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26 Jul 13
FoFA update - clarification of grandfathering arrangements and further exemptions from the ban on conflicted remuneration

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The Corporations Amendment Regulation 2013 (No. 4) and Corporations Amendment Regulation 2013 (No. 5) commenced on 18 June 2013 and 1 July 2013 respectively (Regulations).  The Regulations contain amendments to the Government’s Future of Financial Advice (FoFA) reforms, specifically providing further exemptions from the ban on conflicted remuneration and also clarifying how grandfathering arrangements operate for the ban on conflicted remuneration.  Corporate Advisory Partner, Tim Wiedman, summarises the main changes effected by the Regulations.

Background

The ban on conflicted remuneration prohibits licensees and authorised representatives from accepting, and product issuers or sellers from giving, monetary or non-monetary benefits where the nature of the benefit or the circumstances in which it is given may influence the choice of financial product recommended or financial advice given to retail clients.

In addition to a ban on conflicted remuneration, the FOFA reforms also ban certain other types of remuneration, including the charging of asset-based fees on borrowed amounts by a licensee or representative who provides financial product advice to a retail client.

Brokerage fees excluded from ban on asset-based fees on borrowed amounts

The FOFA reforms prohibit a licensee or representative charging a retail client, to whom they provide advice, an asset-based fee on a borrowed amount used to acquire financial products.  For example, if a retail client has a share portfolio worth $200,000 which includes a margin loan of $100,000, a licensee cannot charge the client a fee (e.g. 1% per annum) based on the value of the portfolio.  However, the licensee can charge the client a fee based on the net or unborrowed amount of the portfolio.

The Regulations provide that the prohibition on asset-based fees on borrowed amounts does not apply if a fee is a brokerage fee, being a fee payable to a trading participant on the ASX or other prescribed Australian or foreign financial market for a transaction in which the participant deals in a financial product traded on such market on behalf of the client. 

Therefore, a broker can continue to charge a retail client brokerage, calculated as a percentage of the value of equities bought or sold, even if the securities bought or sold are funded from borrowed amounts.

Grandfathering of conflicted remuneration given by employer to employee

The ban on conflicted remuneration prohibits an employer of a licensee or representative from giving the licensee or representative conflicted remuneration for work performed as an employee.

The Regulations introduce grandfathering arrangements which allow conflicted remuneration to be provided by an employer to an employee in the following circumstances.

 

Clarification of operation of grandfathering arrangements

Platform operators
A benefit given by a platform operator under an arrangement entered into before 1 July 2013 is exempt from the conflicted remuneration ban, with the exception of benefits relating to a new client coming onto the platform from 1 July 2014 (which are prohibited). 

For example, if a licensee and platform operator entered into an arrangement before 1 July 2013 under which the platform operator agreed to provide a benefit to the licensee depending on the volume of the licensee’s clients using the platforms, such benefits can continue to be paid for clients using the platform prior to 1 July 2014 but not for clients which commence using the platform after 1 July 2014.

Therefore, for clients using the platform prior to 1 July 2014, pursuant to an arrangement which was in place prior to 1 July 2013, benefits relating to further acquisitions of products (including new investments and switching between investments) through the platform after 1 July 2014 will continue to be grandfathered. 

Licensees
A benefit given by a licensee who is not a platform operator, pursuant to an arrangement entered into before 1 July 2013, is also grandfathered and not caught by the ban on conflicted remuneration, with the exception of benefits given in relation to new clients from 1 July 2014 and investments in new products by existing clients after 1 July 2014 (which are prohibited).

For example, if a licensee has an arrangement with a product issuer prior to 1 July 2013 for the product issuer to pay the licensee a commission for the licensee recommending its clients acquire the product issuer’s product, then commissions can continue to be paid for clients who acquire the product prior to 1 July 2014 but not for any new client who acquires the product after 1 July 2014.

Therefore, other licensees (i.e. non-platform operators) are only able to pay conflicted remuneration post-1 July 2014 in relation to new investments if a client is increasing their existing interest, or switching investment options, in a managed investment scheme, superannuation product, life investment product or multi-product offering. If the client is investing in a completely different scheme, product or offering, then no conflicted remuneration can be paid. 

Summary

Essentially, for platform operators and other licensees, the effect of these amendments is to impose a sunset date, being 1 July 2014, on when new clients and, for non-platform operators, existing clients purchasing new products are covered by grandfathered arrangements, being arrangements in place prior to 1 July 2013.

Other amendments

The Regulations also:

  • enable a licensee to pass all or some of a grandfathered conflicted remuneration to another person without contravening the prohibition on conflicted remuneration.  For example, a licensee who receives grandfathered conflicted remuneration can pass some or all of that grandfathered remuneration to the individual representative who provided the advice to the client and the remuneration will continue to be grandfathered
  • exempt from the ban on conflicted remuneration, a monetary benefit paid as part of the purchase or sale of the licensee’s or representative’s financial advice business to the extent the remuneration is based, in whole or in part, on the number or value of financial products held by the licensee’s or representative’s clients and the weighting attributed to financial products that are issued by the licensee or other person is the same as the weighting attributed to other similar financial products, and
  • recognise that parties to the grandfathering arrangement can change and the grandfathered status of the arrangement continue.

Focus covers legal and technical issues in a general way. It is not designed to express opinions on specific cases. Focus is intended for information purposes only and should not be regarded as legal advice. Further advice should be obtained before taking action on any issue dealt with in this publication.

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