Many IFAs are now considering how wraps or platforms can be used at the core of their business to improve efficiency, profitability and the service on offer to their clients but how will this work in practice, given the current regulatory environment?
The concept of independent financial advice dates back to polarisation, which was introduced in the mid-1980s and was defined by an adviser’s ability to select any product from any provider in the marketplace. This was, of course, a key differentiator compared with a tied-salesperson, who represented a single provider rather than the client.
At that time, each life company was offering a unique with-profits fund, or a limited range of internally managed unit-linked funds, and a diverse range of charging and commission options so the ability to pick and choose different products made a huge difference.
Today, of course, the situation is entirely different. There is still a myriad of different charging and commission structures on offer and a whole industry has grown up to support the process of product comparison. Although we have moved beyond best advice to suitable advice, most suitability letters, because of the regulations, still place great emphasis on the product aspect of the recommendation.
The Sandler report in 2002 criticised the structure of the retail savings industry in the UK. Among its observations was that product and commission complexity had not benefited clients.
He argued for less complexity, better personal finance education and a greater focus on asset allocation in the advice process.
Some of these themes are now being developed in the FSA’s retail distribution review and have also been discussed in several high-profile speeches from senior FSA figures.
FSA chairman Callum McCarthy in a speech in September, called, Is The Present Business Model Bust?, set the tone by stating that the status quo not only does not benefit clients but also is not in the interests of providers or advisers.
He claimed that “the present distribution system is distinguished by a focus on business volume rather than quality” and that commission incentives, as structured now, do “little to encourage (and may discourage) the fair treatment of customers”.
He also said that “the present system, with its in-built encouragement to churn and its product and provider bias, is not one which is naturally robust to claims for misselling and the associated compensation liabilities”.
In another recent FSA speech by asset management sector head Dan Waters, the regulator began to encourage the use of platforms.
Waters said: “We have seen some very positive examples of firms thinking carefully about whether and how they want to incorporate platforms services into their businesses in order to offer the best possible services to their customers that they can. I want those examples to become the norm.”
From the FSA’s thematic research in June last year, we know that if, for example, a platform provides a solution to 80 per cent of an adviser’s clients, then those clients could all be transacted through the wrap platform. In this scenario, the adviser remains “independent”, provided that:
l The recommendation is suitable to the clients’ circumstances.
l The adviser has considered products from across the whole market (whether platform-based or not).
l Following depolarisation, the client is given the option to pay by a fee.
More recently, an FSA spokesperson provided even more clarification that the concept of independence is moving on. She said: “We previously had a reporting requirement which required that IFAs report where there was exposure greater than 20 per cent on one particular product provider. We certainly do not have a 20 per cent reporting rule now. It does not matter whether you go for one or several wraps as long as it is right for your client.”
The FSA does still have some concerns about the use of wraps, which can be summarised as follows:
l The transparency of platform charges. Clients need to understand what they are being charged. Platforms should ensure that the charges are both clear and consistent across all products. The principle should be that charges are for an adviser and client to agree at an overall portfolio level; the platform just administers the agreement by deducting units from the relevant product wrappers to pay the initial and ongoing fees/commission.
l The level of platform charges and suitability for a client’s circumstances. If, for example, a client has very straightforward needs, then a very simple product would – other things being equal – normally be selected by an IFA. The FSA is simply restating that IFAs must not lose sight of the clients’ interests, that is, they should not be offered a platform’s products and services as a “default”. If they are not needed, just to suit the adviser’s business model.
l That charges are commensurate with the service offered by IFAs. Platforms typically offer a scaleable service which allows a more comprehensive “wealth management” service to be offered to many clients. They also often allow flexible levels of trail commission, for example, to be paid to support this service. The FSA’s concern is that advisers consider TCF principles when they are balancing their remuneration against what benefit the client is receiving.
In conclusion, the FSA is looking at the overall structure of retail financial services and, in particular, at how to react to the rise of platforms. Its statements so far support the general move towards principles-based regulation such as TCF rather than prescriptive, product-focused rules. It is now clear that platforms are not inconsistent with the concept of independence.
An IFA works on behalf of, and in the best interests of, his clients and if a platform no longer represents good value then he has the option, indeed the obligation, to select another firm to provide a similar service.
Crucially, however, an adviser does not demonstrate independence simply through the use of many different companies’ products and services.
Despite this, more specific guidance on the use of platforms would be welcome and we await future announcements in this area later this year as a result of the FSA’s distribution review. In the meantime, we should recog-nise the position we have now reached as regards the use of platforms and support the overall direction of travel.