We commented on this very relevant topic last week. More detailed information has since come to hand. We will use this over the next few weeks to discuss what will possibly be contained in the RDR discussion document which is expected any day now.
The purpose of the Retail Distribution Review (RDR) is explained as follows:
We are making these changes because we believe the current, complex distribution landscape is fundamentally flawed. It creates risks not only to fair customer outcomes, and effective supervision, but also to the sustainability of intermediaries and advisers – and, in fact, the whole intermediated business model.
Concerning the risks to intermediary sustainability, Jonathan Dixon, DEO at the FSB, indicated the following:
- Intermediaries are not always adequately remunerated for advice. In a commission based model, the adviser often receives no remuneration for professional time spent on financial planning or product advice if these efforts do not result in a product sale.
- Where customers believe that they are not paying for advice, the value of financial advisers’ services will also not be properly recognised.
- An intermediary who provides a comprehensive service, including financial planning and expert product advice, may well be paid the same as an intermediary who provides little more than non-advice selling (such as call centre agents). This limits the ability of more experienced and proven professionals to charge more for their services and creates a barrier to the professionalisation of the intermediary sector.
- An up-front commission structure forces intermediary businesses to follow a ‘cash-flow’ model, rather than building an annuity income stream that can be sold as a going-concern, creating value in the business.
- Lastly, inappropriate incentive structures expose intermediaries to regulatory risk – particularly the consequences arising from incentive-driven miss-selling or unlawful fee arrangements.
In order to address these concerns, the FSB is proposing to move towards an activity-based definition of advice and intermediary services. This will clarify which services are provided to which party and in what capacity an intermediary acts when performing these activities. This is outlined as follows:
- On the one hand, advice is seen as a service provided to the client. The financial adviser acts in the capacity of agent of the client. Following input from stakeholders, there is general support for splitting the definition of advice into separate components, namely up-front financial planning informed by a financial needs analysis; up-front advice on product selection; and on-going advice as circumstances change.
- On the other hand, it is recognised that an intermediary may sometimes perform certain functions on an outsourced basis for a product provider. Some of these are currently included in the definition of intermediary services and will need to be split.
- Lastly, in the middle are true intermediary services where an intermediary acts as the go-between in selling or servicing a product.
What we are specifically interested in is seeing if, and how, independent financial advisors will be recompensed for work done on behalf of a product provider. The advent of call centres have led to a dilution in the quality of after-sales support to clients. Very often the advisor, as go-between, has to take the flak for mediocre service.
In his address, Jonathan Dixon remarked as follows on the practical impact of Treating Customers Fairly on responsibilities of various role players:
- TCF is an outcomes-based approach – the emphasis is on firms’ and intermediaries’ ability to demonstrate that the culture, systems and processes they have in place are consistently delivering fair outcomes to customers. It will be less about ticking boxes in compliance reports and more about measuring results. Firms will have to ensure that their practices are consistent with these key TCF principles, which will be contained in legislation.
- TCF will see a rebalancing of responsibilities. Up until now there has been a heavy emphasis on Outcomes 3 and 4 – the point-of-sale and advice stage of the product life cycle – through FAIS. This will now be balanced by an increased scrutiny of the way firms develop products, ensuring that firms design and develop products that offer value to the customers and meet their reasonable expectations. Also, product providers will have primary responsibility for ensuring that their products are marketed and distributed in a way that does not undermine fair outcomes – including much more rigorous oversight over their chosen distribution channel. It’s been far too easy in the past for product providers to blame poor outcomes on intermediaries – it must now be clear that delivery of fair outcomes is a shared responsibility.
We trust that these principles will also apply to after-sales service expectations of clients.
Next week, we look at the formalisation of contractual relationships, and different forms of reward, based on this.