1.5 The FoFA reforms

As noted above, several financial product and financial services providers had collapsed during or after the GFC. The losses had been large and many consumers had been affected. Reforms, known as the Future of Financial Advice (FoFA) reforms, were proposed. The reforms were properly seen as radical alterations to the regulation of the financial advice industry that had emerged and developed in the decade or so that preceded their enactment.

The 2012 FoFA reforms[1] had three principal elements:

  • the imposition of a best interests obligation on financial advisers giving personal advice to retail clients;
  • a ban on conflicted remuneration; and
  • measures intended to promote greater transparency in the charging of fees for advice by requiring consumer agreement to ongoing fees, and enhanced disclosure of fees and the services associated with ongoing fees.

Further changes were made in 2014 and 2015.[2]

The content and extent of changes to be made in 2012, and later in 2014 and 2015, were contested. Before the introduction of the legislation that was enacted in 2012, the Government established a ‘Peak Consultation Group’ drawn from bodies as diverse as the Association of Financial Advisers (AFA), the Australian Bankers’ Association (ABA), CHOICE, Industry Super Australia and the Property Council of Australia. For about 12 months before the legislation was enacted, this group met each month to discuss the proposals. It is, therefore, not surprising that the resulting provisions show signs of compromise and accommodation of widely divergent interests.

In the Interim Report, I focused on two of those compromises. The first was that conflicts of interest between adviser and client should be permitted to remain but be ‘managed’. The second was that some forms of conflicted remuneration were, and still are, allowed to continue. Both of those compromises lie at the heart of the issue that I will deal with in the third section of this chapter – the provision of poor advice – and I will return to them there.

It is convenient, however, to say something about another consequence of the FoFA reforms.

In many ways, the FoFA reforms represented an important step towards making financial advice a profession. Putting to one side the ‘safe harbour’ provision in section 961B(2), to which I will return later in this chapter, the FoFA reform introduced statutory requirements for financial advisers to act in the best interests of their clients,[3] and to prioritise the interests of their clients over the interests of product issuers and Australian financial services licence (AFSL) holders.[4]

Perhaps more significantly, the FoFA reforms required the financial advice industry to make a fundamental change to the way advisers were remunerated. Before the introduction of those reforms, a significant source of revenue for financial advisers was commissions on the products they recommended. As in the case of mortgage brokers, financial advisers commonly received a combination of upfront and trail commissions: upfront commissions when the product was sold, and trail commissions in subsequent years.

While the compromises made in the FoFA reforms allowed advisers to continue to receive many of those commissions – most notably, trail commissions on products purchased before 1 July 2013, and upfront and trail commissions on many life insurance products – the ban on conflicted remuneration played an important role in shifting the financial advice industry from a commission-based model to a fee-for-service model.

Unlike many other service industries that operate on a fee-for-service model, much of the financial advice industry did not choose to structure its fee arrangements on the basis that a client would pay a fixed fee or an hourly fee for the time spent by an adviser in preparing advice for the client. Rather, 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.

Of course, unlike a trail commission, which is paid by the product issuer in recognition of the initial sale of the financial product, an ongoing fee is paid by the client, and is paid in exchange for the provision of a service. This shift – from a model that imposed no ongoing obligations on a financial adviser to a model that did impose such obligations – lies at the heart of the ‘fees for no service’ matter, which I will take up in the next section of this chapter.

[1] Effected by the Corporations Amendment (Future of Financial Advice) Act 2012 (Cth); Corporations Amendment (Further Future of Financial Advice Measures) Act 2012 (Cth).

[2] Corporations Amendment (Revising Future of Financial Advice) Regulation 2014 (Cth); Corporations Amendment (Financial Advice) Regulation 2015 (Cth); Corporations Amendment (Financial Advice Measures) Act 2016 (Cth).

[3] Corporations Act s 961B(1).

[4] Corporations Act s 961J(1).