The new mandatory investment adviser and broker disclosure regime comes into force on 29 February 2008.
From that date, advisers and brokers must give a “disclosure statement” to each client who is a member of the public mostly before they provide investment advice or accept investment money or property from that client. For advisers, the disclosure statement must include information about the adviser, the products they advise on, the way they are paid, and their relationships and potential conflicts of interest. For brokers, the disclosure statement must include information about the broker and their money-handling procedures. The disclosure statement must continually be kept up to date where there are material changes. Updates can be made through supplements.
Mandatory up-front disclosure is a significant change from the current two stage (initial and on request) disclosure regime of the current Investment Advisers (Disclosure) Act 1996, and will affect advisers’ and brokers’ everyday operations.
The new regime also regulates advertisements by investment advisers and brokers, and introduces a range of new penalties for breaches.
The Securities Commission announced last week that it will be contacting investment advisers as soon as next month to check on their compliance with the new regime. Advisers and brokers should ensure that they have updated their procedures and are in compliance with the new law from 29 February.
This note summarises key points of the new disclosure regime.
Who is an “investment adviser” or an “investment broker”?
Broadly, “investment advisers” are persons who, in the course of their business or employment give “investment advice”, except persons who transmit investment advice from the issuer or promoter of the securities. “Investment advice” is a recommendation, opinion or guidance given to a member of the public in relation to acquiring or disposing (or not acquiring or disposing) securities. Where the advice is given in the course of a person’s employment, both the person and their employer will be “investment advisers”. “Securities” includes futures contracts, but excludes call debt securities and bank term deposits. There is also an exemption for advice on term life insurance policies.
“Investment brokers” are persons who in the course of their business or employment receive investment money or investment property, except persons who transmit the money or property to the issuer. Investment money is any money received by an adviser or broker from a member of the public to buy a security, or any money received on behalf of a member of the public from the sale of such a security. Investment property means any valuable property (such as share certificates) received by an adviser or broker from a member of the public.
Increased adviser disclosure
Increased disclosure around fees, commissions, other remuneration, relationships and interests is required of advisers under the new regime. Soft commissions and indirect benefits from any source, relevant to the advice being given, must be disclosed.
Any interest or relationship the adviser or an associated person of the adviser has, or will or may have, that a reasonable person would find reasonably likely to influence the adviser in giving the investment advice, must be disclosed. Direct and indirect interests are included, as well as any financial or other relationship with any person connected with the investment, and any relationship with any other person (other than a professional body) who may reasonably be expected to influence the provision or content of the advice.
Interests and relationships shielded by “Chinese walls”, where the adviser is an employee of, or independent contractor to, another person and gives the advice in the course of that other person’s business, are exempted from disclosure. For the exemption to apply, the adviser must not know of the interest or relationship when giving the advice. The exemption does not apply to investment adviser firms who are not acting as independent contractors for other investment advisers, most particularly sharebrokers that have investment banking arms. However Chinese walls are still useful. Disclosure is required of the nature and extent of their associated investment banking primarily where such relationships are reasonably likely to influence the adviser. Where the adviser firm is unaware of the relationship, it would be unlikely that the adviser could be influenced by it.
Other new areas of disclosure relate to professional body memberships, professional indemnity insurance, dispute resolution facilities and adverse court findings. The Commission has advised that any absence of these new disclosable circumstances, bankruptcy, receiverships and professional body expulsions does not need to be disclosed. While views may differ on this interpretation, the Commission’s approach is a helpful guide as to how the legislation is likely to be interpreted in practice.
The requirement to provide a written disclosure statement before giving advice doesn’t fit naturally with situations where advice is given by telephone. An exemption has been developed to relieve advisers from this requirement where the adviser:
- verbally discloses the matters that are required to be disclosed in the disclosure statement when giving the telephone advice, and
- sends their client a written disclosure statement no more than five working days after giving the telephone advice.
Practically, this may lead to advisers having lengthy automatic phone messages for clients to listen to, or reciting a standard form statement each time they have a telephone call with a new client or a client they have not spoken with for a while (as the disclosure must continually be kept up to date where there are material changes).
An exemption has also been developed for disclosing interests and relationships where general investment advice (not relating to a specific investment) is given. The exemption can be utilised if the adviser reasonably believes that the usual disclosure in relation to fees and other interests and relationships is not material to the client in light of the general nature of the advice. However if the adviser subsequently gives specific advice to the client, the relevant disclosures must then be made. As clients will often discuss specific investments with their adviser at some point, we think this exemption may have limited benefit.
The regime also regulates the following advertising by advisers and brokers:
- “advice advertisements” – prepared by or for an investment adviser which contain or refer to investment advice or are reasonably likely to induce persons to seek investment advice
- “broker advertisements” – prepared by or for an investment broker which either refer to the broker or could induce people to seek the services of an investment broker, and
- “product advertisements” – prepared by or for an investment adviser that refer to public offers of securities or are reasonably likely to induce persons to subscribe for such securities, but which are not prospectuses or advertisements for the purposes of the Securities Act 1978.
Any form of communication can be an advertisement (including newsletters, seminar presentations, television or radio pieces and potentially even business cards). Every advice, broker or product advertisement must state that a disclosure statement is available on request and free of charge, and must not be deceptive, misleading or confusing.
Regime applies to advice and services given to persons outside New Zealand
The new regime applies to advice offered to, broker services performed for and advertisements received by persons in New Zealand, regardless of where any resulting advice occurs, any investment money or property is received, or the adviser or broker is resident, incorporated or carries on business. It also applies to advice offered to, broker services performed for, and advertisements received by, persons outside New Zealand by persons who are resident, incorporated or carry on business in New Zealand.
Breaching the new regime can carry serious consequences for advisers and brokers.
Failing to disclose information that the adviser or broker is aware of or ought reasonably to be aware of is a criminal offence, with potential liability to fines of up to $100,000 for individuals and $300,000 for body corporates. Distributing a deceptive, misleading or confusing advertisement is also an offence, with potential liability to a fine of up to $300,000 plus $10,000 per day for a continuing offence.
Recommending or receiving money in relation to illegal securities offers is also now an offence, where the adviser or broker knows or ought to know that the offer is illegal. The potential liability is to a fine of up to $300,000 plus $10,000 per day for continuing offences.
The Securities Commission has the power to make prohibition or corrective orders in relation to breaches of the regime. The Commission also has the power to make temporary banning orders restricting adviser or broker activities where a person persistently contravenes the regime.
The court has a range of powers (including to grant orders banning people from acting as investment advisers for up to 10 years, injunctions, corrective orders and disclosure orders). Civil remedies of up to $1 million are also available.
Ongoing reform of the non-bank finance sector
The Financial Advisers Bill and the Financial Service Providers (Registration and Dispute Resolution) Bill propose a new framework for regulating financial adviser and broker competency, accountability and disclosure. The Financial Advisers Bill, which had its first reading in the House on 19 February 2008, will change further the new disclosure regime described in this newsletter. Submissions on the Financial Advisers Bill close on 4 April 2008, and submissions on the Financial Service Providers (Registration and Dispute Resolution) Bill close on 28 February 2008.