We have seen an increased focus by the FSB on the activity of replacing one financial product with another, particularly in relation to long-term insurance products where the FSP is also a registered long-term insurer. The Retail Distribution Review also proposes a ban of commission on replacements of life risk products. Replacements, however, are not confined to this product type and have consequences for clients across all financial products.
The concern is that the outcome for the client is not always fair and that the recommendation to replace is sometimes driven by incentives which create bias for advisors when giving product advice. This is not to say that all replacements are bad but there have been enough cases where the client’s interests have not been taken into consideration. The issue with most financial products is that their benefit is often only realized at some point in the future. It is for this reason that more regulation is needed.
Recently we saw the FAIS Ombud in response to a client complaint ask an FSP for a record that shows that the advisor elicited personal information from their client, including the client’s financial circumstances, in order to demonstrate that the advisor understood the client’s circumstances prior to giving advice.
Disclosures that advisors must make when recommending a replacement
If one turns to Section 8 and 9 of the General Code of Conduct, the greater part deals with the requirements for suitability and the record of advice in respect of replacements. Where a financial product is replaced either in full or in part, there is an obligation on the advisor to disclose the financial implications, costs and consequences of the replacement.
Advisors are not keeping adequate records
In our experience we have found that advisors do not adequately record the information which they may have given to a client to explain the material differences between the replaced and replacement product.
By way of example, where an advisor recommends that clients switch from one unit trust fund to another, the advisor must comply with the replacement requirements set out in the Code. Even though the type of financial product (in this example a unit trust fund) has not changed there may be implications, costs and consequences as a result of the switch into a different fund, for example capital gains tax, a change in the risk profile or asset allocation of the fund.
Section 8(2) of the General Code of Conduct requires that reasonable steps be taken to ensure that the client understands the advice and that the client is in a position to make an informed decision and Section 9(1)(d)(bb) requires that the reason why the replacement product was considered more suitable to the client’s needs than retaining or modifying the terminated product must also be clearly recorded.
Treating Customers Fairly (TCF) when dealing with replacements
Outcome 3 of TCF requires that clients are given clear information at all stages of the advice process. It is not only the entity that produces the information that is responsible to ensure that the information is clear and appropriate. Any firm that uses that information and passes it on to its clients should also apply this TCF outcome.
In the context of replacements, advisors must make sure that the client understands the differences between the products so they can make an informed choice. This will also ensure that there is not a mismatch between the way the product performs and the client’s expectation.
What records are the FAIS Ombud looking for?
The FAIS Ombud has commented that the records they are looking for must have been compiled at the time of advising the client. A post facto account will not be accepted. Keeping detailed records of the conversations, meetings and other correspondence with clients and the advice given will allow an advisor who is facing a client complaint to forward this to the Ombud with ease.