Tony Watts outlines a number of major changes for investment advisers aimed at improving consumer protection and confidence in retail financial services
The Retail Distribution Review
On 31 December 2012 major changes were introduced by the Financial Services Authority (FSA) in relation to how investment advisers are regulated, in the long-awaited implementation of the FSA’s Retail Distribution Review (RDR).
Because of the significance of the changes for the financial services industry, the House of Commons Treasury Committee suggested that (among other things) the changes be deferred until 2014 but the FSA pressed on with implementation.
Santander Bank was reported to have temporarily withdrawn 800 staff from giving investment advice while it continues to ensure they are fully able to comply with the new rules.
To what do the changes apply?
The changes involve a new regime for investment advisers advising on retail investment products. Retail investment products include most common financial products sold by investment advisers to clients who are individuals. Specifically, this includes life policies (with some exceptions described below), unit trusts, investment trusts, personal pensions and certain structured investment products. There are also “catch all” provisions intended to cover products which have a similar risk profile, however they are structured.
The changes also extend to unregulated collective investment schemes. This category includes a wide range of investments not formally approved for retail distribution to the public, such as most hedge funds. However, under different proposals on which the FSA has issued a consultation, in the future it may not be possible to sell such products to ordinary retail clients at all.
When do the changes not apply?
In summary, the RDR changes do not apply to:
- structured deposits, such as bank and building society accounts which pay interest or returns based on some investment factor such as the performance of the FTSE 100;
- individual stocks and shares, not otherwise within the definition of retail investment products, so shares in investment trusts or open-ended collective investment schemes will still be covered by the changes even though they are shares;
- general insurance products, in particular pure protection policies in respect of death or incapacity due to injury, sickness or infirmity, where these do not have any investment element or surrender value – however RDR coverage will be reviewed if it leads to a significant increase of sales of these products; or
- mortgage advice.
The FSA’s stance is that if there is any doubt regarding the application of the RDR changes then investment advisers should assume that they apply.
Summary of RDR changes
The changes are in the following areas, and apply when personal recommendations are made in respect of retail investment products:
- Clarity of advisory services -adviser firms will be obliged to describe the advice they provide as either “independent or “restricted”. Independent advice must be based on a comprehensive and fair analysis of the relevant market. Independent advisers must consider a very wide range of products when recommending investments to their clients. Investment advisers which restrict the advice they give to a limited range of product providers or investments will be required to label their advice “restricted”.
- Ending commission-based sales -before implementation of the RDR, many adviser firms had been remunerated for advised sales by commission paid to them by the product provider. The FSA considered that this was likely to lead to “remuneration bias” through a conscious or unconscious tendency to recommend products which yielded the highest commission for the adviser. Charges for advice must now be agreed in advance with the client. In some circumstances, clearly agreed adviser charges can be “facilitated” via a product sale.
- Professionalism -there have been major changes in relation to requirements regarding qualifications, ethical standards and continuing professional development (CPD) for retail investment advisers. The minimum level of qualification will be OfQual Approved Level 4, regarded as equivalent to the first year of a university degree. Retail investment advisers will be required to have a Statement of Professional Standing issued by an accredited body (one recognised by the FSA for this purpose) confirming that they continue to meet certain requirements. There will be an annual requirement of 35 hours CPD for retail investment advisers, with detailed rules as to how this requirement can be fulfilled.
Accompanying this are detailed rules on conduct of business and an increase in minimum capital requirements for personal investment firms.
The FSA will hand over its responsibilities to a new body, the Financial Conduct Authority (FCA) during 2013, though this is not likely to involve any change to RDR requirements in the short term.
There are, however, developments at the EU level. In reviewing the Markets in Financial Instruments Directive (MIFID 2), it seems that the European Parliament’s Economic Affairs Committee do not accept the need for a ban on payment of commission by product providers to advisers. This may lead to future changes in the UK regulatory regime introduced by RDR. The European Commission is also proposing new rules on disclosure in relation to Personal Retail Investment Products (PRIPs) which may also involve UK changes.
The Retail Distribution Review has been a flagship initiative of the FSA which has been several years in preparation. It is likely that it will be rigorously enforced by the FSA and its successor body, the FCA.
This article is for general information purposes only and does not constitute legal or professional advice. It should not be used as a substitute for legal advice relating to your particular circumstances. Please note that the law may have changed since the date of this article.