Financial Advisory and Intermediary Services Act : Conflict of interests and financial interests
Overview of the significant aspects of the amendments to the FAIS General Code of Conduct (as contributed to the Contemporary Gazette’s IoD Direct Law newsletter) by Roy Banks of ISS Compliance (http://www.isssa.co.za/ / tel 0861COMPLY). Published with the kind permission of the Contemporary Gazette (http://www.gazette.co.za/).
Overview of the significant aspects of the amendments to the General Code of Conduct contributed to the Contemporary Gazette by Roy Banks of ISS Compliance (http://www.isssa.co.za/ / tel 0861COMPLY), a compliance outsource company that provides, among other, outsourced FAIS and general compliance officer services to financial services providers, underpinned by a web-based interactive compliance monitoring tool.
Background
The Registrar of Financial Services Providers has amended the General Code of Conduct for authorised financial services providers and representatives, to make provision for new requirements relating to:
(i) Conflict of interest; and
(ii) Prohibition on the giving and receiving of certain types of financial interest.
These amendments should come as no surprise to any financial services providers (FSP) as a draft of the proposed amendments was widely circulated by the regulator in December 2009, for industry comment.
The broad view in the financial services industry is that with the introduction of these amendments to the Code, South Africa is following international best practice, seeking also to eliminate certain practices, such as the awarding of undue preference to certain product suppliers or products created by any particular product supplier. FSPs need to know that limitations will be placed in respect of what they will receive from third parties and also in respect of that which they may provide to third parties.
New definitions
The amendments introduce, among others, new definitions of associate, conflict of interest, distribution channel, financial interest, immaterial financial interest, ownership interest, and third party. Each of these definitions bears scrutiny. As the avoidance or mitigation of conflict of interest is the chief objective of the amendments, a closer look at the definition of a conflict of interest is informative.
Conflict of interest is defined as: Any situation in which a provider or representative has an actual or potential interest that may, in rendering financial service to a client:
(a) influence the objective exercise of his, her or its obligations to a client; or
(b) prevent a provider or representative from rendering an unbiased and fair financial service, or from acting in the interests of a client,
including, but not limited to:
(i) a financial interest;
(ii) an ownership interest; or
(iii) any relationship with a third party.
The net has been cast wide, particularly when the definitions of the terms mentioned in (i), (ii) and (iii) are taken into account. Under the definition of a financial interest we find, among others, such terms as advantage, benefit, sponsorship, other incentive and valuable consideration. Providers are urged to frame their policies on the avoidance of conflict of interest on the broadest possible interpretation of such terms to ensure that the Code is not inadvertently infringed.
The definition of third party is also broad and encompasses product suppliers, other providers, associates of a product supplier or a provider, a distribution channel or any person who, in terms of an agreement or arrangement with a person referred to is paragraphs (a) to (d) in the definition, provides a financial interest to a provider or its representatives.
The mere task of establishing who is related to who, or has relationships with a third party to identify potential conflict(s) of interest before entering into any relationship poses a daunting challenge to a FSP.
Avoid or mitigate a conflict of interests
Section 3(1) of the Code is amended with the substitution of paragraphs (b) and (c), which seek to expand the obligation placed on a FSP when confronted with an actual or potential conflict of interest. The FSP must now take steps to avoid or mitigate a conflict of interest and must disclose the full nature of such conflict in writing to the client, together with the measures taken to avoid or mitigate the conflict. The amendments to section 3 take effect 3 months after the date of the Notice, i.e. 19 July 2010. Note that until the newly introduced section 3A(2) takes effect, on 19 April 2011, reference need not be made by the FSP, in its written disclosure of the conflict of interest to the client, of the conflict of interest management policy of the provider.
Financial interest which a FSP may receive from or pay to a third party
A new section is introduced into the Code, section 3A, entitled Financial interest and conflict of interest management policy. Section 3A(1)(a), which takes effect on 19 October 2010, sets out the financial interest which a FSP may receive from or pay to a third party, restricting it principally to commissions and fees authorized under the Long Term Insurance Act, the Short Term Insurance Act and the Medical Schemes Act. Provision is made for fees earned or paid in terms of any other legislation.
No financial interest to a representative for giving preference
Section 3A(1)(b), which takes effect on 19 April 2011, prohibits a FSP from offering a financial interest to a representative for giving preference to the quantity of business secured to the exclusion of quality, or for giving preference to a specific product supplier, where the client has a choice of more than one product provider, or for giving preference to a specific product of a supplier, where more than one product from the same provider is available to the client. Section 3A(1)(c), which takes effect on 19 October 2010, applies to entities which are both product providers and financial services providers.
Conflict of interest management policy
Section 3A(2), which takes effect on 19 April 2011, requires all FSP’s to adopt, maintain and implement a conflict of interest management policy that complies with the provisions of the Act. Section 3A(2)(b) details the contents of such a policy, whilst section 3A(2)(c) to (f) provide for measures of adoption, employee and representative education on the policy, monitoring procedures and the appropriate publishing of such a policy. The stated aim is to have it accessible for public inspection at all reasonable times.
Anti-avoidance
Section 3A(3), which takes effect on 19 October 2010, prohibits any FSP or representative from attempting to collude with any associate in an attempt to avoid, limit or circumvent compliance with Section 3 of the Code.
Reporting duty
Section 3A(4), which takes effect on 19 July 2010, requires the compliance officer of a FSP (or the FSP, if a compliance officer is not required by law) to report on the provider’s conflict of interest management policy, to the Registrar. The aspects which should be reported on include implementation, monitoring, compliance with and accessibility of the conflict of interest management policy.
The changing landscape for incentives
It can be anticipated that many of the incentives provided by suppliers to FSPs will fall away as a result of the implementation of the amendments to the Code and that relationships between product suppliers and providers and their intermediaries will change. The question is whether those changes will be for the better and whether clients of FSPs stand to benefit from the changes.
The debate is likely to continue for some time. In the interim, each financial services provider needs to begin work on its financial interest and conflict of interest management policy.
