After the financial crisis in 2009, a number of global economies started to look at organisations in an effort to assess their fragility. The point of this was to implement key pieces of legislation which would improve these economies’ internal processes so that they would be able to survive another crisis.
One of the very critical pieces of legislation is the much talked about Retail Distribution Review (RDR). The Financial Services Board (FSB) is in the process of refining South Africa’s version of the RDR framework, but what will its impact on the industry be?
FAnews caught up with key people in the industry to get more clarity around the finer detail surrounding RDR, and the effects it will have on the various industries.
Riding the short-term wave of change
It appears that one of the main aims the Regulator has with RDR is to ensure that clients receive the required service support they should be getting after policies are issued. A recent article published in the Moonstone newsletter discussed the impact of RDR on the short-term industry.
According to Paul Kruger, Editor of the Moonstone Monitor, it is proposed that the as-and-when model for short-term insurance, which provides for commission for the selling of policy and service fees for ongoing servicing and maintenance of the policy, be retained. Additional requirements and conduct standards, which will be expanded on in more detail later, will support this model.
The level of commission and service fee payments by short-term insurers will continue to be subjected to regulated caps and other regulatory requirements. Technical work and consultations will also be undertaken to determine what the new maximum commission and service fee levels should be.
Short-term brokers will be able to earn advice fees from customers, separately from commissions, subject to the requirements applicable to such fees.
The service fee component of the broker’s remuneration will be subject to some conditions:
• Further work will need to be undertaken to determine the range of services that fall within the category of ongoing product maintenance and servicing, to distinguish these from other “outsourced services” rendered solely on behalf of the insurer. In those cases where an intermediary is permitted to collect premiums (subject to specific qualifying criteria), premium collections will be included in this range of services and an appropriate service fee determined.
• Insurers must include the cost of these fees in the premiums or other product charges they charge for the policies, subject to explicit disclosures to the customers regarding the quantum and purpose of the fees.
• Servicing fees will be regulated and capped (similarly to commission) to avoid provider bias, including a requirement that similar fees be paid for similar services, regardless of which type of intermediary renders the services concerned.
Keeping binder regulations in check
Danny Joffe, Legal and Compliance Hollard Broker Markets and Central legal, says that the RDR paper makes it clear that the FSB believes fee caps should be introduced for the remuneration paid by insurers to non-mandated intermediaries.
This, in their minds, will mitigate the conflict of interests and they have proposed a fee cap of 7% across all binders where binder-holders are performing all five binder functions and will get rid of the current fee negotiations going on between brokers and insurers. Unfortunately, not all binders incur the same cost to run across all five binder functions.
“A clear example would be a commercial binder holder situated in Johannesburg incurs significantly more cost than a small personal lines binder holder situated in a more rural area. If one ushers in a cap, both binder holders will naturally default to the maximum cap forcing the more expensive binder to trim down their costs at the expense of the client and allow the smaller binder holder a fee they don’t necessarily deserve,” says Joffe.
Retirement and investments
David Kop, CERTIFIED FINANCIAL PLANNER® professional / CFP® professional and Head of Advocacy and Consumer Affairs at the Financial Planning Institute (FPI) asks whether RDR is a threat or an opportunity for the industry? “The answer is both. I think that the threat of RDR has been spoken about where there is significant uncertainty regarding remuneration and how an adviser will be able to earn a living. But for this article, I would like to focus on the potential opportunities,” says Kop.
CFP® professionals, for the most part, are willing to give their intellectual property away for free by, for example, designing a financial plan or even completing a Financial Needs Analysis (FNA) which can take between two and fifteen hours. The client is not charged for this in the hope that a product is implemented. This creates the impression that financial planning is a free service.
One of the opportunities presented in RDR is that financial planning is now being recognised as a valuable service to consumers and that this service should be charged for. So how do CFP® professionals take advantage of this opportunity? The answer lies in the value proposition. Seemingly simple, but how do CFP® professionals define their value propositions?
“McDonald’s is a perfect example; it earns revenue as a property investor in restaurants and franchise agreements. The franchise model is different as in many cases McDonald’s collects rent from the other franchisees. In most, if not all cases, the franchisee does not own the location of its restaurants. So what is the business of McDonald’s, restaurants or property ownership?” asks Kop.
In order to deliver value to clients, financial planners will need to ask themselves: what is the business of my business? They then need to capture that in value propositions. One thing that is certain is the future business of financial planning will not just be about distributing products, it will be so much more.
Long-term changes ahead
While there are a lot of clauses in the RDR proposals which are industry specific, there is one issue that the FSB has made clear. Clients need to have clarity on the specific industry that they are interacting with and the products which come from those industries.
Ian Middelton, Managing Director of Masthead, points out that the RDR proposals seek to give retail customers confidence in the retail financial services market.
“The key structural changes are to make sure that customers receive fair treatment by placing greater responsibility on product suppliers, to address a variety of conflicts of interest by defining the type of remuneration which can be earned and from whom and to ensure greater understanding by clear, transparent and fair disclosure” says Middleton.
For this reason, the activities which make up a financial service to a customer need to be clearly defined so that the remuneration for an activity can be paid for by the person who is benefiting from that activity.
“There are many activities which an adviser performs, some of which are prescribed by legislation. In the current structure, remuneration for the different types of activities is often combined and it is not always clear who is paying for what. Advisers will need to be able to classify the different types of services they give to their customers so that their value provided at each point in the process of rendering a financial service to a customer is clear and defined,” says Middleton.
He adds that long-term insurers will be able to remunerate advisers directly for selling life risk policies as well as for certain types of ongoing servicing or maintenance of such policies. However, because commission payable under current regulation presupposes that this will cover both the cost of advice and other intermediary services, by separating these services, advice to be paid for by the customer and intermediary services to be paid for by the product supplier, the amount of commission payable should be reduced as this will now only remunerate intermediary services and not fees for advice. One of the principles discussed is that an adviser should not be paid twice for the same service.
“As a result, there will be changes to the maximum commission levels allowed but these have not been defined as further work is required before these can be determined. It is important that maximum levels support the objective of sustainability. This does not mean that an adviser will have to earn less. It means that the way in which the adviser will be remunerated will change,” says Middleton.
IFA confusion
Many industry professionals who look at the RDR proposals say that they are significantly weighted in favour of tied agents. What will the current proposals mean for Independent Financial Advisers (IFAs) who do not have the luxury of being backed by corporate entities?
RDR will bring change over the independence of financial advisers. Derek Smorenburg, Chairman of the Independent Financial Advisors Association (IFA), points out that the term IFA has been used in the industry to define an adviser who is not a tied agent. Currently the majority of IFAs, in general, still only offer multiple products from a limited range of insurers and service providers.
“One of the questions the FSB wants to get clarity on is the criteria to describe what tied agents constitute as IFAs. This includes the number of product types and products suppliers in which advisers are able to provide advice in order to be described as independent,” says Smorenburg.
IFAs will feel as if they are in the cast of Shakespeare’s Hamlet asking the famous question: to be or not to be? In an effort to gain clarity on the independence issue, the FSB has introduced a number of different categories of advisers into the industry:
• IFAs will offer advice on multiple products and must demonstrate that they provide advice across an appropriate range of products and product suppliers.
• Multi-tied Financial Advisers will be required to be “licenced in their own right” to provide multi-tied advice, or as “representatives of juristic entities” holding authorisation as multi-tied advice firms.
• A Tied Adviser will be an adviser where the “contractual, ownership or other relationship” with a product supplier restricts the adviser to providing advice on the products of that product supplier only.
According to Smorenburg “Ultimately, every Advisor in South Africa, whether currently a “so called” independent or not will need to make the call on what role they wish to play in the Post-RDR
world and start positioning their businesses for the threats and opportunities that will no doubt flow
from the changing regulatory landscape.”
The end of an industry scourge
The FSB went on a mission last year to ban sign on bonuses. Although this was dealt with separately, the issue of sign-on bonuses was addressed in the RDR discussion paper, and supports the objective of addressing conflicts of interest and promoting fair competition.
The amendment provides that:
• A Category I provider that is authorised or appointed to give advice may not receive a sign-on bonus from any person.
• No person may offer or provide a sign-on bonus to any person, other than a new entrant, as an incentive to become a Category I provider that is authorised or appointed to give advice.
The FSB addressed several concerns raised by the industry regarding the draft amendment released earlier this year.
The amendment defines:
• sign-on bonus as any financial interest offered or received directly or indirectly, upfront or deferred, and with or without conditions, as an incentive to become a provider; and includes, but is not limited to, compensation for potential or actual loss of any benefit including any form of income, or part thereof; or cost associated with the establishment of a provider's business or operations, including the sourcing of business, relating to the rendering of financial services; or a loan, advance, credit facility or any other similar arrangement.
• new entrant as a person who has never been authorised as a financial services provider or appointed as a representative by any financial services provider.
The Registrar recognises that the industry may have to restructure remuneration arrangements to provide for basic salaries. Therefore, the prohibition does not restrict providers from structuring their remuneration arrangements in such a manner that they provide for basic salaries. However, such remuneration arrangements must be equally available to all employees and not only a select few.
“Whether or not a remuneration arrangement amounts to a sign-on bonus is a factual question that will be considered against the provider’s normal remuneration arrangements, the extent and equivalence of participation by all employees and whether the arrangement is commensurate to the services being provided,” says Middleton.
Take part in the process
Christine Rodrigues, Director Banking and Finance Norton Rose Fulbright, points out that the industry
is overwhelmed with the lengthy document that was released late 2014 for comment. However daunting,
product suppliers and intermediaries are to consider the proposals carefully.
Many of the proposals made by the FSB are subject to consultation or standards that will need to formulated. Until those standards have been formulated, it is not possible to determine the reasonability of the proposal. The FSB will have to call for further comment where standards are proposed.
She adds that despite the fact that the RDR document in its current form is esoteric, insurance players need to consider the impact of the proposals on their businesses. They need to ensure that the proposals made are not going to impact their business in a costly way. That does not help the policyholder.
“Given the importance of the RDR, submissions must be made to the FSB as far as possible in the general principles. It is not adequate to take a back seat view and say the RDR is going to happen whether or not comments are made. Yes, RDR will be implemented, but the form that it takes can be influenced by the comments and issues highlighted to the FSB by the industry. This is the purpose of the consultation process,” says Rodrigues.
Comments can be made on an individual basis and though insurance associations. When making submissions
be brief and factual, the FSB no doubt will have many comments to consider and the clearer and more
accessible the submissions made, the quicker they will be considered.
Join insurance industry discussions. You will be surprised by how many people and businesses have the same issues or comments to be made on the proposals. Industry bodies such as the SAIA and FIA welcome input from their members.
If you are feeling overwhelmed, consult with external counsel to assist you with interpreting how the proposals will affect your business and to assist with formulating your responses to the FSB.
To get the RDR implemented in the market with the least amount of pain as possible requires collaboration from the industry. If you have not yet considered the RDR and the proposals do so quickly, because comments need to be submitted by 2 March.