By Michael Perkins

Michael Perkins is a Principal of both Estplan and Andreyev Doman Lawyers. He is a lecturer at the Faculty of Law, University of Technology Sydney and an author with Robert Monahan of the text “Estate Planning: a practical guide for estate and financial service professionals (LexisNexis 2005, 2008 and 2011). Michael has over 25 year experience in trusts, estates and private client practice. He holds the TEP designation from the Society of Trust and Estate Practitioners and is a recognized expert in Estate Planning in Australia.

The Exposure Draft – Corporations Amendment (Future of Financial Advice) Bill 2011 (the FOFA Bill) which has been recently released for comment, stipulates in the proposed s.961C (1) that advisers of retail clients must act in the best interests of the client when giving advice.

This has a significant impact on each new client engagement from 1 July 2012 and poses an obligation for you, the adviser to evidence your compliance with this best interest. I have outlined my initial views about the draft law. Once the final legislation is available more detailed discussion about compliance with the law will be available.

In my opinion, this law attempts to formalise the obligations an adviser has - to perform appropriate client impact analysis when developing and delivering their advice- that were highlighted in the AMP enforceable undertaking it provided to ASIC in 2006.

Simply put, FOFA repositions the financial adviser as a purchaser’s agent or adviser in relation to the acquisition of financial products or services. This is not necessarily a “holistic” relationship because the interests of the client with which the adviser can engage can be defined and limited by the client under the limited or scaled advice rules that are proposed in CP164.

In essence, as a lead adviser, you may have advisory oversight of the whole of the client’s investment capital, but whether that is so is determined by the client at the point of engagement. Whilst direct asset investment choices may not be a financial product or service choice, it is still an option that will need evaluation as part of the client advisory process (more on that later).

To recap, it is proposed that:

• The provider must act in the best interests of the client when giving advice.
• The adviser must base all judgments in advising the client on the objectives, financial situation and needs of the client - s.961C (2) (i)

As an adviser you then have the following obligations

The nature of these four duties are:

Duty to enquire

• Identifying the objectives, financial situation and needs of the client that are disclosed to the provider by the client through instructions; and
• Identifying the subject matter of the advice that has been requested by the client.

Duty to analyse

• Assessing whether the provider has the expertise required to give the client advice on the subject matter requested and, if not, declining to give advice; and
• Assessing whether the client’s objectives could be achieved, and needs met, through means other than the acquisition of financial products; and

Duty of further investigation

• Conducting a reasonable investigation into the financial products that might achieve the objectives and meet the needs of the client of which the provider is aware and assessing the information gathered in the investigation; or if another individual has made such an investigation and the provider has access to the results of the investigation — assessing the information gathered in the investigation; and assessing the disadvantages (including risk and increased complexity) in acquiring the product; and weighing them against the advantages of not acquiring the product;

Duty to advise

• Advising the client to acquire the product only if, having weighed those disadvantages against the advantages, it is reasonable to conclude that the client’s objectives could be better achieved, and the client’s needs better met, if the client acquired the product.

So how does this impact your client engagement? Assuming this draft legislation is passed in its current form, you will need to understand the kind of client that you are dealing with. Is your client:

• Entirely or partly self-directed?
• A “property person”
• A “listed equity” person?
• A “disinterested” investor?

Each type of client will require a tailored approach to suit their style and this style provides an inherent limitation on the engagement. You will need to ask yourself:

1. What scope or scale of advice is appropriate for this client?
2. Is there an identifiable next best alternative to the client’s preferred course of action or objective that should be agreed to be evaluated as the advisory benchmark in this case?
3. What is the client asking us NOT to do? What am I being told to ignore; is it reasonable that I do so?
4. Is the limitation being imposed on the engagement reasonable having regard to your professional duty of care?
5. Should your professional society rules provide a higher standard of care and conduct that the strict letter of the law? How should this higher standard be explained to the client?
6. Might the limitation being imposed by the client affect the normal professional analysis process I undertake, for example asset allocation or investment risk analysis? How might this limit or compromise my ability to advise the client?
7. Might I have to warn the client that my advice may run counter to their expectations if I determine the proposed course of action or objective set by their client is actually against what I consider to be their best interests?
8. Can I no longer consider that the client is always right in what they ask or expect of me?

For most of you this is something you already deal with – as advisers we definitely aim to act in the best interest of our client, now we need to be able to prove that we have so acted in accordance with the criteria set out in the act.

I mentioned direct assets before because direct asset acquisition also belongs to the frame for financial advice where it represents a reasonable option for the deployment of a client’s investment capital and can include:

• Real Estate

• Listed equities
• Any other form of property with an investment outcome.

In this instance you are dealing with switching risk from the client’s currently invested position. It is worthwhile reviewing the AMP enforceable undertaking in relation to this matter when developing your ideas about how direct property  ownership is a relevant choice to the pursuit of a client’s financial and investment strategies and the pursuit of their wealth preservation and transfer objectives.

In dealing with geared property investment strategies through self managed superannuation funds, financial advisers are already involved in direct property investment in the affairs of their clients. The draft ATO tax ruling SMSFR 2011 / D1 states at paragraph 30:

“Money other than borrowings used to improve an asset

30. Although borrowings under an LRBA cannot be used to improve a single acquirable asset that is the subject of the LRBA, money from other sources19 could be used to improve (or repair or maintain) that asset. However, any improvements must not result in the acquirable asset becoming a different asset.20”

This provides a choice for the Trustee of the Fund about how this option compares to any other financial strategy that it is currently operating. Not only will the best interests test have an impact on that analysis but also the Trust Deed of the fund and possibly the Trustee Act of the State in which the fund was formed. Just because real estate is not on the advisers approved product list does not mean that the consequences of its acquisition and use can be excluded from the advisers analysis of the client’s position unless such exclusion is effected under the scaled advice provisions of the law when the engagement was initiated.

I see FOFA as a positive change, one that provides further impetus for you to deepen you client relationships, making it easier for you to move from lead to trusted to top of mind adviser. The relational focus of successful lead advisers will provide a ready framework that will allow them to adapt easily to compliance with this new law.

The comments outlines above are the personal opinions of the author. They are general comments only based on information released to the public and available on 18 September 2011. These comments are not to be taken as professional advice.

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For more information about these reforms please see the information at  http://futureofadvice.treasury.gov.au/content/Content.aspx?doc=consultation/corporations_amend/default.htm.