Your financial planning
“The commission is probably the best thing ever that has happened to Australian financial services for the benefit of the public,” says Daniel Brammall, co-director of Brocktons Independent Advisory and president of the Independent Financial Advisers Association of Australia.
“This is the value of independence – you don’t expect a royal commission to be dependent on anyone. Not the industry and not lobby groups.”
These were the bodies successful in watering down proposals to clean up financial services – the Future of Financial Advice (FoFA) – that were enacted in 2013. “What you got was a lukewarm cup of tea with their interests put ahead of the consumers,” Brammall says.
It’s clear Hayne agrees, as the various carved-out forms of“conflicted remuneration”have been central in his financial-planning focus. “The very hinge about which the conflicted remuneration provisions turn is that the payment is one that ‘could reasonably be expected to influence the choice of financial product recommended to retail clients’,” his report says.
On the chopping block as soon as “reasonably practicable”are grandfathered commissions, those triggered before the FoFA ban, which Hayne says incentivise advisers to keep clients in existing products rather than move to better ones.
“There can be, and is, no justification for maintaining the grandfathering provisions.” That’s that then – well, it is after January 2021 if the government has its way.
Next is what’s at the heart of potential fee-for-no-service today: asset-based fees.
Brammall has long said these were devised to combat the commission ban and are “commissions by another name”, with dissenters arguing the fact they are paid by clients and not product providers means they are not.
Hayne has thrown his weight behind the former interpretation: “In what appears to have been an attempt to replicate the revenue stream that flowed from a combination of upfront and trail commissions, many advisers charged an upfront fee for preparation of a statement of advice and encouraged clients to enter into an ‘ongoing fee arrangement’, under which the adviser would charge an ongoing fee in exchange for particular services.”
The commission found many cases of no such services being received but still being charged for, thus breaking the law.
Are there savings?
So what is the potential saving that would flow to consumers from his recommendation that all volume-based fees must go?
Product disclosure statements must disclose the impact. Take as an example the Macquarie Wrap, which outlines the impact of total annual fees of 2 per cent – so an asset-based-based adviser’s typical 1 per cent plus an active manager’s typical 1 per cent – rather than 1 per cent.
It could reduce your return by 20 per cent over 30 years. And the larger your investments, the bigger the bottom-line effect.
By contrast, Brammall says you could paying – including decent fee-for-service advice – only 0.5 per cent in total.
He gives the example of a new 90-year-old client. “She has invested through a financial adviser with ties to a product manufacturer and… is invested in actively managed funds with an investment fee of 1 per cent.
“Then the adviser charges for their advice and portfolio review – basically what amounts [for her] to an expensive cup of coffee each year – another 1 per cent. Further, this is being deducted, as Hayne describes it, invisibly because it’s automatic.”
A third point in the commission’s final report specifies that only if an advisor collects no grandfathered commissions and charges no asset-based fees, as well as has no affiliation with a product manufacturer, can he or she call themselves independent.
That’s going to see far fewer advisers using the title.
But Paul Moran, principal of Moran Howlett Financial Planning, was among the many surprised that so-called vertical integration, the one-stop-shop idea where banks and institutions manufacturer products that their advisers can then sell, has survived.
“The issue isn’t bank products, it’s are you buying the right product for your needs?'” he says.
It remains to be seen whether the proposed changes to remuneration and conflicts can adequately protect customers of these businesses.
Moran further believes the move to enforce a one-year client opt in to fee arrangements, rather than the two years the industry negotiated in 2013, doesn’t reflect many clients’ realities.
“I might not see a client face-to-face for a year. But when there is a big life event, like a family member moving into aged care or dying, I may see them several times in a month or talk and correspond that often over a week. That’s all part of the service and annual fee,” he says.
“People take high degrees of personal comfort from knowing their adviser is there on tap as required and if my actions are to be defined on the basis of recommendations to buy, sell or hold financial product, it ignores the non-financial product service.”
The final recommendation that affects advice is a proposal for better-educated planners and a far tighter disciplinary process.
The next-most-dramatic changes are reserved for mortgage broking. They are significant andmortgage brokers are not happy. But Hayne’s purpose is to remove inbuilt biases from the system – a bias that could conceivably see you recommended a more expensive mortgage because it makes the broker more.
In a nutshell, mortgage brokers’ trail commission on new loans are to be gone within 18 months and there’s a proposal to also abandon up-front, provider-paid commissions in favour of a user-pays system.
Now the last is a contentious one, as a Productivity Commission review and the Murray Inquiry into the Financial System both sounded warnings about what it would mean for home loan competition if consumers incurred the “search” cost. The since fiercely-debated issue is whether the roughly 25,000 Australian mortgage broking businesses would become unviable and therefore force consumers into the waiting arms of the (more expensive) big banks with the largest branch networks.
Well, the government is sitting on its hands about up-front commissions, opting to take the “review in three years” option the report offered and first cap the upfront commission paid by the lender (with a ban on volume-based bonuses).
Meanwhile, Treasurer Josh Frydenberg has repeatedly stressed the importance of competition in the softening housing sector and his desire not to give our largest lenders a “free kick”.
But it’s hard to get past the multiple and shocking incidents of unethical and even illegal actions exposed by the commission, such as forgery of signatures and “liar loans” – loans inflated to maximise commissions.
Hayne says: “In the interim report, I pointed out how difficult it may be to decide for whom intermediaries act and to whom a particular intermediary may owe duties and responsibilities. As I indicated then, the difficulties may be acute in the case of mortgage brokers.”
A 2017 ASIC review of remuneration confirmed that brokers, through which almost 60 per cent of Australian loans are sold, stand to earn more or less depending on what they recommend. Of the loan amount,the rate of upfront commissionranges between 0.375 per cent and 1.1 per cent, while trail commission varies from 0.10 to 0.35 per cent of the ongoing loan amount annually.
ASIC’s take on that? “These factors may result in brokers structuring loan applications or recommending particular products based on the ability to earn a higher commission.”
But Independent Mortgage Planners managing director Craig Morgan, one of the few truly independent brokers in Australia because it already charges an up-front fee to clients and factors fully-rebated commissions into best-loan calculations (where lenders pay them), says recent integrity improvements have not been taken into account.
For example, all members of industry body Combined Industry Forum agreed from January 1 that commission will be paid on actual debt – so only on what’s drawn down and net of money held in an offset account or redraw facility.
“The legislation will be largely fixing a problem that now no longer exists but by the same token, that means that particular problem can’t ever come back,” Morgan says.
But while commissions remain, how can consumers be sure they are getting the best advice? As Choice CEO Alan Kirkland puts it: “We have to rip the Band-Aid off mortgage broking.”
At least both Labor and the Liberals support the royal report’s third big broker recommendation: subject them to the same best-interest-of-the-client test as advisers.
To many, it seems ludicrous they aren’t already.
And in a post-trail world, consumers who use brokers should watch out for “churn”, where clients are shunted from one product to another to snare recurring up-front income. To lessen the temptation, Hayne proposes a “clawback” mechanism – which means a broker having to repay some of the fee – if a client is moved within a certain time.
Of course, the newer alternative is to just plug what you want into one of the myriad comparison websites that have sprung up over the past decade, allowing you to price check virtually every financial product.
Just bear in mind that, like mortgage brokers, these will give access only to a limited number of lenders and you’ll need to be alert for search results based on commercial arrangements not consumer requirements (you can usually untick a box or click an option to display the genuine best products).
Yet another of the industry-earned exemptions from FoFA were life insurance commissions. Having said that, since January 2018 they have been standardized and capped (with a new upper limit imposed this year and next, bringing it down to 60 per cent up front, and keeping it at 20 per cent trail). Clawbacks to stop churn also now apply in the first two years of an insurance policy.
Hayne wants commissions completely gone – are you sensing a theme here?
Veteran insurance specialist Michael d’Apice, of Polaris Financial Solutions, says: “The royal commission team has got a couple of things wrong because they’ve not understood what’s already happening.
“From a consumer point of view, there is no win out of it if commissions go to zero.”
His and most of the industry’s concern is the potential for consumers to become further under-insured than many already are – because no one likes thinking about the grim realities implied by insurance, or paying for advice on it.
The government would appear to be thinking similarly and pausing on this one – or at least Labor says it is.
Hayne’s position? (He’s addressed potential detractors at virtually each turn of the page.) That most consumers have a degree of automatic insurance within super, and they can also access it through direct-to-market providers.
D’Apice counters that both direct and super-provided insurance are “inferior in quality to retail insurance” and insurers “do not respond as readily in a claim situation as retail insurance does”.
“Retail insurance also comes with the ongoing services of the adviser, which is invaluable at claim times.” By the way, “claims handling” by insurers would no longer be excluded from the definition of financial service, meaning further scrutiny.
It has to be said that if commissions were banned, it’s unlikely any premium savings would flow to the consumer.
And life – or risk – insurance is an esoteric area. Just two of the issues non-advised consumers should investigate carefully are:
- Own occupation or any occupation? So could you be expected to return not to your own job, but a different one?
- Stepped or level premiums? Level are more expensive up front but cheaper over the long run.
A third vital check is whether life insurance comes with a newer-style terminal illness clause, such that it would pay out ahead of death on diagnosis.
What is irrefutably positive from the consumer’s perspective, however, is the move to apply a “reasonable” test about medical disclosures prior to insurance being issued. No longer should innocently failing to disclose a minor medical ailment see a claim denied years later.
Bye bye soft self-regulation too – Hayne wants compliance dramatically tightened to something like the banking sector now has.
Australia has an enormous multiple super fund problem – $18billion of which is classified as lost – that costs consumers a fortune in multiple fees. There have been many attempts to fix this but Hayne has a simple one: “stapling” you to your fund.
Far from being painful, this would essentially mean your super would travel with you. If you opt not to act when starting a new job, you’ll be put into your existing one, rather than accruing (possibly) yet another small default fund.
This is a proposal that echoes a Productivity Commission recommendation (and represents a big hit to super fund revenue), and there are other fee crackdowns as well, such as a stop to docking MySuper accounts and limits to doing so for “choice” accounts.
Overall, super specialist RiceWarner Actuaries called the royal commission “benign” on super, but says implementation of the proposed changes is likely to go through a lengthy consultation process.
For consumers it should, ultimately, mean fewer fees and therefore faster-growing funds.
Your consumer protections
Many separate measures fall under this category. For example, there is the recommendation to subject car dealers who sell add-on insurance to responsible lending laws and impose a cap on commissions (this is another point on which the government is taking a wait-and-see approach).
And those pesky cold calls about insurance, super or investment? Hawking is to be banned.
Speaking of which, funeral expense policies will also fall under the definition of a “financial product” and will be subject to consumer protection provisions of the ASIC Act.
ASIC remains the consumer watchdog, along with the corporate one. The proposed new oversight body is to give only that and the regulator is to have extra powers to protect consumers, with super added to its remit.
Probably the biggest proposal is to establish a “compensation scheme of last resort”, as recommended by the panel appointed by government to review external dispute and complaints arrangements, which included Choice’s Kirkland.
Already, in accordance with the panel’s recommendations, the Australian Financial Complaints Authority (AFCA) has been established to take the place of the Financial Ombudsman Service (FOS), the Credit and Investments Ombudsman and the Superannuation Complaints Tribunal. This began in November last year.
For consumers, the first port of complaints call is a provider itself, then this new complaints authority and, perhaps soon, a “compensation scheme of last resort”. Since this would be paid for by levies imposed on the industry, there is pushback.
The scheme is to be limited to, and carefully targeted at, the areas of the financial sector found to be wanting in recompensing wronged customers.
But this measure was singled out for criticism by the industry body that represents financial services companies, the Financial Services Council (FSC).
“We support stronger professional indemnity and capital requirements for licensees. These should be in place before any further consideration of a scheme of last resort,” the council’s CEO Sally Loane said.
Without this, the FSC posits, it may even encourage inadequate products and services coming into the market – to the detriment of consumers.
As with the rest of Hayne’s proposals, whichever government is in power clearly has a lot of details to hash out.
But, taken as a whole, the royal commission is set to change Australian financial services enormously, something Reserve Bank governor David Lowe said in a speech this week is essential to rebuilding our “all-important trust”.