The case study I have chosen IOOF is from the final report of the Royal Commission into misconduct in the banking, superannuation, and Financial Services industry.
The reason for choosing this case study is that I am currently employed in the Financial services Industry and the organisation I work for has recently been acquired by IOOF, so I have an interest in understanding the previous issues in relation to IOOF’s exchange with the Banking Royal Commission.
IOOF Holdings Ltd is a publicly listed company and the commission looked at its subsidiary businesses namely IOOF Investment management limited (IIML) and Questor Financial services ltd (Questor).
The main issues of the case study are in relation to three areas of conduct relating to IOOF’s superannuation business. The case study is centred around perceived and real conflicts of interests between stakeholders being the firm’s management, shareholders, and members interests.
Firstly, the commission examined Questors conduct in relation to recovery of an overpayment it had wrongly paid to unit holders of a managed investment scheme in which it was the responsible entity and in which as trustee it had invested and in which as RE it held interests. This event was referred to as “Questors over distribution”.
The second aspect of conduct examined related to IOOF and its dealings with the Australian Prudential Regulation Authority “APRA” about questions of governance, management of conflicts of interest and culture more generally.
The third focused upon IIML’s decision in 2018 to change the fees and charges for an underlying super fund and apply the new and lower pricing to new members but only apply the new and lower pricing to existing members when the member asked for it to be applied essentially an “opt in “situation.
APRA essentially argued that on three separate occasions in 2015, the IOOF trustee entities improperly compensated superannuation beneficiaries for losses caused by the IOOF entities. APRA argued that because IOOF paid compensation from members reserves and not the IOOF entities funds IOOF had been exposed as having an inherent conflict of interest by preferring the interests of shareholders over those of the beneficiaries or members of the superannuation funds. In essence APRA contended that the IOOF failed to act in the best interests of members.
Interestingly in the APRA proceedings Justice Jagot found that IOOF’s decisions to utilise members reserves did not threaten the ongoing stability of the Super funds or their ability to withstand future operational risk and was critical of APRA’s broad assertions.
I believe the main breaches occurred due to the inherent conflicts of interest that existed within the IOOF vertically integrated corporate structure and strategy of the group.
The banking royal commission made no specific recommendation in respect of vertical integration; however, the report recommends reviewing the effects of vertical and horizontal integration in the financial system.
Still, the commission was satisfied that IIML may have failed to act in the best interests of members and thereby contravened section 52(2)(c) of the SIS act and referred the matter to APRA.
In 2018 APRA considered imposing strict conditions on the licenses held by the IOOF entities in response to IOOF’s inability to adequately identify and manage conflicts of interest throughout the IOOF group.
APRA noted that prior to 2017 the IOOF group structure meant that all directors sat on the parent and subsidiary boards which contributed to an inherent conflict of interest as the same individuals were responsible for making decisions in respect of issues where the interests of the investors or members were likely to give rise to conflicts of interest or duty.
In fact, as far back as 2015 APRA had raised concerns with IOOF about the adequacy of the conflicts of management framework to manage these inherent conflicts from the groups organisational structure.
I believe APRA took the right steps after identifying the issues within IOOF and raising those concerns, but it took several years for IOOF to address those concerns and had a history of long delays and non-compliance with APRA’s requirements.
The Australian Competition and Consumer Commission (ACCC) will be considering integration issues as part of its market studies work and it has been recommended by the productivity Commissioners report “competition in the Australian financial system” that the ACCC should undertake five yearly market studies on the effect of vertical and horizontal integration on the financial system.
Post the banking royal commission I believe the industry has taken a more cooperative approach to working with regulators. Much of the change has occurred within organisation structures and are proactively reducing the conflicts inherent in a vertically integrated structure.
The evidence of this is that now many of Australia’s largest wealth businesses have separated their subsidiary Wealth businesses that had been tied up in the integration of product manufacturing, administration, and distribution.
An overview of the main product and disclosure obligations relates to relevant providers of advice. A relevant provider is an individual that is authorised to give personal advice to retail clients on relevant financial products S923C of the corporations Act.
Importantly a relevant provider must be an individual and cannot be a company and needs to be one of the following.
- AFSL
- Authorised Representatives of AFSL
- Employee or Director of AFSL
- Anyone authorised to provide financial advice to retail clients, as the licensee or on behalf of the licensee in relation to financial products.
Section 910A of the Corporations Act defines ‘relevant financial products’ as products other than basic banking, general insurance and consumer credit insurance products.
Section 921C provides that only those people who have met the training requirements in s921B (2)– (4) (i.e., those who have completed a bachelor’s degree or equivalent, passed an exam approved by the standards body, and undertaken a professional year) may be authorised to give personal advice to retail clients on relevant financial products.
Disclosure Obligations Under PT 7.7
RG 175.3 and under Pt 7.7, providing entities must:
a) Ensure a general advice warning is given to the client
b) Prepare and provide a Financial Services Guide (FSG) for general and personal advice
c) Where personal advice is provided, prepare, and provide a statement of advice (SOA)
In summary if general advice is given then a general advice warning must be provided and a FSG must be provided in all advice scenarios and when giving personal advice a statement of advice must be provided.
What is the difference between personal advice and general advice?
Under RG 175.8 Financial product advice is a recommendation or a statement of opinion, or a report of either of those, things, that is, or could reasonably be regarded as being, intended to influence a person in deciding about a particular financial product or an interest in a financial product s766B.
All financial product advice is either ‘personal advice’ or ‘general advice’ and under the corporation’s act, personal advice has characteristics according RG175.9
Personal advice is financial product advice given or directed to a person where the person giving the advice has considered one or more of client’s objectives, financial situation and needs, or a reasonable person might expect the person giving the advice to have considered one or more of those things S733B (4)
General advice is all other financial product advice S766B (4). General advice may help you to identify and narrow down your options. But it won’t tell you how to make the best financial decision for your personal situation.
Disclosure Obligations under Div 2 of Pt 7.7A
In February 2017, the Commonwealth Parliament amended the Corporations Act (2001) (the Act) to provide for improved standards of education, training, ethical behaviour, and professionalism for relevant providers (financial planners and financial advisers) providing advice to retail clients in relation to relevant financial products.
Among those changes, section 921E of the Act requires all relevant providers (as defined in Section 910A of the Act) to comply with a Code of Ethics made by FASEA under paragraph 921U(2)(b) of the Act.
On 8 February 2019, by legislative instrument, FASEA made the Financial Planners and Advisers Code of Ethics 2019 (the “Code”). Compliance with the Code became mandatory for relevant providers providing advice to retail clients in relation to relevant financial products on 1 January 2020.
The obligations in Div 2 of Pt 7.7A collectively referred to as the ‘best interests’ duty and related obligations’ are designed to ensure that retail clients receive advice that meets their objectives, financial situation and needs, and that advice providers act in the best interests of their clients in providing them with advice
Div 2 of Pt 7.7A broadly relates to the best interest obligations.
Subdivision B. S961 B-F Provider must act in the best interests of clients
Subdivision B S961B (2) Safe harbour for complying with best interest duty
Subdivision C. S961 G Resulting Advice must be appropriate to the client
Subdivision D. S961 H Resulting advice still based on incomplete or inaccurate information
Subdivision E. S961 J Conflict between clients interests and those of provider, licensee, authorised representatives, or associates
Subdivision F. 961 K-P Responsibilities of licensees under the division
Subdivision G. 961Q Civil penalty provision – sections 961B, G, H and J
The Westpac Case
The High Court handed down its judgment in the case of Westpac Securities Administration Ltd & Anor v Australian Securities and Investments Commission [2021] HCA 3 on 3 February 2021. The issue at the heart of Westpac’s appeal was whether the financial product advice given by Westpac to members was personal advice within the meaning of section 766B(3)(b) of the Corporations Act 2001 (Cth) (Act).
On the hearing of the appeal in this Court, it was common ground between the parties that the question posed by s 766B(3)(b) was whether a reasonable member might expect that Westpac had in fact considered one or more of the member's objectives, financial situation and needs and not whether the member might expect that Westpac should have considered those circumstances.
The court found that the general advice disclaimer does not apply when immediately after that the Westpac callers set about, and succeeded in, eliciting from each member a statement of the member's objectives to assist them at arriving at the decision as to whether it was in each member's best interests to roll over external superannuation accounts into his or her BT account.
But the significance of the general advice warning must be assessed considering all the circumstances. The general advice warning was given only once, at the beginning of the telephone conversation. Members were subsequently asked directly about their personal objectives. Members were not encouraged to seek personal advice before deciding whether to accept the rollover service.
Having elicited from each member an indication of his or her personal objectives of "saving on fees" and "improving the manageability" of superannuation by consolidating accounts the court found that the callers were giving personal financial advice s766(B) as the caller’s strategy was intended to influence a member in deciding about the BT financial product.
A communication of the type instigated by Westpac is more likely to be financial product advice if its provider is remunerated by the client or stands to benefit depending on the decisions made by the client. A reasonable person might expect that where Westpac is acting, in part, in its own interests, a fee for the provision of personal advice is less likely to be required.
The court essentially found that a reasonable person would draw the link to influence and the intention to influence could be inferred even though a fee was not applied to the rollover advice and clients should be treated as retail clients particularly when dealing in superannuation.
There was a pre-existing relationship between each member and Westpac. Westpac already held some of the member's superannuation and each member had entrusted those funds to Westpac. The pre-existing relationship was one of trustee and beneficiary.
In circumstances where the advisers were representatives of Westpac, a reasonable person would expect the adviser to be continuing the pre-existing relationship as a representative of Westpac, and to have access to all the member's relevant information known to Westpac
The court also observed that Ch 7 draws a distinction between retail and other clients.
Where, however, the relevant financial product is a superannuation product, Ch 7 provides that the person will always be a retail client.
Information still may amount to financial product advice when presented in such a manner that suggests or implies a recommendation to join a fund after comparing two products. The court found that each member might reasonably think that Westpac considered that acceptance of the roll-over service and this implied that the members objectives, and that this justified acceptance of the offer of the roll-over service regardless of what more comprehensive consideration of his or her financial situation might reveal.
Really importantly the court ruled that objectives do not cease to be personal objectives merely because those objectives are such as to be generally applicable to most people in the position of the client.
It follows that advice which is personal advice within s 766B(3)(b) does not cease to be so because the content of that advice is such as to be generally applicable to all or most persons in the position of the client as well as to the client.
Divisions 3 and 4 of Pt 7.7, respectively, provide for different financial services obligations to apply when a licensee is providing personal advice and general advice. The main additional requirement applicable to the provision of personal advice is for a written Statement of Advice ("SOA") to be given. It was found by the Full Court, that if Westpac provided financial product advice that was personal advice, it breached s 946A because it failed to give the members a SOA.
The most significant change I believe that would improve culture and governance practices in the financial services sector would be for ASIC to directly licence financial advisers rather than the current system of having AFSL holders providing financial advice services through an authorised representative structure.
You must have an Australian financial services licence (AFSL) to conduct a financial services business.
ASIC with its oversight of licensees and financial advisors means it has a high degree of control through its authority to apply penalties and disciplinary control and ultimately revoke an advisor’s licence to practice.
Sanctions include warnings, reprimand, training, counselling, audit, and removal from approved compliance scheme
An essential element of the advice relationship is the one that the advisor has with their clients and is sometimes referred to as the agent – principal relationship. Financial advisers are generally perceived to operate under agency theory where a natural conflict occurs between the best interests of the agent versus the principal.
Complicating the agency approach is the fact that there is frequently a secondary agent principal (A-P) relationship between the financial adviser/planner and their employer or legal controller. Because of the nature of the Corporations law in Australia, the vast majority (more than 80% according to the ASIC submission to the PJC (Ripoll, 2009b) of advisers licensed by the regulator ASIC are subject to an employment or corporate authorised representative status whereby the holder of an Australian Financial Services Licence (AFSL) authorises advisers to act on its behalf and under its rules.
Professional bodies are another external influence on the best interest obligation, however, the direct power that a licensee has over a financial adviser makes any attempts for an industry body to influence a secondary element. One of the proposals offered to the royal commission is for each advisor to be individually licensed through ASIC but these suggestions have not been endorsed by parliamentary enquiries into financial advice.
Instead, it seems that Government, education providers, professional bodies and not to forget clients will seek to influence financial advice.
I disagree that the law is too complex to follow and most poor outcomes within the industry including those case studies highlighted in the royal commission could have been avoided by firms and financial advisers simply asking themselves if they were doing the right thing.
The old saying goes that a bad workman always blames his tools and I think that is the case when simplification of the legal framework is blamed for the financial services industry essentially doing the wrong thing.
It’s interesting that when financial institutions and their advisers have been found to act unethically, they quite often choose to gloss the words of the law and hide behind the law to excuse poor behaviour that disadvantages clients and is advantageous to the organisation they work for. A classic case of having your cake and eating it.
For example, IOOF in its dealings with the Australian Prudential Regulation Authority “APRA” needed to address questions of governance, management of conflicts of interest and culture more generally.
The characteristics mentioned above I believe are essential to a well-managed, socially responsible, and sustainable business and should not need to be spelled out to business leaders and the decision makers who sit on the boards of financial services organisations. However, if there is any confusion the law is very black and white about the need to manage conflicts of interest and fiduciary responsibilities of trustees.
It could be argued in many cases that organisations did comply with the law in the strictest sense but that does not mean they acted ethically or in the best interest of their customers especially when providing financial advice.
For these reasons the FASEA codes of ethics and values is so important and was developed to extend beyond the legislation for those professionals delivering financial advice.
References
Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, Volume 2, IOOF, Pg160-180
ASIC Regulatory Guide 244
Financial Planners and Advisers Code of Ethics 2019
Letter APRA to King & Wood Mallesons, 6 December 2018
https://www.apra.gov.au/sites/default/files/show_cause_notice.pdf
Ernst & Young 4 September 2018,
https://www.righttoknow.org.au/request/6684/response/18740/attach/5/Document%201.pdf?cookie_passthrough=1
IOOF, the 'pub test' and members' money
https://www.afr.com/companies/financial-services/ioof-the-pub-test-and-members-money-20190923-p52tx6
IOOF Royal Commission Analysis of Final Report https://microsite.ioof.com.au/__data/assets/pdf_file/0014/352400/2019-Royal-Commission-FR-analysis.pdf
Gilbert & Tobin Lawyers
Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry – Volume 2 Case Studies
Money Smart, General and Personal Advice
Don’t take it personally – High Court clarifies the test for personal financial advice
Westpac Securities Administration Ltd v Australian Securities and Investments Commission, [2021] HCA 3, Date of Hearing: 7 & 8 October 2020, Date of Judgment: 3 February 2021, S69/2020
HIGH COURT OF AUSTRALIA, KIEFEL CJ, BELL, GAGELER, KEANE AND GORDON JJ
ASIC Licensees
Comments