The definitions of “retail”, “wholesale” and “sophisticated” clients are fundamental to how financial advice is delivered in Australia. But the thresholds for tests used to classify clients have not budged in more than two decades, making them outdated and potentially exposing advisers to unintended risks.
The Professional Planner Licensee Summit heard that the wealth of the average Australian household has increased by 70 per cent since 2014. Genium Investment Partners co-chief executive and chief investment officer Chris Lioutas said that in 2001 just 1.9 per cent of the Australian population qualified as wholesale investors, at the end of 2024 the figure was 18 per cent, and it is projected to grow to 43 per cent by 2041.
Advisers may be tempted to classify a client as “wholesale” or “sophisticated”, in the belief it will release the adviser from highly prescriptive advice rules and laws, and embolden them to charge a lot more for the advice they provide. But the summit heard that there’s a number of issues advisers need to consider before stampeding down what might look like a route to riches and unregulated advice.
It heard that advising wholesale clients is no less “risky” to an adviser than advising retail clients, and there is no inevitable link between an individual’s wealth and their sophistication as an investor.
The wholesale-retail tests are outdated, and retail advice models do not always readily translate into delivering wholesale advice.
A wider range of products available to wholesale clients does not automatically guarantee better investment outcomes; and clients, whether retail or wholesale, are only human and will react the same way to receiving poor or inappropriate advice.
“If you deliver negative portfolio outcomes, I can tell you that the most sophisticated clients suddenly become very, very unsophisticated in the way that they’re unhappy about the way you’ve put a portfolio together,” Paul Heath, the chief executive of high-net-worth advice firm Koda Capital, said.
Simon Carrodus, a partner in law firm Hamilton Locke, said the wholesale-retail client tests have not changed since 2002 and despite a recent review by government, “I don’t think anyone would be surprised [that] those three financial thresholds are not going to change, not in the short term”.
“The main three tests that we always talk about are the three financial tests, which is $500,000 [invested] into a financial product, or the individual tests of $2.5 million in net assets or $250,000 of gross income for the last two financial years,” Carrodus said.
The government review ultimately recommended no change to the wholesale client tests, largely because of the potential disruption to advice businesses from a large number of clients being suddenly reclassified as retail.
Sophisticated is different
Carrodus said sophisticated clients are assessed slightly differently from wholesale clients. Even if they fail the three financial tests they can qualify under Section 761GA of the Corporations Act.
Essentially, Carrodus said, they can self-appoint themselves as “sophisticated” by saying they can understand a product disclosure statement (PDS) and other relevant investment materials.
“We’ve always found that really risky, and we don’t advise our clients to do it,” Carrodus said.
He said it’s been suggested financial literacy tests could replace subjective self-assessment, but “that’s not how the law is currently drafted, and I don’t think that’s going to change” either.
Retail clients, compared to wholesale clients, receive advice in a more tightly regulated environment. This provides more structure, consistency and consumer protection, but it potentially limits the investment opportunity set.
Matt Brown, the CEO of Fortnum Private Wealth and Personal Financial Services which is owned by Entireti, said wholesale clients still make up a small minority in the network, at between 5 and 10 per cent, but it has “doubled in the last few years”.
“I think there’s some real reasons behind that, and the uncertainty and the areas of grey that it creates and risks that advisers have been concerned about for a lot of reasons for a lot of years,” Brown said.
“I think we’ve all experienced some advisers who have been paralyzed into doing anything new for fear of doing it wrong.”
Brown said advisers have moved into advising wholesale clients initially in many cases “because a broker or an originator down the road was trying to poach a client, or a particular client has a bucketload of money now and they’ve got an interest in in water or transport or a niche area that it’s really hard to get exposure to”.
“They’ve been reactive over the last few years,” he said.
“But what are we seeing now? Those who do it well, have a very distinct, different offer and a different skill set around it, and they’re coming to us to partner with them in a different way.
“They often name it something different, but they have an infrastructure sit around their wholesale clients.”
Brown said that while clients are attracted to the exclusivity of a wholesale advice offer, the same “applies just as much to a financial planning firm”.
“It’s not just their clients who are looking for something different,” he said.
“It’s that exclusive part of my business, and I’m going to come to you because you’re a client of mine and you’re important, and I’m going to give you access to stuff you just won’t get anywhere.
“It’s a pre-emptive strike before a client talks to their accountant or broker or originator somewhere else. We are seeing a fair bit of that, and it’s like a snowball [among advisers]. It’s something different and it’s a new conversation that they can inject into their own business model.”
Changes to the profession
Koda’s Heath said it’s not only increases in personal wealth that have made the retail-wholesale test redundant, but also changes to the advice profession itself. Heath said Koda is a predominantly wholesale advisory business but retains a retail advice capacity to deal with clients – for example, the children of wholesale clients – who don’t meet the wholesale definition.
“I hate the wholesale-retail construct,” he said.
“It’s a legacy that dates back to a time when advice was all about flogging products. I don’t think there’s any appetite for it to change, but if ever you get an opportunity to talk to anybody who might change your regulation, I think this is useless.
“Showing up with two and a half million bucks, does it make you sophisticated or not? It doesn’t. It’s just an abstract number. It’s such a pointless thing.
“Wholesale is about offering a range of services to clients with more complex needs. This wholesale-retail test is just about investments and products. Clients want a range of advice around structuring and tax and getting things in the right areas, philanthropy and social capital, family and legacy right, and none of those things are covered by this framework.”
The summit heard that advisers must recognise that delivering wholesale advice comes with significant complexities and consequences for advice business models.
Carrodus said that prior to the Hayne royal commission the distinction between wholesale and retail clients existed but “it probably didn’t make much difference” to how advisers operated.
“Then suddenly, after the royal commission, it really, really did,” he said, and advisers had to make the distinction very clear.
“Some of them have gone the whole hog and either, if they had only a small number of retail clients, sold them off and gone full wholesale; others have decided to run two licenses, so you have retail [and] wholesale license under the same brand, and have done that very successfully; others have started the process and realised it’s bit too hard, not really worth it for us, and decided to continue treating everyone as retail,” he said.
“For those that have made that choice, the overwhelming reason is they didn’t want to have two separate advice processes. Even though there’s a lower compliance burden with the wholesale one, you’re still running two, and that was too difficult, especially if advisers were acting across both cohorts.”
Greater complexity
Genium’s Lioutas said that product complexity is generally significantly greater in the wholesale space, and in addition to requiring much higher minimum investments and less liquidity, in many cases, the degree of disclosure and transparency can be considerably lower.
“Complexity and low transparency aren’t a good combination; [they] generally spell disaster,” Lioutas said. “If you’re a product manufacturer sitting in front of a researcher and your selling point is, ‘Trust me, I’m good’, it’s not a good starting point.”
Koda’s Heath said that traditionally a feature of a wholesale client advice offer has been “a sense of exclusivity, something that’s unique because of your status in where you are around your wealth”.
“But I would also observe that in my experience, being in the market since 2000 when this first came in, there’s much more merging today of what is really those wholesale opportunities and PDS products,” Heath said.
“In the PDS world today, there’s access to private market strategies and all those sorts of things. Even that investment distinction is blurring, which is why the experiential thing actually starts to become more and more important going forward.”
Lioutas said wholesale advice “requires a different investment philosophy, a different approach,” and demands “significant upfront and ongoing education” of advisers. But he said demand from clients for wholesale investment advice and opportunities is real, although the reasons for the demand have shifted.
“When I started industry 20 years ago, wholesale product was all about higher returns,” he said. While that’s still true for some, a lot of the conversation today is centred around seeking differentiated returns, he added.
“There’s obviously an increased awareness around sovereign wealth funds, larger superannuation and pension schemes, particularly in the US, and endowment allocations,” Lioutas said.
“To cite an example, the Future Fund today, 40 per cent of their asset allocation is non-traditional. It’s published, you can see it, people are aware of it.
“There’s obviously reference to this happening in market, and it’s like, why can’t we have that too?”
