Financial advisers have never been under greater scrutiny.
The advent of financial advice review schemes, such as those offered by the Commonwealth Bank and National Australia Bank, and the recent federal parliamentary inquiry into the major banks, have put firms under the microscope.
Moreover, financial advisers have never been more regulated; since the commencement of the Future of Financial Advice (FOFA) reforms, a number of legislative changes have been implemented, making the obligations associated with the provision of financial advice more onerous, as well as increasing the penalties for failing to meet those obligations.
The following list sets out eight actions advisers should eschew to avoid legal liability. More specifically, this list sets out the types of things plaintiff lawyers look for in order to establish whether there is a case against an adviser.
Failure to provide documents
Financial advisers are required to provide documents to their clients at particular junctures during the advice process. These include, but are not limited to, a Financial Services Guide, Statement of Advice (SoA) and Product Disclosure Statements (PDS). Failure to do so raises an initial inference that the client’s decision to invest in a product was not fully informed and the advice provided was either inappropriate or not in the client’s best interests.
Failure to keep adequate records
Failure to document advice, and the basis for that advice, adequately may leave an adviser open to liability for failure to provide appropriate advice, failure to act in a client’s best interest, and/or failure to provide necessary disclosures or documents to the client.
More importantly, it may result in an adviser being unable to defend allegations they have breached their obligations to their client(s). It is imperative advisers document all stages of the advice process, including maintaining detailed records of:
- All instances when information regarding the client’s personal circumstances, financial situation, needs and objectives are obtained
- Bespoke disclosures made to clients in SoA, Records of Advice and/or PDS
- All communications with clients, such as meeting file notes and correspondence. In particular, recording any express client directions regarding the manner in which their funds are to be invested.
Advisers should also ensure all documents are clearly dated and signed where appropriate.
3. Risk profile errors
A client’s reported risk profile has historically formed the basis for much of an adviser’s asset allocation and is typically determined through the completion of a risk profile questionnaire (RPQ). If an erroneous risk profile is calculated from the RPQ, this will probably result in inappropriate advice having being provided.
Notwithstanding an adviser’s compliance with all advice and disclosure obligations, if the product recommendations are not correctly implemented, and this error leads to loss for the client, liability will arise. Implementation errors can arise from investing the client in the incorrect product (often due to similar product names) or in the incorrect value.
Failure to act in the client’s best interests
Determining whether advice is in a client’s best interests is a complex assessment involving many factors. The ‘best interests’ duty requires an adviser to improve the client’s financial position in light of their relevant financial situation, needs and objectives (including their tolerance for risk). Failure to consider all of these factors may result in an adviser whose advice would have been “appropriate” pursuant to the former regime, having breached the current best interests duty and, as a result, exposed themselves to potential liability.
Take, for example, a client whose risk profile is “growth”, with $1 million to invest, who instructs that her objective is a secure investment that will achieve a return of $50,000 a year (a 5 per cent return). Pursuant to the best interest duty, a term deposit with a 5 per cent annual return should be recommended, as it will meet the client’s objectives while minimising exposure to capital fluctuation. Prior to the FOFA reforms, and the introduction of the best interests duty, it would have been appropriate for the adviser to recommend a growth portfolio consistent with the client’s risk profile that was capable of satisfying her objectives, notwithstanding she then assumes significantly more risk.
Misleading or deceptive conduct
Advisers must ensure they do not make misleading or deceptive statements to a client either orally or in writing. Misleading or deceptive statements might relate to comments about the performance of an investment product that are not justifiable, assertions that an investment product is appropriate for a client when it isn’t, or more general statements regarding capital security that are inaccurate.
Failure to justify switching client’s investments
When advising a client to switch from one product to another, advisers are required to consider the benefits and disadvantages of both the existing and new products, including the associated costs and risks. It will be appropriate to switch a client only if the net benefits that are likely to result from the switch are in improvement upon the old product. The best interest requirement obliges advisers to provide reasons that have a proper basis, rather than the industry standard of a mere roll out of standardised justifications that have no relevance to the client’s needs and objectives.
Inappropriate asset allocation
Inappropriate asset allocation occurs when a recommended asset mix does not accord with a client’s risk profile. This may transpire because the adviser has recommended products that result in overweighting/underweighting in disclosed asset classes. Alternatively, it may occur when the adviser fails to consider a client’s pre-existing investments. When that occurs, the resulting advice is likely inappropriate.
So, what benefit comes from the above?
When the above requirements are met, it will not make advisers bulletproof, but it will go a long way towards providing a solid framework for ensuring unmeritorious claims stand to be dropped at an early stage, thus lowering the costs of dealing with such a claim, on both an internal and external basis.
Ben Whitwell is a practice group leader, and Jonathan Risby is a lawyer, in Slater and Gordon Lawyers’ commercial and project litigation group. Both are also members of Slater and Gordon’s CBA Open Advice Review Program team.
TOPICS: legal, reform