Focus of recommended amendments

We recommend significant amendments to the bill, which would result in the deletion of parts 1 to 5 of the bill as introduced, and their replacement with new parts 1 to 5.

The key amendments we recommend are intended to clarify the application of the bill, and to target the regime so that it would be applied to advisers in a practical and effective way. We also recommend amendments to provisions for the institutional arrangements for supervising the financial advisory sector.

Application of the regime—two-tiered approach

We recommend amendments to introduce a two-tiered approach to the application of the regulatory regime, drawing a distinction between different types of financial advice. We also recommend amendments to clarify the definitions of financial advice and financial adviser, to provide more certainty about the application of the bill.

The bill as introduced proposes treating all financial advisers equally. It therefore includes detailed definitions of “financial advice” and “financial adviser” in an effort to limit the range of people who might be captured by the legislation. We consider this detailed approach confusing and uncertain for consumers and those who would be subject to the regime. We are also concerned that this approach runs the risk of omitting or capturing certain groups unintentionally, and does not acknowledge differences in types of financial advice that are offered, or the different degrees of risk they represent for consumers.

We considered at length how to address these issues, examining the kinds of activities and occupations the bill would or should impose obligations on, and whether or not the regime would be appropriately targeted. We considered, but rejected, a proposal for an occupational basis for defining the application of the regime.

The amendments we recommend would simplify the definition of financial advice to make it clear who would be subject to the regime. They would also target the application of the regime according to the type of financial advice provided, by imposing different obligations on financial advisers depending on the complexity and degree of risk of the financial products on which they advise.

These proposed amendments acknowledge that not all advice exposes consumers to the same level of risk, and would ensure that the requirements of the regulatory regime were commensurate with the risk attaching to particular advice.

Two categories of financial advice would be provided for in the bill: category 1 products (complex products such as a security other than a call debt security or a bank term deposit, a property or a futures contract) could be delivered only by financial advisers who were specially authorised under the bill. Financial advisers dealing with category 2 products (simple products such as a call debt security, a bank term deposit, an insurance product that is not a security, and a consumer credit contract), which expose consumers to less risk, would not require specific authorisation, but would be subject to generic conduct and disclosure obligations.

All individual financial advisers would be required to register as financial service providers under the FSPB, and would be subject to its registration and dispute resolution provisions.

Qualifying financial entity status

We recommend amendments to include institutional accreditation in the regime. We are concerned that otherwise the new regime might impose excessive compliance requirements and costs on firms with large numbers of employees who give financial advice. The amendments we recommend would allow the Securities Commission to grant “qualifying financial entity” (QFE) status to organisations that meet the eligibility criteria set out in the bill. Such organisations would be held accountable under the bill for the conduct and disclosure obligations of employees offering financial advice on category 2 products. Any employee or agent who offered advice on category 1 products would still need individual authorisation, but the QFE would be responsible for ensuring that such employees were authorised.

Regulatory model

We recommend amendments to replace the proposed co-regulatory model (where approved professional bodies would set and monitor standards, with high-level supervision from the Securities Commission) with a sole regulatory model (with the Securities Commission as the sole regulator).

In the bill as introduced, the primary responsibility for supervision of financial advisers would lie with industry-led professional bodies approved by the Securities Commission. No restraint is placed on the number of approved professional bodies that could exist, and we are concerned that individual financial advisers might be able to avoid being held accountable by moving from one such body to another.

In addition, whilst we acknowledge that the industry must play a key role in the regulatory regime, we do not consider that all regulatory matters need be industry-led. We note that the FSPB proposes that the dispute resolution regime consist primarily of approved industry-led regimes. We are concerned about approved professional bodies being responsible for disciplinary action also.

We recommend placing the responsibility for monitoring industry standards, and for determining breaches and enforcing penalties, with the Securities Commission. The Securities Commission would also be responsible for authorising financial advisers, granting QFE status, and (through the Commissioner) recommending the approval of a code of conduct developed by a code committee of industry representatives.

Application of the bill (sub part 1)

Sub part 1, comprising new clauses 8 to 19, would define the key terms in the application of the legislation—“financial adviser”, “financial adviser service” and “financial advice”—and specify the kinds of activities financial advisers could undertake.

We recommend that a financial adviser be defined simply as a person who performs a financial adviser service (new clause 8). Such services would include giving financial advice, making an investment transaction, and providing a financial planning service (new clause 10).

The amended bill would provide for three types of financial adviser, with corresponding restrictions on their activities:

• a financial adviser both registered under the FSP legislation and authorised by the Securities Commission under this bill, who would be allowed to provide financial advice on either a category 1 or category 2 product (new clauses 9, 10, and 15)

• a registered financial adviser who was not authorised by the Securities Commission, who would be allowed to provide financial advice on a category 2 product only (new clauses 9, 10, and 16)

• a financial adviser who was neither registered nor authorised, but worked for a qualifying financial entity, who would be allowed to provide financial advice on a category 2 product (new clauses 9, 10, and 17).

New clause 5 sets out the two categories of financial products. Category 1 would include a security other than a call debt security or a bank term deposit; any estate or interest in land that is contained in a certificate of title or eligible for issue of title; a futures contract; or any other product specified by regulation. Category 2 products would include a call debt security, a bank term deposit, an insurance product that is not a security, and a consumer credit contract. We also recommend that both categories be permitted to include other products as defined by regulation. In recommending that both categories include new products, we are mindful that new products are developed from time to time, and this provision is intended to allow flexibility to accommodate them.

New clause 12 would specify exclusions from the regime. This clause reinstates some provisions contained in clauses 7(c), 7(d) and 8 in the bill as introduced, and sets out additional exclusions. These exclusions would take account of the new definition of a financial adviser service (which includes investment transactions and financial planning services as well as financial advice), and exclude from the regime tax agents, budget advisors providing free budgetary advice for a not-for-profit budget service, real estate agents who would be subject to the provisions of the Real Estate Agents Act (when passed), Crown entities and organisations, the Reserve Bank, employers who pass on information about KiwiSaver, and any other person listed in regulations. These additional exemptions are intended to avoid subjecting occupational groups such as real estate agents to two separate conduct regimes, and to provide more clarity and certainty in the application of the regime.

New clause 13 clarifies the meaning of financial advice, and replicates provisions in clause 6(3) of the bill as introduced. Financial advice would not include, for example, information in a prospectus, investment statement, advertisement, or disclosure statement, or the simple provision of information (provided without opinion, recommendation, or guidance). The bill as introduced gave more detail on what might constitute financial advice, but we consider that the degree of detail involved in this approach could be unhelpful and confusing.

We consider that the tiered approach we propose, together with the institutional accreditation feature, and a clear list of exemptions, would ensure that the regime was appropriately applied, and enable providers of financial adviser services and consumers to understand more readily where obligations would arise and how obligations would affect them.

As an example, a chain store employee who offered advice to a customer on a hire purchase agreement would come within the application of this bill, as hire purchase is a credit contract and accordingly a category 2 financial product. The employee would need to be registered under the FSP legislation, since any financial advice constitutes a financial service. If the chain store had been granted QFE status (and was therefore registered under the FSP legislation) the individual employee who provided the advice would not need to be registered.

In the event of a complaint, a customer would have redress through the dispute resolution scheme under the FSP legislation. If the chain store were registered (as a QFE), the chain store and not the employee would incur the obligations and liabilities under the Financial Advisers legislation and the FSP legislation.

If the chain store was not a QFE, both the employer or principal and the employee would need to be registered. This means that consumers would have a right of redress against the employer where they contributed to the wrong-doing of the employee (new clause 18).

Disclosure obligations

New clauses 20 to 30 (sub part 2) set out the disclosure obligations with which financial advisers would be required to comply. These clauses would reinstate clauses 12 to 24 of the bill as introduced, leaving most of the disclosure obligations largely unchanged. However, the application of particular disclosure obligations would differ in accordance with the tiered approach we recommend.

New clause 22 would reinstate the obligations set out in clauses 13 to 19 as introduced, but would apply only to authorised financial advisers. In addition, authorised financial advisers would be required under this clause to disclose any matters that might be required as a condition of authorisation.

New clause 24 sets out disclosure obligations for financial advisers in relation to category 2 products. These disclosure requirements would be less onerous, and would require disclosure only of the status of the financial adviser (whether authorised or not), dispute resolution arrangements, and contact details. These obligations in our view are commensurate with the lower risk associated with category 2 products.

New clause 25 sets out disclosure requirements for QFEs. This provision would require the disclosure of dispute resolution arrangements, along with any matters required to be disclosed as a condition of the granting of QFE status.

We recommend these amendments to ensure that all matters which might be required to be disclosed would be set out explicitly in the bill (new clauses 20 to 30), rather than left to be set by regulation. The specific requirements for disclosure would subsequently be able to be prescribed by regulation, but these could only include matters that are listed in new clauses 22(2), 24 and 25, to suit the three types of advisers.

Under new clause 141, the Commission would be able to grant exemptions from disclosure obligations. The Commission would be required to notify such exemptions (clause 142), and might revoke or vary such exemptions (clause 143).

We recommend the addition of new clause 30, which would allow groups of two or more financial advisers to make joint disclosure statements. This amendment would allow for the diversity of working arrangements in the financial advisory sector.

Conduct obligations

New clauses 31 to 46 (sub part 2) would reinstate clauses 26 to 30 and 32 to 35 of the bill as introduced, and set out the conduct obligations on financial advisers.

Again, we recommend that the application of the conduct obligations reflect the three types of financial advisers under the proposed tiered system. We recommend retaining clauses 26 to 28 (new clauses 32 to 34) as common conduct obligations, which would fall on all three types of financial adviser. These obligations would include the duty to exercise care, diligence and skill, and the duty not to engage in misleading or deceptive conduct or to advertise in a misleading, deceptive, or confusing way. The duty to exercise due skill and care could be enforced by private action for breach of statutory duty. Engaging in deliberately misleading or deceptive conduct or advertising would be an offence under the bill.

New clause 35 obliges authorised financial advisers to comply with the code of conduct which would be provided for under the legislation (new clause 35). New clauses 36 to 43 reinstate the obligations under clauses 29, 30, and 32 of the bill as introduced, but would apply to authorised financial advisers only. These include obligations for receiving or holding clients’ money on trust and accounting for clients’ property (incurred regarding category 1 products), and compliance with the terms and conditions of their authorisation (new clause 43). Failure to comply with these terms and conditions would constitute an offence.

New clauses 44 to 46 set out conduct obligations which would apply to QFEs (which were not provided for under the bill as introduced). QFEs would be required to comply with the terms and conditions of their QFE status, and could not mislead or deceive regarding the service provided by their employees or agents (including advertising). A breach of these obligations would also constitute an offence under the legislation.

The conduct obligations can be explained in terms of how they would apply to the chain store employee who offers advice to a customer on a hire purchase contract. The employee would not need to be authorised, as hire purchase is a category 2 product. Because the employee was not authorised, the common conduct obligations only would apply. Penalties could be applied to a breach of these obligations. If the chain store were a QFE, the employee would not be liable for any breach of conduct obligations. The QFE would be held liable under provisions which are discussed in detail in our discussion of part 3.

Structure

We recommend deleting part 3 of the bill and inserting a new part 3 setting out the process for authorising financial advisers and granting QFE status, the powers of the Securities Commission in relation to authorised financial advisers and QFEs, and the compliance and reporting obligations of QFEs.

Authorisation of financial advisers (sub part 1)

We recommend amendments (new clause 52) that would require the Securities Commission to authorise financial advisers if they met the criteria set out in new clauses 50 and 51. The criteria would include fulfilling the requirements to be registered (or entitlement to be registered) as a financial service provider under the FSP legislation, meeting competency standards specified in the code, being a person of good character, not being barred from applying for authorisation, and having not been convicted of an offence punishable by six months’ imprisonment or more where the Commission was satisfied that the offence reflected on the fitness of the applicant to act as an authorised adviser.

New subclauses 52(1) and (2) would allow the Commission to specify the timeframes for and the terms and conditions of authorisation. The Commission would be required to notify the Registrar of Financial Service Providers of the authorisation (new clause 53).

New clause 54 would set out the circumstances under which the Securities Commission could terminate authorisation. It could do so on expiry of the term of authorisation, in response to a request for termination by the authorised financial adviser, upon the cessation of the authorised financial adviser’s registration under the FSP legislation, or upon cancellation of the authorisation as a consequence of a default on the adviser’s part (under new clause 56).

The circumstances in which we consider an authorisation should be cancelled are set out in clause 56. These include ceasing to be eligible for authorisation, breaching the legislation (other than code requirements under new clause 35), breaching the terms and conditions of authorisation, on the recommendation of the disciplinary committee, or failing to pay fees or levies as required. We recommend that breaches of the code of conduct (under new clause 35) not be subject automatically to the cancellation power of the Commission. Such breaches would be subject to the complaints and disciplinary proceedings, which are set out separately in part 4.

Under clause 56, in the event of a default by an authorised financial adviser, the Commission would also be able to suspend an authorisation, or debar the financial adviser from re-applying for authorisation for a specified period, to amend the terms and conditions of authorisation, or to take no action at all. In making this decision, the Commission would be required to provide the authorised financial adviser with a reasonable opportunity to be heard (new clause 57). These provisions are intended to allow the Commission to make fully informed decisions and take action appropriate to the default. The Commission would also have the power to direct a financial adviser to comply with the terms and conditions of their authorisation, and set conditions for their compliance (new clause 58). Failure to comply at that point would constitute an offence.

New clause 56(4) would require the Commission to notify the Registrar of any suspension or cancellation of an authorisation. The Commission could also publicly notify any action taken.

A financial adviser who has had their authorisation terminated by the Commission would not be automatically prevented from providing financial services on category 2 products. This recognises that category 2 products do not expose consumers to the same level of risk. However, the requirement to notify the Registrar of cancellation, together with the information-sharing provisions under new clause 114, are intended to ensure that the Registrar could be made aware of grounds for potential deregistration under the FSP legislation where appropriate.

Qualifying financial entity (sub part 2)

New clause 72 would make it clear that any financial adviser who gave advice on a category 2 financial product, who was acting as an employee or agent of a QFE, would not be liable for contravention of a financial adviser obligation. Any obligations would fall on the QFE including the requirement for membership of a dispute resolution scheme under the FSP legislation. This obligation would apply to financial services provided by QFEs in respect of category 2 products.

All obligations and liabilities under the legislation in respect of the provision of financial adviser services for category 1 products would continue to fall on individual financial advisers. However, if the QFE is aware of a breach by any employee of a financial obligation, it must include this in its annual report to the Commission (new clause 74).

A QFE would have three responsibilities in respect of staff who provide a financial advisory service for category 1 products:

• to ensure that each of their staff required to provide such services are authorised

• to provide the Commission with a list of names of those persons authorised

• to keep the list up to date.

We acknowledge that there may be instances in which a genuine mistake or misunderstanding may occur on the part of a QFE or their staff in relation to advisory status, resulting in a staff member providing a financial adviser service in respect of category 1 products without authorisation. We recommend an exemption from an offence for the staff member in such circumstances under clause 110(2), and an exemption for QFEs from an offence for failing to meet its obligations if it believed on reasonable grounds that the staff member was not providing a financial service (clause 127(2)).

New clauses 60 to 67 would set out the process for granting qualifying financial entity status. We recommend that the Securities Commission be required to notify the Registrar of Financial Service Providers of any QFE status granted. Under new clause 68, the Commission would be able to exercise powers in relation to a QFE default similar to those it would be able to exercise in relation to an authorised financial adviser default (new clause 56); and like an authorised financial adviser, a QFE would need to be offered a reasonable opportunity to be heard in respect of a default (new clause 69). QFEs would have ongoing compliance and reporting obligations (new clauses 73 to 74), including a requirement to report annually to the Securities Commission.

Commissioner for financial advisers (sub part 1)

We recommend that a Commissioner for Financial Advisers be appointed (by the Governor-General on the recommendation of the Minister) as a member of the Securities Commission (new clause 76) in recognition of the significant new function given to the Commission under this legislation. The Commissioner’s functions would include appointing a code committee, recommending for approval the draft code of conduct prepared by the code committee, proposing changes to the code, chairing the disciplinary committee, overseeing the work of the Commission in respect of financial advisers, and carrying out any other functions imposed by legislation (new clause 77).

The Securities Commission could exercise any of its powers under the Securities Act 1978 in performing its new functions (new clause 140).

The code committee’s main tasks would be to produce a draft code of conduct for consideration by the Commissioner and to keep the code under review (new clause 79). The Minister would ultimately be responsible for approving the code on the recommendation of the Commissioner (new clauses 84 to 88). We are recommending that members of the code committee be appointed from industry representatives, with one person to represent consumer interests (new clause 80). We consider it important that the industry be involved in developing and maintaining the code to ensure that appropriate and realistic standards are developed.

We also recommend that the bill specify the minimum content of the code. New clause 82 would require the code to provide minimum standards of professional conduct and to allow for different standards for different classes of financial adviser. The committee would be required to consult the industry in preparing the code, and to allow anyone affected by the code to make submissions (new clause 83).

The code would come into force on a date nominated by the Commission after the Minister’s approval had been notified in the Gazette (new clause 90). New clause 91 sets out a process for approving changes to the code.

Complaints and disciplinary proceedings (sub part 2)

Our recommended amendments to the bill would provide for a complaints process and disciplinary proceedings tailored to the different needs of the three types of registered providers—financial adviser, authorised financial adviser, and QFEs.

The Commission would be required to receive or initiate any complaints about the conduct of any financial adviser (new clause 92). The complaints process would distinguish between breaches of the code (under new clause 35) and other breaches of conduct or disclosure requirements, or of the terms and conditions of the grant of QFE status or authorisation.

New clauses 94 to 98 set out the process for dealing with complaints about an authorised financial adviser. If the Commission considered that the conduct complained about contravened the code of conduct it would have to refer the complaint to the disciplinary committee (to be established under this legislation) and notify the financial adviser in question (new clauses 94 and 95).

New clauses 96 and 98 set out the process for convening a disciplinary committee hearing. Sanctions and penalties against the financial adviser in question could include cancellation of their authorisation, suspension or disqualification, censure and constraints on future performance as a financial adviser (for up to three years), and the imposition of training requirements or a fine. Where the sanction related to authorisation status the committee could recommend cancellation or suspension to the Commission. In all other cases the committee would be empowered to take action itself.

The disciplinary committee would be appointed by the responsible Minister for the express purpose of investigating complaints referred by the Commission, conducting disciplinary proceedings and imposing penalties (new clauses 99 to 100). This committee would have four to six members, who would represent the financial adviser industry and the legal profession; the Commissioner would be appointed as the chairperson (new clause 101). Rules governing the proceedings of the disciplinary committee, including the hearing of evidence and the summonsing of witnesses, are set out in new clauses 102 to 108.

For breaches of requirements other than the code, new clause 93 would provide latitude for the Securities Commission to determine whether to refer the matter to the dispute resolution scheme or to prosecute under the offence provisions. The Commission could also share information with the Registrar if it judged the breach sufficiently serious to bring into question the eligibility of the financial adviser to remain registered (new clause 144).

Offences (sub part 3)

We recommend that the bill provide that it be an offence to perform a financial adviser service without being registered under the Financial Service Providers (Registration and Dispute Resolution) legislation, with a maximum penalty of $5,000 for an individual or $10,000 for an organisation. A financial adviser who was an employee or agent of a QFE would be exempt from this requirement. We recommend some latitude in the case of genuine error, for example if a business had ceased to be a QFE and the employee or agent was unaware of this change in status.

Anyone convicted under new clause 109 for performing a financial adviser service without being registered would be exempt from the offences provision under clause 10(3) of the FSP legislation, to ensure that the same offence would not be subject to more than one offence provision.

We recommend a similar offence provision for failure to maintain registration on the part of an employer or principal (new clause 111).

It would also be an offence to provide a financial adviser service for a category 1 product without authorisation (new clause 110). This would not apply to anyone employed by a QFE who performed such a service without authorisation, however, because the QFE would be responsible under the legislation for ensuring that staff or agents who provided services for category 1 products were authorised. Failure on the part of the QFE to ensure their staff were properly authorised would constitute an offence under new clause 127, but we recommend the provision of a defence in cases of genuine error (new clause 127(2)).

Failure of financial advisers (and QFEs) to comply with disclosure requirements would also be an offence (new clause 112), as would failure to comply with conduct requirements (new clauses 113 to 114), with terms and conditions of QFE status, or with obligations and directions (new clauses 123 to 128). A number of offences would also be set out to cover the handling of clients’ money or property by authorised advisers (new clauses 115 to 122).

Appeal of decisions

New clause 131 makes it clear that there would be a right of appeal to the District Court against any decision of the Commission. The court could determine or modify a decision (new clause 134), or refer it back to the Commission for reconsideration (new clause 136). It could also award costs (new clause 137), and make orders to prohibit the names or particulars of those involved from being published (new clause 138).

Information sharing

New clause 144 would empower the Commission to share information in relation to its powers and functions under this legislation with the Registrar, the Commerce Commission, the New Zealand Police, an approved dispute resolution scheme, licensing authorities as listed in schedule 2 of the FSP legislation, and an overseas regulator.

Regulations

We recommend that regulation making powers provided by new clause 147 differ from those in the bill as introduced (clause 130) which we consider to be too wide and unfettered. In particular, we recommend that all disclosure requirements be set out explicitly in the primary legislation (clauses 20 to 30), and that powers to make exemptions be limited. We are concerned that leaving these matters to be dealt with by regulation would not provide sufficient clarity or certainty for those affected by the regime.

Any regulations would have to take account of the new tiered approach towards financial advisers. Detailed rules of the new regulatory regime would be developed under new clause 147 to include the prescribing of disclosure requirements for authorised financial advisers, financial advisers, and QFEs; the form of application for authorising financial advisers and for granting QFE status; annual reporting requirements for QFEs; procedure for the code committee and the disciplinary committee; and other matters necessary to give effect to the legislation.

We expect that the responsible Minister would consult on the development of regulations under these provisions.

We recommend that the Governor-General also be empowered in new clause 148 to make regulations relating to fees, charges, and costs incurred by the Commission in connection with its performance under this legislation, and authorising the Commission to require payment for any costs incurred.

Review of operation of the legislation

New clause 154 would require the operation of the Act to be reviewed within five years. The findings of the review would be reported to the responsible Minister, who would in turn be required to present a copy of the report to the House. We recommended a similar review provision for the Reserve Bank of New Zealand Amendment Bill (No 3) and the Financial Service Providers (Registration and Dispute Resolution) Bill given the novelty of some of the features of both regimes; we consider that a similar case can be made regarding this bill, and that a co-ordinated approach should be taken to reviewing the new regulatory framework for the financial sector.

Comments from the Securities Commission

We sought and received comment from the Securities Commission on the bill and the amendments we are recommending. The Commission made several suggestions for minor and technical changes which we have adopted, and they are reflected in the amendments we are recommending. We have also acknowledged and agreed to the alignment of the maximum fines with those set out in the Securities Act and in the bill itself.

The Commission also made several suggestions for more significant changes on the operation of the regime, as it would affect their functions and powers under the legislation. Such changes would affect the proposed provisions in the bill as they relate to enforcement, the complaints and disciplinary proceedings, the status of the committees, and the functions and powers of the Commissioner of Financial Advisers.

One of the suggestions put forward by the Commission is that it should have civil powers under this regime also, as it has in regard to its other operations. We were advised that such an approach could be confusing for consumers and those who are to be subject to the regime. We were advised that the disciplinary regime (with consumer complaints and criminal offences available) which would be established under this legislation is preferable and an appropriate way to deal with such complaints. However we think there may be merit in considering the matters raised by the Commission further.