The regulation of retail financial services in the UK has been on an evolutionary journey.
July 2006 saw the introduction of the notion of “fairness” and the associated concept of “treating customers fairly” in the then Financial Services Authority’s publication, 'Treating Customers fairly – towards fair outcomes for consumers'.
Through a series of small incremental changes, the next significant development was the publication in February 2021 of finalised guidance on the fair treatment of vulnerable customers.
Now the retail financial services sector awaits the Financial Conduct Authority’s policy statement and final rules on the new consumer duty expected at the end of this month.
The consumer duty, which has been the subject of two consultations – CP21/13 and CP21/36 – is expected to raise the standard of care given to consumers of retail financial services.
Exploitation of information asymmetries, behavioural biases, distribution of products and services that offer poor value, or simply not providing appropriate information to consumers to pursue their financial objectives are some of the ills the consumer duty is expected to remedy.
While the desired benefits or intended objectives are undisputed, the real question for advisory firms is the extent to which the consumer duty introduces new and novel concepts, particularly in light of how the regulation of retail financial services has developed and evolved over the years.
Most of the language and terminology will not be new to the sector.
The question adviser firms are seeking to answer is whether the new consumer duty is simply a rehash of the existing regulatory frame or if it is new and different and therefore meriting further engagement.
Considered below are three aspects of the consumer duty that highlight some of the key changes it will introduce for adviser firms.
The sharp end of the distribution chain
Advisers are in a unique position as their regulated activities bring them in direct contact with consumers.
This differs from fund managers or platform providers who may or may not interact with consumers on an ongoing basis.
As a result, advisory firms will have the clearest oversight of a customer’s overall position.
As part of the product and services outcome, an adviser will have an important role in accessing information necessary for supporting determinations of the relevant target market or consumers’ reasonable expectations.
This will be required for its own advice proposition and, potentially, other parties in the distribution chain as well.
While target market obligations sit most heavily on a product provider as a manufacturer, an adviser’s holistic knowledge of a customer base will be an important source of information for target market assessments.
Practically, this will translate into time-consuming information gathering for advisers as product manufacturers and other parties in the distribution chain will inevitably seek to place reliance on an adviser’s more wide-ranging relationship with a customer.
Where an adviser becomes aware of changes in customer information previously communicated, there will be an expectation that advisers will communicate these changes to other parties in the chain. While information will also flow to the adviser, it is probable that much more will be expected to flow from the adviser.
Ultimately, it will be incumbent on firms in a distribution chain to allocate responsibilities proportionately.
Advisers and their firms are likely to have an elevated part to play in facilitating compliance with the products and services outcome where advice is provided as part of a package in a chain. The cost, process and burden for gathering and communicating this information is at this stage unquantified.
It will however be a pressing consideration in commercial contract negotiations between advisory firms, product providers and other intermediary firms.
Facilitating consumer understanding
Providing the right information at the right time to assist the average retail consumer in achieving their financial objectives is a central feature of the consumer understanding outcome.
The consumer understanding requirements apply to all firms involved in the production, approval and distribution of consumer communications.
Advisers, as distributors of communications, will have a duty to provide clear, understandable communications that allow the intended recipients to evaluate their options.
This will need to be done without the benefit of having prepared the communication, as common practice is for the product provider to give pre-prepared literature to the adviser.
This literature will have no scope for amendment or alteration.
The solution in these circumstances will be for the advisor to communicate any identified gaps in consumer understanding occurring as a result of a defect in the literature to the product provider for remedy.
Dealing with resultant complaints, claims of harm or detriment will need to be carefully addressed between parties in the chain.
Under the FCA’s proposals, firms are expected to tailor communications to the identified target market.
In addition, when a firm interacts with a consumer on a one-to-one basis – as will be the case in an advisory context – there is an onus on the adviser to tailor communications in line with the specific information needs of the particular client.
This will mean advisers will need to consider using different communication channels; layering the information so it is given in phases and other approaches to meet the consumer understanding outcome requirements.
Firms are required to test consumers' understanding of communications as part of this outcome under the duty.
The FCA’s guidance directs that when communicating with individual customers, as will be the case when providing regulated advice, firms should use opportunities presented during routine interactions to check that consumers understand the information presented to them.
In practice, this will mean advisers will be expected to tailor their communications on an individual basis; test an individual’s understanding while simultaneously seeking to give advice that meets suitability criteria under the FCA’s framework of complex conduct-of-business requirements.
Price and value and adviser charging
A lack of fair value under the duty amounts to consumer harm and serves as an indicator of a lack of good faith under the FCA’s consumer duty proposals.
Fair value in simplistic terms requires a clear and positive correlation between the price a consumer pays for a service and its overall benefits.
As part of assessing fair value, advisers will be expected to obtain information from product providers on the value assessment conducted for a product they may later advise on and offer to a customer.
This fair value information must be borne in mind in any remuneration decisions an adviser subsequently makes.
Although every firm in a distribution chain is responsible for ensuring consumers do not receive poor value for any pricing within their remit, the FCA‘s proposals are clear: the firm at the end of the distribution chain has responsibility for ensuring consumers do not receive poor value.
From an advice perspective, this assessment should be conducted not just in relation to advice charges but should also take into account the overall cost to the customer, including all product and distribution charges throughout the chain.
One question the consumer duty does not address is whether, by being at the end of the distribution chain, an adviser firm is expected to always bear the adverse impact of a resultant higher overall fee, which may not represent fair value for customers.
In such circumstances the FCA expects that an adviser will not promote or use such products or services in its advisory process.
From a consumer perspective, this achieves the short-term objective under the duty. From an adviser’s perspective, it is difficult to see how this will be a sustainable model for the adviser market in the long term.
What should advisers do to prepare?
Clearly the consumer duty will impose a number of new and potentially challenging requirements.
On the basis of the two consultations and draft rules, adviser firms should have begun carrying out a number of preparatory tasks in anticipation of the final rules, which are expected to be published towards the end of this month.
Some of those preparatory actions will include:
- Reviewing commercial agreements. This review should consider management information obligations; allocation of duties and responsibilities; pricing and other information provision obligations with product providers; platforms and other parties in in the distribution chain.
- Establishing testing and monitoring arrangements. The duty requires firms to determine an appropriate methodology for assessing matters such as fair value of the service or consumer understanding of communications. Engaging with third-party specialist consumer testing firms will be part of the solution. In addition to testing, firms will be expected to retain records evidencing that testing and monitoring to demonstrate compliance with the duty.
- Assessing the firm’s IT infrastructure. Data management and other information are at the heart of all four outcomes of the duty. Collecting, assessing and interpreting the data and information gathered will be a key part of complying with requirements. Ensuring a firm’s current IT infrastructure will have the functionality and capacity to manage the new requirements in addition to what is currently required under the existing advice framework will be an important consideration.
It is clear the consumer duty builds on the UK retail financial services sector’s ongoing journey.
Although there are familiar and well-known concepts and premises, there is much that firms need to fully grasp and understand to be ready to meet the higher standard of care that will be expected of adviser firms from April 2023.
So, to answer the question posed at the outset: are advisory firms at risk of incurring significant costs and regulatory burdens for standards they are already meeting? Is the consumer duty simply more money for old rope?
The short answer is no.
Noline Matemera is a partner at UK law firm TLT