The “heart and soul” of financial advice

The suitability standard and fiduciary duty are of equal importance in the financial planning process, because you must make sure that your clients’ interests take preference as you work toward meeting their financial objectives. However, achieving both of these objectives is not easy.

In our previous article we discussed how to prevent miss-selling by making sure suitable advice is given at all times (the suitability standard). Today we consider how to prevent miss-selling by adhering to a fiduciary duty.

Fiduciary duty means simply to serve the best interests of your clients, by putting them first. Included in the fiduciary duty are the duties of loyalty, care and the duty to exercise the utmost good faith. In terms of this duty there is an obligation not to subordinate clients’ interests to your own.

You may think that a fiduciary duty is not applicable on local financial services providers as it does not directly figure in the FAIS Act or the General Code of Conduct. Upon closer inspection we find aspects of fiduciary duty in the Code.

The relationship financial advisers have with their clients is that of agent and principal. The agent takes instructions from the principal (client) and carries them out with care, skill and diligence. This context of a professional relationship between client and adviser has been confirmed in a number of court cases which underline the fiduciary nature of the relationship.

To make sure you adhere to the fiduciary duty you need to apply your skill and knowledge honestly and in good faith. If you do this you will discharge the fiduciary obligation and will not be responsible if the transaction proves unfavourable. Bear in mind, though, that the standard of care which applies to an inexperienced investor is considerably higher than the standard with a seasoned investor.

The following five interrelated factors can be considered when determining whether you, as a financial adviser, stand in a fiduciary relationship to your clients:

1. Vulnerability: The degree of vulnerability of the client due to age or level of language skill, investment knowledge, education or experience in the financial market.

2. Trust: The degree of trust and confidence that a client places in the adviser and the extent to which the adviser accepts that trust.

3. Reliance: Whether there is a long history of relying on the adviser’s judgment and advice and whether the adviser professes to have special skills and knowledge upon which the client can rely.

4. Discretion: The extent to which the adviser has power or discretion over the client’s account.

5. Professional Rules or Codes of Conduct: Help to establish the duties of the adviser and the standards to which the adviser will be held. A CFP® professional is expected to measure up to the FPI’s Code of Ethics and Professional Responsibility, for example.

Although we do not have a clear and distinctive statutory fiduciary duty in South Africa, our legislation is written in such a way that a fiduciary relationship exists in most client / financial adviser relationships.

There are a few scenarios where you can be seen as an order taker (Paragraph 8 (4) of the General Code of Conduct) meaning that there may not be a fiduciary duty on you. But be careful: The nature and extent of the fiduciary duty to your client depends on the nature and manner of the advice given.

The suitability standard is a process-driven standard while the fiduciary duty is a "heart and soul” duty of loyalty, care and trust. Provided that you render financial services honestly, fairly, with due skill, care and diligence and in the interests of clients and the integrity of the financial services industry (per Paragraph 2 of the Code) you will always meet your fiduciary duty.