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Michael Rice: Quality of Advice Review is only a start

Editor’s introduction

The Quality of Advice Review (QAR) Final Report is a proposals paper prepared by lawyer Michelle Levy and Treasury. It correctly observes that the current regulatory framework is a major impediment for many Australians to benefit from accessing financial advice. The Report gives 22 recommendations to address advice complexity, and it has received broad support within the financial services industry. 

Briefly, ‘personal advice’ would be broadened with an obligation to provide ‘good advice’, the ‘general advice’ definition would be scrapped, and disclosure documents such as SOAs and FSGs would no longer be required.

Advice will be considered as ‘personal advice’ if the financial advice provider holds information on the client’s circumstances, but crucially, not where the advice provider simply considers the client's circumstances. This will allow superannuation funds to provide personal advice to their members, which is one reason why the major industry funds are big supporters.

It is also a major point in Michael Rice's criticism below.

A provider of financial advice would need to provide ‘good advice’ but the law would not regulate or define the inputs to that advice. It must be ‘fit for purpose’ when designed by a financial adviser who knows a client’s personal circumstances. The fiduciary duty is enough to protect the client and a separate ‘best interests duty’ is not required. SOAs would be replaced by maintaining records of advice.

'Good advice' is advice that would be reasonably likely to benefit the client, having regard to the information that is available to the provider at the time the advice is provided.

The Report states:

"A duty to give good advice does place a different kind of responsibility on providers than laws which prescribe process. It also creates the opportunity to remove many of the regulatory requirements relating to disclosure and some relating to conduct. This will allow providers to decide what they need to do to ensure their advice is in fact good advice. It will relieve providers of obligations to comply with requirements that are unnecessary or do not respond to the circumstances and needs of their customers."

***

Michael Rice is a leading actuary who with a lengthy career as a consultant and researcher in superannuation, life insurance and investments. He was a founder of Rice Warner where he consulted widely to the financial services industry and headed the firm’s public policy work. Rice Warner produced reports on financial advice and provided services to superannuation funds and governments on a wide range of financial matters.

The attached article is in two parts. The first part is Michael’s presentation to the Actuaries’ Institute in February 2023 following the release of the QAR, and the second part is extract from his previous papers to the QAR in June 2022. The original is over 50 pages on how advice should be structured and is further background to the complexities faced.

***

Part 1: A good beginning but weak on safeguards

Most people are financially illiterate - not because they are stupid, but rather because insurance, investment and superannuation are all unnecessarily complex and the guidance consumers need to navigate these uncertain areas is largely unavailable (partly due to legislative barriers).

Everyone agrees that good financial advice is beneficial and indeed essential at certain times, such as when entering retirement. However, the laws of financial advice are incomprehensible and poorly structured. Further, a layperson would find it difficult to seek advice, and most would find the cost of buying it is beyond their budget.

Clearly, we need a catalyst for change and the Quality of Advice Review provides a very good beginning.

The Review aims to increase the amount of advice provided to consumers and one theme is to allow those with large customer bases to provide advice on a single subject at a point of time. This recognizes that many consumers who currently get no advice do need simple types of advice periodically during their life. We could call this 'event-based advice'.

Superannuation funds already provide similar advice under their intra-fund advice structures, but the take-up rate for this is low. Broadening the base of this type of advice would open the market to other suppliers (including retail financial advisers), many of which would use technology to bring down the cost of delivery.

The proposed changes to the intra-fund advice rules fits in with the government's Retirement Income Covenant requiring funds to have a strategy for those members entering retirement and maintained for them during the retirement years. This would allow funds to collect information on the member’s full personal financial circumstances (including their spouse) and eligibility for the Age Pension. Effectively, it would allow funds to offer comprehensive advice leading into retirement without any of the current restrictions.

Opening the market in the way proposed makes sense. However, the Review is surprisingly weak on some consumer safeguards. In my opinion, financial advice legislation should be tailored to the risk of harm for consumers. The proposal does not differentiate between a simple piece of harmless advice and a complicated risky strategy. The former could easily be provided by superannuation funds, banks, and others with large customer bases. However, many forms of advice are complex and risky - and the legislation needs to reflect that.

Consequently, the bar for Good Advice appears to be set too low. It is not a requirement to provide “best advice”, but simply to provide advice that is likely to benefit the client. Consumers can still be put in expensive or risky products when better strategies might be available.

Take retirement as an example

Superannuation funds are likely to put members into cohorts when forming their Retirement Income Strategies. They may well use entitlement to a full or part Age Pension as one of the criteria for allocating members into a cohort. Giving members guidance as to the default structures for these cohorts is sensible.

However, there remain some conflicts which the review glosses over.

70% of members will be married when they enter retirement – and their spouse will usually not be in the same fund unless they have an SMSF. They will need to know whether to stay in separate funds or whether a new fund might be more suitable for both.

They will be offered a longevity product, but is this suitable if they are a homeowner? They might prefer to wait until later in life and buy a reverse mortgage to supplement their income rather than allocate money to a longevity product with an uncertain outcome (noting that the values of future benefits could depend on the longevity of all members).

They cannot get these answers from their own fund which is conflicted.

As you can see, some areas do need to be revisited before we make final changes to the system.

***

Part 2: Submission to Quality of Advice Review, June 2022 

While there is now much improved consumer protection, the heavily bureaucratic legislation pertaining to financial advice together with the ultra-cautious approach of the regulators is a severe hindrance to the industry delivering sound financial advice at a fair price for most Australians. 

Without material change, we will soon reach a situation where financial advice will be delivered largely to wealthy Australians. Few ordinary Australians can afford to purchase the financial advice they need and, for many of those who do obtain it, the advice they receive is not optimal. This is a major problem for the significant number of Australians moving into retirement. They need advice if they are to optimise their retirement incomes – which will be highly valuable for them as well as being to the benefit of the Australian economy.

The Rice Warner Report also described many of the weaknesses in the current regime and suggested a new model. We suggested any changes should be measured against five key attributes:

  • Simplification
  • Affordability
  • Accessibility
  • Consistency
  • Quality of advice.

It expands these ideas to present a new paradigm for delivering financial advice, namely:

that legislation on financial advice should be tailored to the potential risk of any harm to consumers.

Further, consumers are no better off as most find advice in its current format to be too expensive. The FSC White Paper included research by KPMG showing a financial plan currently costs more than $5,000 to produce. It suggested some administrative changes to reduce this cost significantly. However, the projected savings of $2,000 do not bring the cost of a financial plan down to levels that most consumers find palatable, so more fundamental change is needed.

Several surveys have shown that most consumers will not pay more than a few hundred dollars for each piece of advice. Conversely, wealthier Australians have substantial assets to protect or have high income which will generate future savings. In these cases, they value financial advice and will pay a sizable fee for it.

Consequently, to broaden the uptake of financial advice in the community, this submission considers that:

We need a system where people can get simple advice for one-off amounts under $500 for Simple Advice, and some forms of comprehensive advice for less than (say) $1,500.

Any changes to the system will need to address the following issues:

  • Most financial needs can be met with relatively low-risk strategies which require Simple Advice. This should be the default position for most consumers.
  • Most consumers do not need to take high risks. It is suitable for them to be in strong default products such as MySuper.
  • Regulations based on complex, high risk advice are unnecessary, inappropriate, and too expensive for simple low-risk advice. In most cases, they do not reduce the risks around providing advice on simple topics - instead they increase risks for consumers by making this advice largely unavailable! Rules for simple low-risk advice should be simplified to ensure the delivery can be done at low cost. This specifically applies to those providing low-risk simple advice via online tools.
  • Financial advice should be focused on strategies, with less emphasis on products. The legislation needs to recognise this separation.
  • Advisers only need to know and consider their client’s full financial affairs if they are placing them in medium- to high-risk strategies/products (as defined later in this submission) or are providing advice on a range of needs. Most consumers have relatively homogenous financial needs, and these can be determined quickly.
  • Ad-valorem (asset-based) fees are not appropriate on low-risk strategies where the advice provided can be commoditised. There should be a shift to fixed-dollar fees for these cases.
  • The distribution of life insurance should be expanded to replicate the ways people buy Private Health Insurance and general insurance products.
  • Financial decisions not currently within the advice legislation should be included. This would include savings, budgeting, and mortgage broking. As these activities are generally low-risk and beneficial for consumers, the legal requirements should be simple.
  • High-risk activities will be defined and will continue to require strict standards and strong regulator monitoring. However, many advisers will shift their emphasis to low-risk strategies for many clients.
  • Some high-risk strategies may need closer attention. These include:
    • Areas with a conflict of interest such as investing in related-party investments without appropriate management of potential conflicts. This should be done to avoid past failures such as Storm Financial and Dixon Advisory.
    • Investing in geared investments (including investment properties).
    • Investing directly in shares (perhaps with a reasonable financial threshold of $25,000 to allow some exposure without being considered high-risk).
    • Any risky strategy such as Contracts for Differences, unlisted assets, and some forms of foreign investments (which include currency risks).
    • Cryptocurrency products, many of which are distributed outside the reach of financial services regulation.

Many of the leading financial institutions were required to pay large amounts of compensation and fines. The stigma coupled with low returns on the capital placed in these businesses led directly to the four large banks exiting the financial advice segment.

An unforeseen response to FOFA was the rapid shift in client bases of advisers towards wealthier Australians. When commission was being received on low-activity accounts, advisers had kept these clients on their books. However, there was now a minimum cost of engaging with clients. Even simple needs could not be met under fees of $3,000 to $5,000 a year, so clients with smaller balances have been jettisoned. The minimum fees have also deterred an increasing number of Australians from obtaining advice.

The evolving legislation and regulation have contributed to most Australians not receiving financial advice. This act of omission is a major societal risk as unadvised people are more likely to make poor decisions. These include investing in speculative schemes or products, poor savings habits, and underinsurance. Arguably the risks of omission of advice are greater than the commission of receiving poor advice (due to the scale of omission within society).

Example of problem with intrafund advice, specific limitation

Intra-fund advice has been carved out of the law to allow superannuation funds to offer specific advice relevant to their fund membership. Even this has some grey areas. For example, most funds offer intra-fund advice when moving a member into a pension under the same fund. However, it is critical to discuss retirement with the member’s partner to know the family’s full financial circumstances. If the fund’s adviser recommends putting the partner into the fund, it is no longer intra-fund advice – and they should have an Approved Product List for these contingencies!

Superannuation funds are specifically prohibited from giving personal financial advice relating to the Covenant to their members and can only provide strategic guidance. However, trustees need to consider how to assist groups of members understanding investment, inflation and longevity risks.

Intra-fund advice in its current form is not suitable as a vehicle to provide members with retirement advice since any sensible advice on retirement income requires consideration of financial interests outside the specific superannuation fund. Consequently, there is a problem with the interaction of the financial advice legislation and the Covenant. The current financial advice legislation and regulations effectively prevent funds from giving proper and adequate effect to the Covenant.

Some suggest that it is reasonable to extend intra-fund advice to deal with this set of circumstances. However, it is difficult to provide people with advice on retirement within the current framework for intra-fund advice given the need to advise on matters outside the fund such as the Age Pension or their spouse’s circumstances and options.

At retirement

Fund members need advice which will include:

  • What Age Pension can I receive and when does it commence? (This considers family assets including those of a spouse).
  • What income do I need to live on in (say) the first ten years of retirement? Should I draw more than the minimum regulated pension amount?
  • For homeowners, how can I use my equity in the family home? For example, can I spend all my super over 20 years, knowing that the home is a nest egg for good longevity or to provide for the costs of Aged Care later in life?
  • Should I join the Retirement product provided by my super fund and should I vary it in any way (eg take less of the longevity component as I have high equity in my family home).
  • Should I vary the asset allocation of my product? Can I afford to take on a higher investment risk to provide higher expected returns to fund my retirement?
  • How should I use my cash and investments outside superannuation?

These questions do require financial advice at a level which is currently defined as Comprehensive. The consequence is that although most members require advice on these issues, few of them will seek it because the fees charged for Comprehensive Advice are too high.

There needs to be a better, risk based, approach to regulate this advice as Simple Advice. If the fund has a strong default product (utilising the Retirement Income Covenant to set up a sensible structure for groups of members), the retirement income strategies become one of tailoring this product to the member’s personal circumstances.

 

Michael Rice's professional work at Rice Warner relating to financial advice included the Report prepared for the Financial Planning Association on the Value of Advice; set up and maintenance of the VicSuper financial advice structure, Report on Financial Advice Within Superannuation Funds and original research for the Financial Services Council on the Future of Financial Advice. This article is general information and does not consider the circumstances of any person.

 

9 Comments
Steve
February 26, 2023

Some investors are quite happy paying $40 a month for full ongoing service support, without being hassled with Annual Fee Consent Forms each year. This is a unique form of red tape that doesn't exist in any other nation on earth, except Australia. Consent Forms that Industry Super Fund advisers are conveniently not lumbered with. Until these forms have been eliminated, and we return to voluntary fee Opt Out, consumers will find it difficult to access low-cost ongoing service support.

David Toohey
February 24, 2023

Michelle Levy was quite specific that the QAR took consideration of the existing Design and Distribution Obligations ("DDO"), so any criticisms of the QAR should take DDO into account.

So, bearing this in mind, I just want to correct the last sentence in the following passage in Part 1:

"Consequently, the bar for Good Advice appears to be set too low. It is not a requirement to provide “best advice”, but simply to provide advice that is likely to benefit the client. Consumers can still be put in expensive or risky products when better strategies might be available."

The context of Good Advice is that it is offered by a product provider, not by any other entity/person.
Given that it is a product provider then it is subject to DDO, under which the provider must take reasonable steps so that distribution is in accordance with the target market determination.
So this contradicts that last sentence in the passage:
- consumers won't be put in risky products, unless the product is suitable for them;
- and they won't be put in expensive products, unless it is Good Advice.

If Only
February 24, 2023

I know advice needs fixing and more people should receive it, but let's get real that there is no way a member ringing a call centre at a retail or industry fund can receive 'personal advice' in the way we know it now, considering all aspects of personal circumstance. I'll swallow my words when I head a call centre person say: "We think you should take money from your pension fund and pay off your mortgage."

Aussie HIFIRE
February 23, 2023

The idea that an industry fund call centre which is limited to giving advice on their own members only is going to be able to the best advice is laughable.

Take a fairly simple scenario of Jack 67 and Jill 62, who have retired and have $500k and $250k respectively in different industry funds. A fairly common strategy from a financial adviser might be to recommend that Jack do a cash out and recontribution of part of his super to himself and part to Jill to remove the taxable component of his super so that the kids get the full amount upon their deaths. Jack then goes on the full age pension of roughly $20k because Jill has kept her super plus the money she’s received from Jack’s super in accumulation phase and therefore it’s not an asset for Centrelink purposes. Along the way Jill does cash out and recontributions to eliminate her taxable component as well, when she gets to 67 they hopefully still have around $750k in their super because Jack has been getting $20k a year of age pension plus topping it up with withdrawals from his pension tax free.

If the industry fund adviser can’t advise on Jack contributing money to Jill’s super, can’t tell them to keep Jill’s super in accumulation to maximise Jack’s age pension and minimise the drawdown from their own retirement savings, and can’t recommend cash out and recontributions for either of them to save their kids 17% tax down the track, then that’s an awful lot of money that is being left on the table. Almost $130,000 extra in tax paid by the beneficiaries upon death, double digit thousands of extra age pension foregone, presumably the same amount of extra drawdown on their own retirement savings.

Sure it might meet the “good advice” criteria, but that is an absolutely huge amount of potential extra tax, foregone benefits, and extra drawdown on their own funds because the couple asked one of their industry fund’s for advice rather than seeing an actual financial adviser.

Super
February 24, 2023

I am a Superannuation Adviser with an industry fund and in your scenario we recommend the member see a financial planner licensed to give advice to the couple. This is in the best interest of the member and their spouse.

Aussie HIFIRE
February 24, 2023

Do you think most industry funds are doing the same as your own?

And if the legislation changes so that industry funds can give "good advice" will they still recommend seeing someone else, or bring it in house?

Wildcat
February 23, 2023

Can’t see any problems with non qualified people “advising” (aka selling) in house product and remunerated from that product provider. Can’t see any conflicts or potential sources of client harm here!!!

Bill Brown-Life Risk Specialist
February 23, 2023

I wish to make a comment on Michael Rice's article on QAR from the point of view of life risk Specialist advisor.

Frankly I'm surprised that someone who is an actuary could make the following comment comment but there it is:

"The distribution of life insurance should be expanded to replicate the ways people buy Private Health Insurance and general insurance products."

This comment seems to be based on the misnomer that life insurance products in the hands of consumers are simple products and therefore can be provided without advice, like health insurance and motor vehicle insurance, both of which, to the surprise of many clients, are not guaranteed renewable i.e terms and conditions can be changed upon renewal each year.

What client fully understands their health insurance, and if they did, they would never purchase the so-called "extras cover", nor if they lived in regional areas, with a scarcity of specialists, would they ever bother having to pay $5000 a year just to get "Doctor of choice" in a public hospital. Anyone who's been on a health insurance website in recent times will quickly realise that the health insurance providers are engaging in what can only be called deliberate over-flow of information, multitude of choices, and little information on the impact of any choice on that particular clients circumstance. Potential purchasers are asked being asked to predict what illnesses and injuries they might have in the future so they can select a gold, silver or bronze package. What's missing is called personal advice, Mr Rice

However he does give some credit to life risk advisor-driven strategies in his comments. That is the real value that is added by life risk specialists – consideration of structures, policy ownership, product design and affordability as well as to which particular product from which particular supplier will best suit the strategy the client has agreed to accept. That's advice, personal advice. It's not just taking up a policy off the shelf just because that's the only policy you have to sell.

Proper risk advice involves having a "miners" license, in effect-digging down. Risk specialists have learnt to ask multitudinous questions, in multitudinous ways, so that we can ascertain what the client's real wants and desires are, and then formulate a strategy that is affordable. Many of those questions are uncomfortable but have to be asked. The issue as I see it, from a risk specialist perspective over 35 years, is that some "holistic' advisers are only interested in the problem bought to them by the client – how to invest a particular sum of money or, for those over 50, how the hell do they fund retirement'. Most are scoping out life risk advice as we speak, and much of that can be attributed to the stupidity of LIF, which Ms Levy took the opportunity to kick down the road, once again.

Returning to Mr Rice's proposal that life insurance products should be more widely distributed without advice i.e. from pharmacies, along with the vaccinations, I have long argued that life risk specialists should be subject to a different licensing regime than so-called holistic advisers. Ours is a simple yet complicated discipline.

Life risk specialists are currently lumped in with every other adviser, purely by the complexity of the Corporations Act and ASICs long-held ideological position that there really should be only 100 or 200 AFSLs, able to be closed down very quickly with an enforceable undertaking, if any naughtiness is detected. In ASICs mind, individual adviser specialisation, i.e. life risk, or retirement homes advice, or wealth accumulation, or stockbroking is something every adviser has to offer, and accordingly should be constantly educated on, and hold designated university qualifications. It's overkill and is part of the complexity that adds to the minimum advice fees of around $5000.

On that subject, Mr Rice's correct in noting there's been a flight by advisers to the high net wealth market and he also is correct in noting that is that development is compliance and cost driven, and the ASIC levy on advisers doesn't help. The introduction of that compliance cost is solely down to ASIC and the lawyers who advise AFSLs, but sadly for Mr Rice I don't believe the QAR "solution" will address that matter. We do not need a 40 page SOA to come up with a program with a strategy to protect the wealth of our clients utilising term, TPD, trauma and TPD and income protection products from retail insurers.

I also note Mr Rice is still keen on the ISN funds providing cheap insurance to its members. He should also tell you that they fail to educate their membership in any realistic manner about their insurance coverage. I have never ever met more than a few members of an ISN fund who knew the type of cover and the sum insureds that he'd been allocated under the default arrangements. And definitely I have never met any member who understood that there was an age limit, typically age 37, whereupon his death and TPD cover in his default insurance automatically began to reduce by around 8% every year, notwithstanding that his mortgage principal will not experience any reductions in principal until around year 12. That is not a good system Mr Rice. No advice is bad advice!

Advisers know that the QAR was never about them. We recognise that in the dying days of a Coalition government it was a sop to an assumed Conservative adviser workforce, in the vain hope of "preserving some of the furniture". Unfortunately, if wholly or partially implemented by Mr Jones, it will probably lead to is a whole bunch of cowboys, employed by the ISN funds and the banks, this time without an adviser workforce, using Robo advice, to flog horrible life risk products.

Welcome to the world of life insurance with five year pre-existing condition exclusions, designed by actuaries on instructions from their client, never to pay a claim. Nothing personal Mr Rice.

I apologise for the length of these comments, but this matter is too important to be dismissed in a few glib journalistic grabs

Jake
February 23, 2023

Sounds like the changes will lead to more complexity and gray areas, which will probably lead to more regulations/legislation.

Change is hard!

 

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