A quiet revolution called Retail Distribution Review (RDR) is taking place in the financial advice market. In this, our first blog on RDR, we answer a few basic questions about the new legislation and how it will affect you and your financial adviser. Watch out for more articles on the subject over the coming months.
Why RDR?The Financial Services Board (FSB), the regulatory body for financial services, has been concerned about a lack of transparency in the costs charged on various investment and insurance products, as well as about financial advisers’ qualifications and the impartiality of advice they are giving consumers. To address these concerns they are introducing new legislation to regulate the market.
At the heart of these new regulations are changes to how independent financial advisers are remunerated for their advice – and this changes the client relationship entirely.
How will RDR affect financial advisers?There are several important ways in which RDR will change your relationship with an independent financial adviser (IFA), should you use one, from July 2016 onwards:
- IFAs can no longer be paid commission for the funds their clients invest in, but will bill their clients directly for each hour of consultation, in the same manner as a lawyer or accountant. IFAs will have to negotiate an acceptable fee scale with clients before giving advice. However, insurers are still allowed to pay commissions to brokers in the risk space.
- If financial advisers want to classify themselves as ‘independent’ they are now required to provide advice on a broad spectrum of investments and insurance products from multiple product providers. If they advise on the products of just one company, they are not independent but ‘tied’ brokers.
- A new set of qualifications for IFAs have been established under the FAIS regulations to ensure a consistent level of knowledge throughout the industry. IFAs must now pass exams to gain a licence to provide financial advice, and complete a certain number of hours of training each year to maintain that licence.
How do these changes benefit consumers?
- Billing transparency makes it easier for consumers to, firstly, compare and understand the insurance and investment products that they buy; and, secondly, to differentiate between what they are paying for the product and what they are paying for the advice received to buy the product.
- It should encourage the selling of risk products. For far too long the financial advice industry has been focused to a large degree on the sale of investment products. IFAs are now incentivised to advise appropriately, which includes recommending life and other forms of insurance.
- IFAs will have to become more qualified and knowledgeable on all financial products. Many investors did not realise that their financial adviser made money through commissions on products they bought. Because those sorts of biases will now disappear, IFAs in future need to consider a wider range of investment products they might not previously have recommended, such as the new tax-free savings accounts, passive (and cheaper) index funds, unit trusts and retirement annuities.
- The client will be placed at the centre of the conversation. IFAs will no longer be incentivised to sell products just because they earn commission on them, but the client will make choices based on advice which looks solely at his/her own needs and circumstances.
- The no-commission rule means that clients will negotiate up front with their financial adviser what fee they are prepared to pay for the advice – it is clear, transparent and leaves the client with the option to either proceed or not.
When is RDR being introduced?It will be phased in, starting later this year. It is expected that phase 1 is due for implementation in July 2016, although some effective dates are still subject to consultation.
Ways in which RDR will not benefit youIn reality, the experience in countries such as the UK and Australia which have already introduced their version of RDR, is that some lower-income consumers have not wished to pay the suggested fee and in turn are no longer being professionally advised. That does not mean they are not being insured – they just seek products which are being packaged in different ways, such as the direct insurance product offering.
As a consumer discussing the fee with an IFA, you will need to possibly learn a new skill – how to negotiate!