Are you guilty of conflict of interest?

One of the main reasons why the Financial Services Board (FSB) wants to implement the Retail Distribution Review (RDR) is that it seeks to eliminate potential areas of conflict of interest which are present in the industry. This would improve the industry form a consumer perspective and would improve trust in the industry.

The problem is that brokers and advisers are asking where all of these potential conflicts of interest are. What form do they take? In an effort to clarify this, and other issues surrounding RDR, Moonstone recently held a few RDR workshops for brokers and advisers to discuss this.

Some current risks

There are a number of risks the FSB wants to eliminate in the market. However, for the purposes of this newsletter, the focus will be on the potential conflicts of interest.

Billy Seyffert, Head of Compliance and Legal Services at Moonstone, pointed out that one of the biggest conflicts of interest in the current model is the fact that commission leads to bias. If a broker or adviser sells a number of products, the current perception (whether right or wrong) is that the he or she will sell a specific product because of the commission inherently linked to the product.

Another potential stumbling block is that commission, which is paid as a percentage of premiums, creates inherent conflicts of interest. “Brokers and advisers have a number of clients on their books. Ideally, the situation should be that you as a broker or adviser should be paid for the policy that you do the work for. If a broker or adviser has a client, let’s call her Aunty Betty, at the old age home who phones the office every day with a query on her policy, the broker or adviser should be paid more by Aunty Betty than he or she does by a corporate client seen only once or twice a year,” said Seyffert.

This is a good thought in principle. But in practice, it creates another stumbling block. If a client has to pay for ongoing advice out of his or her own pocket, there is no way the Aunty Betty’s of the world will have the same financial backing as that of a corporate client. Brokers and advisers also need to make money, therefore is it not logical to follow the money? That may mean the Aunty Betty’s of the world may be deserted by their brokers or advisers. This goes against the objective of RDR which is to provide financial services products to every member of the public.

Various members of the FSB have said that brokers or advisers need to be remunerated appropriately for the services they provide, and rightly so. However, in their efforts to establish this, the FSB must not push the industry into a corner by creating an uncontrollable beast.

The role of product suppliers

Another issue the FSB wants to resolve is the binder fees. Currently, a broker can bring business into a company and be a service provider to the company if they perform certain outsourced functions.

According to Seyffert, this is a problem to the FSB because it gives the illusion of double remuneration. It could also potentially lead to supplier bias as a broker or adviser could potentially aggressively market the products from a product supplier that he or she knows will perform outsourced functions for.

Relationships with providers

There is a perception by the public that product advice begins and ends with the sale of products, and this is what they are paying for. The reality is that they are paying for many more functions above and beyond the sale of products. But they are not aware of the existence of these functions.

Clarity seems to be the main departure point of the RDR. The FSB wants to create a transparent industry which is easily accessible by the public. It must also be easily understood by the public. This means that the relationships that brokers and advisers have with product suppliers need to be explicitly explained to the public.

This is in essence, another area where there is conflict of interest. Are independent brokers or advisers currently truly independent?

It is known that the FSB wants to create three separate types of brokers or advisers in the industry. The question of whether brokers or advisers will be tied, multi-tied or independent can become confusing, and many are asking where the line will be drawn in the differentiation of these individuals.

Blurred lines

It comes down to the employment relationship with a broker or adviser. If an employment relationship exists in any way, shape or form, the broker or adviser is tied. If there is no relationship, the broker or adviser is independent.

In the past, this was defined by the number of products supplied. If a broker or adviser supplied a number of products from different suppliers, he or she was independent but the industry is fast becoming an influence game rather than a numbers game. If a broker or adviser is influenced by a supplier through a contract, he or she is tied. If a broker or adviser is influenced by a number of suppliers through contracts, he or she is multi-tied. This will probably extend into outsourced functions as well because technically a contract exists between the supplier and the broker or adviser to perform that function.

But is this contract a relevant argument of influence if the outsourced function has nothing to do with the function of selling a product? Surely it should not and it would be interesting to see what the legal standpoint on this would be. Why is it important to note this? It is important because brokers and advisers need to choose the hats they wear very carefully, because these are the hats that they will wear in the industry until such time as another change is deemed necessary.

Editor’s Thoughts:
There are many areas of potential conflicts of interest the FSB hope to eliminate. I have merely touched on some of the important issues. The RDR White Paper is a working document and the proposals therein cannot be implemented in the industry without proper public engagement. Brokers and advisers need to make their voices heard, especially in areas where the RDR proposals will cause areas of greater complications. Please comment below, interact with us on Twitter at @fanews_online or email me your thoughts jonathan@fanews.co.za.