There has been a lot of comment recently about the FSA’s retail distribution review and a lot of attention has focused on commission and whether it should continue to be paid to professional advisers – those highly qualified advisers serving customers who need the full range of advice.
Although this is an important topic, it is essential not to lose sight of the other aspects of the RDR relating to proposals for a new form of segmentation of the market for regulated investment advice. Those proposals may then lead to possible changes over how advisers should be paid for the services they provide.
The market would be split into two parts – professional financial planning and primary advice.
The need for the split stems from the need to strengthen existing regulatory requirements. Stronger regulations and higher professional standards will increase the costs of providing services to consumers. This will result in fewer firms but with higher standards and only wealthier consumers being able to afford the cost of the services.
Advisers offering “full advice” would include professional financial planners and general financial advisers. Professional financial planners would have to meet higher minimum training requirements than today’s IFAs. Their remuneration would only be in a form that had been agreed with customers in advance, called customer agreed remuneration.
In practice, remuneration would be fee-based. Only professional advisers would be allowed to call themselves “independent”.
The question of whether fee-based advisers would be able to get commission has caused consternation in the industry. The RDR addresses this point, stating “fee-based to mean any advisory remuneration derived in discussion with the customer and not influenced by the product provider and includes commission payments, including these expressed as a percentage of ongoing funds under management but only where such payments have been determined with the customer’s agreement”.
It is not difficult to see customer agreed remuneration based on a fee calculated at an hourly rate but which might be offset by any commission paid under an investment product taken out by the client. Indeed, the commission may not meet the cost of the advice, in which case, the client would make up the difference.
General financial planners would be able to continue to provide similar services as now but would have lower training requirements similar to the minimum required today. It is likely that they would have to satisfy higher prudential and supervisory requirements than professional planners.
Consumers on lower incomes (the RDR uses as an example people with incomes of between £25,000 and £50,000) and who may not be able to afford the full financial advice offered by professional financial planners would have their needs met by firms offering straightforward advice on simple products known as primary advice. The RDR expects that a wide variety of firms would be interested in offering primary advice.
Although higher standards for training and more transparent forms of remuneration should be rewarded with regulatory incentives, these incentives should not be restricted to membership of the club sitting at the top of the market.
Capital requirements and levels of supervision should be based on a wider range of factors such as standards of expertise, remuneration systems, the number of complaints, quality of standards and controls.
The better a distributor scores across the spectrum, the lower its prudential and supervisory requirements should be. Such an approach would create incentives for better conduct throughout the industry.
Advisers need to consider how the market segments envisaged by the RDR might affect them. Do their business models cater for clients who, in the main, need primary or specialist advice? These considerations are more important than worrying about whether a small proportion of their clients will have to pay for advice through fees rather than commission.
Tony Reardon is principal of Reardon Consulting