7th October 2013

Scottish Life: The future of trail commission

There has been a lot of coverage in the press following the Financial Conduct Authority's (FCA) Board Meeting in June. We consider what was said, what the issues are and what happens next.

What was discussed at the FCA Board Meeting?

The FCA discussed the state of the nation regarding the Retail Distribution Review (RDR) at its June Board Meeting. This included:

Whether the lack of an end-date for the payment of trail commission on pre-RDR business might lead firms to act in ways that risked poor consumer outcomes.

This was an internal discussion following implementation of the RDR over 6 months ago.

The FCA are waiting until they have finished carrying out their thematic reviews on the RDR before deciding whether or not to take any action but the trade press and some advisers see this as being the end of trail commission.

What are the FCA's concerns?

They have two concerns:

1. They believe the payment of trail commission to an adviser should be associated with the provision of a service to the client. Although this will apply in most cases, there will be some cases where it does not apply for genuine reasons. For example, an adviser could be taking deferred initial commission in the form of trail commission.
2. They believe the lack of an end date for trail commission will result in advisers leaving business where it is when it may be in the client's best interests to move it. This avoids the difficult conversation on how advisers are to be remunerated by the client for moving it.

What are the practical difficulties with stopping trail commission?

The FCA itself has acknowledged there are practical difficulties in stopping trail commission.

• Many advisers have built up their business around trail commission. Stopping trail commission would put many of these advisers out of this business as they would not be able to replicate the same level of income through adviser charging. This does not sit well with the perceived advice gap following the large drop in adviser numbers in the run up to the RDR.
• Stopping trail commission may not necessarily lead to a reduction in product charges, especially on some older products. The costs of changing product charges on some legacy systems may be prohibitive for the number of plans affected. This could mean a client would end up paying twice for the same service.
• The Financial service Authority (FSA) was clear in its Policy Statement PS10/6 that it did not expect advisers to renegotiate the terms on existing business. Adviser charging was only to apply to new business. Stopping trail commission would appear to go against this earlier statement.
• There may be practical difficulties in terminating existing legal contracts for the payment of trail commission. These contracts were taken out in good faith based on the rules in force at that time. It may not be possible to change or renegotiate these contracts.

What is likely to happen next?

There are four likely scenarios:

1. The FCA decides on an immediate ban on all trail commission.
   This would have to be accompanied by a legal requirement for providers to refund the difference if clients are to benefit. Many might see this as the ideal solution but in reality it would have a huge impact on provider cashflow and may even lead to some going out of business. Even the strongest providers would experience a knock-on effect on their capacity for product development and customer service.
2. The FCA decides to ban all trail commission unless an ongoing advice service can be evidenced.
   There is a danger in this scenario that, given the difficulty of changing existing systems, some providers may decide to offer the ongoing services themselves to justify the existing charging structure. The client would then lose the benefit of an independent advisory service and the adviser would be cut out completely.
3. The FCA decides not to change their current stance on trail commission but some providers decide to stop paying it anyway.
   Unless they are willing and able to refund the difference this is the worst possible scenario for the client as they would either continue to pay for a service they don't receive or would effectively pay twice for any ongoing advice service.
4. The FCA decides not to change their current stance on trail commission and providers continue to honour existing commission agreements.
   This is the best solution for advisers who would then be sure of receiving their existing income stream. Clients would be no worse off than at present although there may be some adviser bias towards preserving existing contracts and providers could also concentrate on product developments.

Further information

If you would like to discuss any of these scenarios in more detail, speak to your usual Scottish Life contact.

Sources

• FCA Board Minutes 27 June 2013
• FSA Policy Statement PS10/6

RDR, Regulation, FSA/FCA