18th July 2011

Time to stop digging?

With the release of The Treasury Select Committee's report on the Retail Distribution Review on last Saturday (16 July), those who thought that some members of the TSC had been “nobbled” by either the FSA or the Treasury can be assured that this is not the case. This is a good day for common sense, the democratic process and the courage of those MPs and IFAs who have devoted much time and effort to see a better outcome for the RDR process.

I spoke with Mark Garnier MP last Saturday and his view on the report is that there will be many IFAs who will be happy and not happy, but not for the reasons one may expect.  Upon reading the report, I can see what he means. In fact it is more of a ‘Curate’s egg’.

There are so many facets to this report that it is not possible to please everyone.

I think the TSC and its chair, Andrew Tyrie, were not fully convinced that the submissions put by both the FSA and very many IFAs about the loss of advice to the mass market/ middle income demographic carried much weight in light of AIFA’s general support for RDR and do not counter strongly enough the FSA’s six key principles that sit behind the RDR, namely:

1.An industry that engages with consumers in a way that delivers more clarity for them on products and services

2.A market which allows more consumers to have their needs and wants addressed

3.Standards of professionalism that allow competitive forces to work in favour of consumers

4.Remuneration arrangements that allow competitive forces to work in favour of consumers

5.An industry where firms are sufficiently viable to deliver on their longer-term commitments and where they treat their customers fairly

6.A regulatory framework that can support delivery of all of these aspirations and which does not inhibit future innovation where this benefits consumers

So, should IFAs see this review as a failure? No, but I think the time has come to stop digging. Success of a sort has occurred in some areas - the longstop may be looked at but the conditions attached do not read well and I see the January 1^st 2013 cliff-edge push back recommendation by another year as being positive.

So here is a summary of the key findings based upon the evidence submitted and some of our initial thoughts;

On qualifications- the case for level 4- The evidence provided by the FSA on the need to move to Level 4 was weak. Nevertheless, the Committee sees some merit in a move to a higher level of qualification, both as an opportunity to build a stronger professional ethos amongst advisers and as a reflection of the high level of responsibility financial advisers have for the financial welfare of clients. Trust in financial services must be key.

For the FSA’s evidence to be found weak is of great concern given the cost of the exercise to date.

On Cliff edge matters- We recommend that implementation of all aspects of the RDR be delayed by twelve months, in order to maintain choice and competition in the advice market. We recommend that the FSA temper the ‘cliff-edge’ nature of the current reforms. A system of proper supervision, along with the additional year, would provide some leeway, while maintaining the Level 4 requirement.

I think that the quest for better qualifications is laudable but how the FSA are intending to see implementation of it is both unfair and flawed. This recommendation is a victory for common sense.

On beyond level 4 qualifications- It is conceivable that in the future the FSA may require Level 6 qualifications for advisers. We would expect there initially to be a full study undertaken by the FSA (or its successor) before any move to Level 6, using a large sample of UK based advisers, looking at the merits of such a move. Should implementation then be proposed, we would expect, in view of the significant difference between Level 4 and Level 6, there to be a far longer lead time to implementation, with a wide-range of potential routes available to those wishing to upgrade their skills and qualify under any new regime.

Any further qualification bar-raising should be done with industry wide consultation and consensus and not be applied retrospectively.

On commissions- There is already full disclosure to customers of the cost of the advice they receive, whether paid for via commission or fees. However, as both advisers and the FSA have told us, many consumers appear to see financial advice as being ‘free’ under a commission based system, despite adviser disclosure of its actual cost. The introduction of consumer agreed remuneration under the RDR will potentially create a market price for advice. Given that some consumers will have seen advice as ‘free’ beforehand, it must be assumed that the setting of this price will lead to a reduction in the consumption of advice, just as would be the case in any normal market where the price of a good rises. But this rise in the price of advice may also lead to consumers undertaking greater scrutiny of the advice they are paying for, and who is providing it. Given the past mis-selling episodes of the industry, this must be a welcome development. However, we do not underestimate the scale of the change in culture that this will involve for an industry based so heavily on individual relationships.

The transition from commission to fees is the biggest challenge for many IFAs and to move to hourly charging, the clearest solution, will continue to be a challenge for firms and those who have to pay the fee.

On trail commissions- Trail commission where advice is not offered is very difficult to justify. However, we note the initial impact its removal may have on the value of IFA firms, and recommend that the FSA analyse the impact of this measure on the market for advice, and especially on the small-firm IFA market. We discuss later in this Report concerns expressed to us about an increase in trail commission being awarded in the run-up to the implementation of the RDR.

Most IFA businesses have been valued by way of multiples of trail commission, not always an accurate assessment and the trail has been used to fund the purchase over 3 years or so. Removal of trail would destroy any value built up by many IFAs over many years that had been taken into account as part of their retirement strategy

On ensuring a level playing field- The RDR concerns not just IFAs, but advisers in banks as well. We would be extremely concerned if banks found ways round the rules that will cover all aspects of remuneration. We recommend that the FSA (or its successor the FCA) report after one year, and then yearly, on the impact of the RDR on vertically integrated firms’ remuneration structures, indicating breaches that have been found and what remedies the regulator has asked for. Only with such transparency will the IFA community be persuadable that it has not been unfairly impacted by the implementation of the RDR.

The banks will probably find a way around this.  You cannot ever find a way to apply a level playing field when predominantly small IFA firms are competing as best they can with global corporations.

Conclusions on types of advice- We note the concerns held by some that simplified advice may simply replace the advice of IFAs with an inferior advice system. Without a fully developed system to allow analysis, it is not possible to know. We urge the FSA to maintain the pace of its work towards a simplified advice regime so that a competitive market can begin to operate. We recommend that the FSA (and its successor the FCA) report to us both on progress towards a simplified advice regime and, when such a regime is put in place, update us on how implementation has affected consumer outcomes.

Access to advice- The evidence suggests that there will be a loss of market capacity, as some advisers decide not to comply with the new requirements. However, the FSA state that barriers to entry in the market are low. We are concerned that the loss of advisers, particularly individuals and those in small firms, will disadvantage smaller savers by reducing choice and competition.

For the FSA to suggest that entry barriers are low is questionable. Given the regulatory costs and the need to build up income flows by way of fees rather than commission is a significant barrier. Any new firm entering the arena will need to be hugely cash rich to sustain the level of professionalism required to succeed.

Savings gap- Personal savings in the UK are unacceptably and unsustainably low. We were therefore concerned about the impact that loss of advisers might have on saving. The FSA seeks to reassure us in its evidence, but we recommend that regular reports on the impact of the RDR on adviser levels, and savings through independent financial advice, should be compiled by the FSA and its successor.

I think the TSC were not 100% convinced on many arguments put forward on this but it should always be understood that nobody ‘buys’ financial services products, they are ‘sold’.

Implementation of the RDR It must be to the benefit of consumers. Consumers will not benefit if it results in a reduction in choice and competition through a substantial loss of advisers and firms. Some advisers have already complied with the requirements of the RDR. We have no wish to alter those requirements, but do wish to allow more time for advisers to reach the required standards. Therefore we recommend that the FSA defer the introduction of the RDR by 12 months, alongside our earlier recommendation to temper the ‘cliff-edge’ nature of the reforms to the required qualifications.

Very good news but two years would have been better, three of even five years was always a non starter. 

Accountability- The creation of the FCA provides an opportunity to examine the accountability mechanisms that will apply under the new system of financial regulation. We will therefore instigate an inquiry into this including the mechanisms proposed by the Government, as well as the concerns raised within the evidence attached to this Report, to decide whether they are adequate.

About time too. There is too much power and very little accountability at the moment.

Longstop- We note the FSA’s acceptance that there may be a need to look at whether a long- stop on potential liabilities should be instituted within financial services. We recommend that the Committee on the Draft Financial Services Bill, which would create the Financial Conduct Authority, consider whether there is a compelling case for a long-stop. Our view is that any long-stop would need to be shown to be clearly in the interest of consumers.

A lost opportunity, the fact is that the Limitation Act is a law that should apply to all - even consumers. It is there for a purpose and that is being ignored in the case of IFAs if they are denied the protection it offers. Cleary in the interest of consumers is an impossible condition to satisfy and that was not the purpose or intention of the Limitation Act

We should all remember that the report contains recommendations and they may or may not be listened to by the FSA. If not then Parliament has a problem as do we as an industry.

A major cause of the failure to be heard is that despite all the very good noise made by various lobby groups it was clearly not all on the same frequency and the messages were therefore either not received, not understood or just not credible.

Going forward IFAs need to look at more relevant and effective trade body representation. Perhaps it requires a completely new industry approach with all effected pooling knowledge and resources. A situation akin to trade unions representing the interests of many often diverse occupations and work practices by a centralisation of resource both technical and legal.

Providers, many of whom express differing views in public and private about the RDR are re-evaluating their distribution model, after all as a “manufacturer” they have a product to sell, so we will no doubt see the return of the ‘Man from the Pru’. And what of the consumer in who’s name this has been done, they will need to get used to paying for something that they can neither see, smell, taste or touch and seldom value until now- as the song goes, ‘you don’t know what you’ve got till its gone’.

And what if it does not work, as the grand plan would have happen. As Peter Smith said “we will have to think of something else”.

Have your say on the TSC report now in our short survey!

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