Closed Consultation

Introduction

• 1.

  It is necessary to review the SRA's current position on the provision of independent advice both because of the Financial Services Authority's Retail Distribution Review and as part of a more general review of SRA Handbook requirements.

• 2.

  This consultation sets out the following:

  • The regulatory background
  • A summary of the issues which have arisen
  • A discussion of the options for revising the requirements of the Handbook
  • An initial analysis of the potential impact of possible changes

  The SRA seeks views on the options and the potential impact of the changes.

Background

FSA regulation of financial services

• 3.

  The Financial Services and Markets Act 2000 (FSMA) made the Financial Services Authority (FSA) the single statutory regulator of financial services in the United Kingdom.

• 4.

  The FSA has recently completed a Retail Distribution Review; aimed at improving the services which clients receive from providers authorised by the FSA. An outcome of that Review is that FSA regulated entities will have to improve the clarity with which they describe their services to their clients so that their customers know whether they are receiving advice that is independent or whether it is restricted in some way. This means that from 31 December 2012 advisers must ensure that customers understand that their advice is independent or restricted.

• 5.

  There is no assumption that a firm which currently meets the definition of giving independent advice will automatically be able to describe itself as independent in future. If a firm claims to be independent from 31 December 2012, the FSA's requirement is that it will need to consider a broader range of products than is currently the case (i.e. not just packaged products but also structured investment products, all investment trusts, unregulated collective investment schemes and any other investment that offers exposure to underlying assets, but in a packaged form which modifies that exposure compared with a direct holding in the financial asset); provide unbiased and unrestricted advice based on a comprehensive and fair analysis of the relevant market; and inform its clients before providing advice that it provides independent advice. The FSA's changes are designed to reflect the idea of independent advice being free from any restrictions that could affect the firm's ability to recommend whatever is best for the client.

• 6.

  Advice that does not meet the new FSA definition of "independent" in this context will in future be described as restricted advice; for example advice on a limited range of products or providers. Regulated entities falling into this category must disclose in writing and orally, before providing advice, that they provide restricted advice and explain the nature of the restriction. They will need to be satisfied that the products which they recommend are suitable to the client's needs.

• 7.

  Some financial advisers who currently describe themselves as independent may not satisfy the independence requirements of the Retail Distribution Review and therefore fall into the category of giving restricted advice after 31 December 2012.

Exempt regulated activities

• 8.

  Part XX of FSMA enables law firms which meet certain conditions, to be treated as exempt professional firms and to carry on activities known as exempt regulated activities under the supervision of, and regulation by, the SRA. These firms comply with the SRA Financial Services (Scope) Rules 2001 (the Scope Rules) in the Specialist Services section of the SRA Handbook. The Scope Rules include prohibitions and restrictions on what activities can be performed under the Part XX exemption.

Referral of clients for financial services

• 9.

  All law firms authorised and regulated by the SRA must comply with the SRA's regulatory arrangements as set out in the Handbook; including when referring their clients to a third party providing financial services.

SRA Handbook

• 10.

  The following sections of the SRA Handbook relate to the issues presented in this overview:

  • The SRA Principles
  • Chapter 6 of the SRA Code of Conduct 2011 (the Code) ('Your client and introductions to third parties') includes a requirement that where clients are likely to need investment advice they must be referred to an independent intermediary.
  • The SRA Handbook Glossary 2012 includes a definition of 'independent intermediary' and "packaged products".
  • Rule 5.1 of the SRA Financial Services (Scope) Rules 2001 (the Scope Rules) defines restrictions on recommendations for clients to buy investments in the form of "packaged products".

The issues

• 11.

  Several issues make it necessary to reconsider the Handbook provisions as they relate to the referral of clients to third parties for the provision of financial advice.

  • The term "independent intermediary" at Outcome (6.3) and in the SRA Handbook Glossary 2012 is confusing

    The Code provides that if a client is likely to need advice on investments they must be referred to an "independent intermediary". This term is of historic origin and is not used by the FSA. It has caused confusion historically and the SRA issued additional guidance on the term in July 2009. This clarified that clients needing investment advice must be referred to advisers who are able to advise on products from across the market (i.e. whole of market advisers) and who offer their customers the option of paying by fee or by commission.

  • Outcome (6.3) is not compatible with outcomes-focused regulation

    It has been argued that Outcome (6.3) of the SRA Code of Conduct 2011 pre-empts the solicitor's own judgment, by requiring a referral to independent intermediaries. The argument is that this is not aligned with outcomes-focused regulation as the SRA is prescribing how an outcome should be achieved.

  • Outcome (6.3) may be incompatible with the results of the FSA Retail Distribution Review

    The Retail Distribution Review is intended to create the situation where the difference between independent and restricted advice is more clearly stated and clients will be well informed about the different types of advice which they will receive and that the choice will be well informed. Use of the description independent intermediary, which is a historic term inherited from previous versions of the conduct requirements, does not clarify the position.

  • Use of the term "packaged products" in rule 5.1 of the Scope Rules and the SRA Handbook Glossary 2012 is out of date.

    The SRA uses the term "packaged products" when describing restrictions which must be observed by solicitors and others relying on the Part XX exemption. However, the FSA has replaced the term "packaged products" with the term "retailed investment product" which has a wider definition. It includes structured investment products, all investment trusts, unregulated collective investment schemes and any other investment that offers exposure to underlying financial assets in a packaged form.

Options

• 12.

  The SRA is considering three options for revision of the wording of chapter 6 and invites comments on these options:

  • Option 1 – to keep Outcome (6.3) but to alter the language to remove reference to "independent intermediary" and replace it with wording to reflect the terminology contained in the FSA's Retail Distribution Review.

    The Code would be updated using more appropriate language and making it clear that the outcome that must be achieved is for clients to be referred to financial services advisers who give independent advice whenever they are likely to require investment advice. This option would retain the prescriptive element of the outcome on the basis that the risks to the achievement of the SRA Principles in this particular area are so high that this is an appropriate and proportionate regulatory intervention.

    The revised language would have the same meaning as that given by the FSA and thus ensure alignment between the SRA and the FSA provisions.

  • Option 2 – to remove Outcome (6.3) from the Code, and to add a new Indicative Behaviour (6.3) which describes referral to an independent adviser

    An alternative analysis is that such a prescriptive intervention is not proportionate or targeted to the particular risks and that the issue is appropriately addressed by the SRA Principles and the other requirements in Chapter 6 which apply to other types of referrals to third parties. Notwithstanding the removal of Outcome (6.3), firms would continue to need to demonstrate that they are achieving Outcomes (6.1) and (6.2). These are intended to support the overarching SRA Principles including the requirement to act in each client's best interests (principle 4).

    If this option were adopted, then Indicative Behaviours would be redrawn (in language compatible with FSA requirements) to reflect the type of behaviour which would tend to demonstrate that the outcomes had been achieved.

  • Option 3 - to amend Outcome (6.3) so that clients are in a position to make informed decisions about referrals in respect of investment advice

    If this option were adopted, it would place the firm and the client in a position where the firm would need to ensure that the client was involved in the decision process by having sufficient information about the status of the financial adviser, the law firm’s relationship with the financial adviser and other pertinent information. This would give the client a general understanding of the potential restrictions or otherwise which may result from the recommendation and be placed in a well-informed position and able to make an informed choice. This would mean that the lawyer and the client would work out whether an independent or restricted adviser would be the best choice in keeping with outcomes-focused regulation. This style would also mirror the wording of the outcomes in chapter 9 of the SRA Code which relate to referrals of clients to a law firm.

• 13.

  The SRA's provisional preference is for Option 3, for the following reasons:

  • It supports outcomes-focused regulation as it does not prescribe how the outcome must be achieved

  • It reflects the possibility that under the new regime introduced through the FSA’s Retail Distribution Review, many firms which are currently described as independent financial advisers or independent intermediaries may not be able to label their advice as independent because they will not, for example, advise on a sufficiently broad product range meaning that in the absence of the changes suggested under option 3, the lawyer would be unable to recommend them to their client

    • It means that the lawyer must ensure that the client understands the implications of a particular recommendation
    • It ensures that the client is involved in the decision-making process
    • It removes restrictions of customer choice, if seeking financial advice referral through a solicitor.
• 14.

  The SRA is also proposing to amend the wording of the Scope Rules so that in rule 5.1 and elsewhere, the term "packaged products" is replaced with the term "retailed investment product", with the same meaning as that given by the FSA. The definition is also included in the SRA Handbook Glossary 2012 and the SRA proposes that this is removed. The SRA also invites comments on these changes.

Equality impact assessment

• 15.

  An EIA will be undertaken as part of this process and will be published in order to determine whether any of the options in respect of Outcome (6.3) would have an adverse impact on any equality group.