It was encouraging to hear shadow treasurer Chris Bowen undertake to legislate all the recommendations of the Hayne royal commission, even before he’s seen them.
I’ve never been one to look a gift horse in the mouth, so I’m more than happy to take Bowen at his word. Mind you, taking such a proactive approach is hardly a political risk, given the disturbing revelations of recent months. In fact, the political risk lies in not undertaking to act with strength and resolve.
Nevertheless, I must admit to being sceptical. The patchy history of reform in financial services demonstrates that once the “tumult and shouting have died”, so does the political enthusiasm for hard decisions, particularly in the face of ferocious and well-funded lobbying.
Two examples of well-intentioned reforms that amounted to little in the long run are The Future of Financial Advice Legislation (FoFA) and the accounting profession’s attempt to mandate genuine “fees for service” (hourly rates/flat fees) for members offering financial planning services. I was involved in the development of both of these initiatives and was dismayed by the power of the financial services industry to compromise the principles underpinning them, thereby destroying their ability to drive behavioural change.
No doubt, I will be told that it’s different this time. I truly hope so, but my experience has taught me that once the inevitable “industry consultations” commence, politicians become nervous and are open to destructive compromises. So just for the record, here are the top 10 arguments that were used to destroy the accounting profession’s progress – and rebuttals for each. In various guises, most of these reasons were also used to compromise FoFA. And we can rest assured that most of them will be rolled out over the next 12 months during the debate over the recommendations of the royal commission:
Reason 1: Fee-for-service reform can’t be done.
A mountain of evidence to the contrary continues to accumulate. An increasing number of financial planning firms (including accountants) successfully offer their services on a genuine fee-for-service basis. And, of course, just because something is perceived to be difficult or commercially inconvenient doesn’t mean the ethical principles behind it should be discarded. Instead, the principles should be supported and accompanied by a reasonable transition period.
Reason 2: It’s only a few bad people. It won’t happen again.
This claim denies that there is a systemic problem or states that, if there was one, it doesn’t exist now. The facts don’t support these claims but the industry persists with them. In addition, removal of conflicts, not just their disclosure, is a fundamental principle of professional practice and must not be ignored just because it suits the business models of those who view the accountants or planners as a product sales channel.
Reason 3: Ordinary Australians won’t pay fees for service.
My years of experience dealing with clients of limited means has demonstrated that they will pay genuine fees where they see value in doing so. Many people are naturally sceptical about the worth of percentage-based fees, which they correctly suspect is an opportunity for an adviser to sell them a product that they don’t want or need.
Reason 4: All forms of remuneration are conflicted, so which form is used doesn’t really matter.
Hourly rates can be inefficient or excessive. This can be overcome by the adoption of flat fees; hourly rates and flat fees do not lead to the inappropriate sale of financial products or the accumulation of funds under management, which is the principal mischief caused by percentage-based arrangements.
Reason 5: It’s a free market. Remuneration of advisers should be the client’s choice.
Financial planning is not a free market. It’s a professional market in which participants are bound to act in their clients’ best interests. This will often require them to offer advice that is contrary to their commercial interests. In such a market, professional advisers are obliged to avoid conflicts, not just disclose them. Given the perceived commercial advantages of percentage-based fees, many advisers promote them over genuine fees-for-service while disingenuously suggesting that the client has a real choice, which they don’t (and shouldn’t, in a proper professional environment).
Reason 6: I’m a qualified, university-educated accountant. I would never do the wrong thing.
Being a member of one of the accounting bodies would certainly indicate that a person is well educated but, like all humans, they would still be subject to the temptations that percentage-based remuneration creates. So, faced with a decision about whether to receive a percentage on a product sale or to receive nothing because a product is not appropriate, advisers will often be tempted to recommend a product. They will then rationalise why that decision was ethical. Accountants and other advisers who purport to act in their clients’ best interests should not be put in this position of conflict, because it destroys trust between advisers and the public.
Reason 7: Asset fees are not conflicted, they are fees-for-service.
When under pressure on this issue, industry bodies will often say they are ‘agnostic’ about their members’ business models, knowing full well that if they were to admit to the conflicts inherent in asset fees, they might be confronted with a loss of members. A useful way to analyse asset fees is to consider the common circumstance in which a client who has inherited money requires advice on whether to pay off a mortgage or invest the inheritance through an adviser. Clearly, where the adviser receives asset fees, there is a significant conflict because asset fees cannot be charged if the mortgage is reduced. There are many other examples: where a client must decide on an industry super fund versus a self-managed superannuation fund; salary-sacrificing into a company super fund versus a super fund promoted by an adviser; and deciding whether to commute a government-guaranteed pension. In each of these circumstances, asset fees create a conflict, leading to potentially damaging decisions by clients. A genuine fee-for-service adviser has no such conflicts. The fact that asset fees are banned on gearing gives a clue as to their highly conflicted nature.
Reason 8: We can solve the problem by educating consumers and improving the performance of the regulator.
Of course, consumers make mistakes and we must continue our efforts to better educate them. But just as we don’t expect laypeople to be experts in medicine, law and accounting, we should not expect consumers to be financial experts. Given the considerable knowledge and power imbalance that will always exist between planners and their clients, the industry has an obligation to lift its ethical game and not blame bad outcomes on consumers, whose reasonable expectation is that they should be able to trust financial planners to advise them in their best interests. The same goes for the regulator. Yes ASIC could improve its performance, but the industry must not be allowed to blame its own poor behaviour on perceived shortcomings of the regulator.
Reason 9: There will be unintended consequences.
This is the classic delaying tactic. It is designed to create doubt in the minds of politicians and policymakers who may not be across all the details. Typically, the industry claims that the reforms are an attack on hard-working small business owners and an assault on free enterprise. This approach works well to delay or compromise decisions. It is usually accompanied by claims that decision-makers should “balance stakeholders’ interests” (which means that the industry status quo should be maintained). The appeal to doubt can be best handled by decision-makers having a clear understanding of the ethical principles behind reform and why they must be supported in the public interest.
Reason 10: We should wait until…
In conjunction with unintended consequences, this is a powerful tactic employed by many industries facing the prospect of reform. In the case of the accounting profession, it’s often been combined with statements by the profession’s leaders that, while they accept the fundamental ethical principles, “now is not the right time”. I call this the St Augustine excuse, because as a youth, he was reported to have asked God to make him holy “but not yet”.
The Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry presents the opportunity of a generation to reform the financial planning industry permanently and genuinely. Whether that occurs depends on the resolve of politicians to resist the temptation to cave-in to disingenuous reasons and do what politicians usually do, which is compromise to get ‘something’ done. If history is any guide, the prospects for comprehensive ethical reform are problematic. It’s just possible, however, that 2019 will be different.