is reasonably consistent with the fees charged by the CIS management company on other portfolios in a similar asset category?
2. How does one best mitigate the risk of conflicted advice in cases or structures where advisors put themselves forward as “non-tied” and as providing objective advice in relation to their own or their own group’s portfolios or model portfolios?
To address these issues the regulators are proposing possible regulatory responses, like:
- Setting clear standards that require the advisor and the portfolios or model portfolios to carry the same branding as well as requiring advisors and investment managers/MPPs to prominently set out their relationship in all marketing and advertising material;
- Not allowing investment managers or MPPs to hold a licence for advice in their own right – in other words, advice in relation to the portfolios/model portfolios concerned can only be provided by a separate legal entity (which may or may not be part of the same group);
- But, if an investment manager or MPP is allowed to provide advice through the same licence, then don’t allow the charging of both advice fees and investment/portfolio management fees in relation to the portfolios concerned – i.e. limit the fee chargeable in such models to one fee covering both the investment management/portfolio management and advice activities;
- If both advice fees and investment/portfolio management fees are chargeable, make it compulsory for the advisor to obtain the customer’s explicit consent to not only the advice fee but also any other fee chargeable by any other entity in the group; and/or
- Don’t allow sharing/splitting of advice fees and investment manager/MPP fees between the advice operations and the investment manager/MPP operation – i.e. ensure that there is an explicit distinction between these sets of fees and the services to which they relate.
Deduction of advice fees and other charges
The regulators want to regulate the responsibilities of various entities in relation to facilitating and monitoring advice fees and other charges. They’re considering:
- Making it compulsory for all entities in the investment value chain to provide a facility to deduct and pay advice fees to advisors when instructed by the customer.
- Prescribing the minimum advice fee structures that these entities must be able to handle. Current thinking is that these should include providing customers with the option of requesting once-off or more regular fee facilitation, e.g.:
- A once-off fee added to a lump sum contribution and then paid to the advisor;
- Ongoing fees added to regular investment contributions and then paid to the advisor at the same frequency as the regular contribution. (No need for a separate debit order); and
- Ongoing deductions from investment values, expressed as a percentage of the investment value of the portfolio.
- Requiring these entities to monitor average advice fee levels on an aggregated basis and report these to the regulator.
- Extending the facilitation and/or monitoring and reporting obligations beyond advice fees to also apply to MPP fees (depending on whether these are chargeable separately from advice fees).
Remuneration for “automated advice”
Recent changes to the Fit and Proper Requirements define automated advice (or “robo advice”) as a form of advice under the FAIS framework. Therefore, such “robo advice” should be able to attract an advice fee. The question is how one ensures that such fee is reasonably commensurate with the automated service provided.
Remuneration model for distributing investment products through non-advice models.
The initial RDR proposals suggest that the only remuneration payable to any intermediary for selling or servicing investment products is an advice fee agreed by the customer. But, since this would only apply to intermediated distribution models where advice is provided, it raises the question whether there is a need for a different remuneration/charging model for “execution only”, non-advice situations.
Exercise of a discretionary mandate
The regulators are concerned that the exercise of a discretionary mandate (even where no advice is provided) can lead to a conflict of interest where the mandate is used by the investment manager or MPP to select portfolios/model portfolios offered by the mandate holder itself. The conflict of interest risk arises particularly where fees are payable for the management of a segregated/customised client portfolio (or model portfolio) as a whole, in addition to investment management fees on the underlying investments. With this in mind, they’re looking for input on how best to mitigate the risk of conflicted exercise of discretion.
This last section of the paper is consistent with the principles set out in the initial RDR paper and really makes all advisors think about what value they provide and how they charge for it. The fact that providers will have to cater for the deduction of fees payable to advisors will make it administratively easy for both clients and advisors. Advisors will not have to set up separate invoicing systems, and the client will be able to settle fees as part of their investments.
We recommend that you click here to read the full Discussion document and invite you to provide us with your input which we will take into consideration when consolidating our response to the FSCA.