July 2, 2009
Last week’s regulatory changes by Britain’s Financial Services Authority (FSA) received little coverage here in Canada. However, these are changes that should grab the attention of Canadian advisors, suppliers and regulators alike.
The biggest change made was regarding how advisors get paid. The FSA has effectively banned upfront sales commissions from being attached to any financial instruments, including insurance policies. Instead advisors will have to provide clients with a fully disclosed, upfront choice of a one-time billable fee or an ongoing fee for service.
The FSA claims that the move will prevent unsuitable products from being pushed by unscrupulous advisors who care more about making money than helping people.
What I found most surprising is the reaction from the U.K. advisor community. It claims that this will not be a big change. Now, I know very little about the U.K. marketplace but clearly it is miles away from the Canadian one. This sort of regulatory change would be earth shaking in Canada where DSC fees are the norm for mutual funds, and insurance products — with the exception of seg funds — are only available via an upfront commission.
As a fee for service advisor, I have to applaud this legislation and can only hope that it serves as a model for future regulatory changes in this country. I know this opinion will likely make me unpopular amongst many of my peers, but I think this sort of change would create a better industry for just about everyone involved.
Let’s consider the parties involved.
The question of how much they are paying for advisory services would no longer be dependent upon which advisor they use and their level of disclosure. This type of transparency would lead to a greater emphasis on continuing service to justify the fees being charged, which could in turn lead to greater levels of client maintenance and, I hope, trust in the industry.
The elimination of upfront commissions would help this industry transition from a sales industry to a client relationship based industry. All too often I deal with people who never hear from their advisor after they purchase a product, and the client is too often tied to DSC schedules or old policies that the advisor has no monetary incentive to maintain.
I am a believer that everything in this industry should be portable from one advisor to another, and that the only advisor who should receive any ongoing compensation should be the one who is actually advising the client. However this would require the elimination of DSC sales, the levelling of insurance commissions and the end of lifetime vesting on insurance policies. The tradeoff, of course, is that all products in an advisor’s book would be paying them recurring fees and increasing the sale value of their book.
This is the one group that would no doubt suffer from such legislation. The elimination of upfront commissions will make the early years far less profitable for advisors. However, they could structure their practice in such a way that they focus themselves on bringing in business that is looking for upfront, onetime fee-for-service advice.
Mutual fund companies
I was once told by a wholesaler that somewhere in the neighborhood of two thirds of all calls to a mutual fund company’s back office are DSC related. Accurate or not, it is clear that the issuance of these commissions, as well as the maintenance of funds within a DSC structure, are of significant cost to mutual fund companies. Elimination of this structure would result in decreased costs and potentially decreased MERs to clients.
These product issuers would see the biggest change if similar legislation was ever put into place in Canada. The large upfront commissions that are common to these products would disappear and potentially be replaced with an ongoing service trailer that would have to be significantly larger than the tiny sums that are currently paid out. However other negative aspects of the industry would disappear as well, including agents who offer no after-sale support to their clients, the financial incentive to twist policies and the need to finance enormous upfront commissions.
I think that the key principle the FSA took hold of here, in addition to the clients right to full disclosure, is that this industry should be one of advice and relationships and not one of sales. As such, the financial remuneration should be in line with that. No longer will unscrupulous advisors push products on clients because it pays well. Nor will advisors be able to hide what they are charging from the client.
As of 2012, every client in the U.K. will have the choice of either paying an advisor upfront for their work and walking away from the relationship or paying them on an ongoing basis to work for them.
Isn’t that a right that Canadian investors deserve?