Retail Distribution Review
Written evidence submitted by Which?
Introduction
Which?, the UK’s largest consumer organisation, is strongly supportive of the measures contained within the Retail Distribution review (RDR). Consumers need access to good quality financial advice and Which? firmly believes that the Independent Financial Adviser (IFA) industry is best placed to offer this advice.
However it is clear that the current model does not deliver for consumers and we would argue that change is essential. We believe the RDR contains necessary and commendable proposals that will deliver benefits for those seeking access to good quality financial advice and we hope MPs will give it their support.
The impact of receiving poor advice can be financially disastrous, but consumers face a minefield in their attempts to find good quality financial advice. Our investigations have revealed worryingly poor performance by advisers (although IFAs do perform better than banks). In September 2006, 74 per cent advisers failed to pass all our benchmarks for good advice, (66% of IFAs and 84% of bank advisers) while in October 2007, 60 per cent of advisers failed to pass (52% of IFAs and 68% of bank advisers). In our April 2010 investigation into bank advice, 89% of bank advisers failed to pass.
We note that the succession of mis-selling scandals and poor advice has cost consumers (and the industry) a significant amount more. To give some examples, the FSA’s pensions review had by 2002 resulted in 1.7 million consumers receiving compensation totalling £11.8 billion while by 2006 the industry had considered over 1.8 million endowment complaints and paid compensation in excess of £2.7 billion. These cases of course resulted from mis-selling on a systemic scale but significant mis-selling persists and is costing consumers hundreds of millions of pounds each year - the FSA's cost benefit analysis estimated that the detriment to consumers from four of the most recent cases of inappropriate advice concerning pensions, equity ISAs and investment bonds was £223 million per annum. If the RDR can tackle this mis-selling it will be money well spent, and could actually save the industry money by cutting the amount they pay in compensation and associated administrative costs.
We are aware that a small, but extremely vocal, minority of IFAs oppose the measures contained in the RDR. However many IFAs, including their trade association, the Association of Independent Financial Advisors (AIFA), accept the need for change and are increasingly embracing the proposals as a means by which they can restore their reputation with consumers and expand their businesses.
It is only proper that the FSA is using the RDR to ensure their regulations support the type of business model that delivers for consumers, rather than acting to protect the current flawed business models of the industry.
However, we believe that further action is necessary in the run up to the implementation of the RDR to tackle poor investment advice given by banks, to ensure that the services provided by banks are appropriately labelled and to educate consumers about the changes and to help them feel comfortable engaging with advisers about the cost of advice. We are also concerned that ‘structured deposits’ remain outside the scope of the RDR.
A transparent and fairer charging structure
Which? welcomes the proposals in the RDR to separate out the cost of advice from the cost of products. We believe that remuneration and charging structures have been one of the root causes of consumer detriment and mis-selling scandals in the pensions and investment sector. Commission creates a conflict of interest between the consumer and the adviser. It creates bias away from courses of action, such as debt repayment, that are right for the consumer but do not generate commission. It creates bias towards higher cost products to allow for the costs of commission and towards certain types of products such as investment bonds which pay higher levels of commission. It also creates bias towards product providers which are offering the highest levels of commission and away from those offering the best value products.
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The potential impact of commission on consumers
A recent case received by our money helpline concerned a couple who were about to pay commission of over 8%, or around £34,000 for advice to invest in three investment bonds.
Mr and Mrs H, a couple in their late seventies were contacted by an adviser at their bank who suggested they might be able to recommend a better place for their money. Prior to this meeting most of Mr and Mrs H’s savings were held in cash ISAs and bank deposits. The adviser recommended that they invest £40,000 each into a Portfolio Bond. Mr and Mrs H were both in their late seventies at the time of the sale and made it very clear to the adviser that they did not want to take any risk with their money. The adviser reassured them that the investments were ‘virtually risk-free’ and that some of the money would be invested into property, which ‘never goes down’. When the couple contacted us, both investments had been reduced to £29,767.72 each. This gave Mr and Mrs H a total loss of £20,464.56 in under three years – hardly a ‘virtually risk-free’ investment.
In one of our mystery shopping exercises, an IFA recommended that all of a consumer’s portfolio of £32,000 should be invested in an investment bond which paid the adviser £1,600 commission. The factfind took just 10 minutes with little examination of the consumer’s attitude to risk or financial circumstances. The whole advice process took just 40 minutes.
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We also believe, over time, the RDR will result in a more efficient market and will bring costs down for consumers. There is clear evidence of commission bias in the market, where an increase in commission results in an increase in sales. This not only leads to unsuitable advice, but also increases the overall costs borne by consumers as product providers compete for business by increasing commission and increasing the charges levied on the final customer. If a product provider wants to gain market share in the current environment is to increase product charges and to increase commission payments to advisers. A move away from commission should help ensure that product providers compete by offering better value for money and lower cost products for consumers. Even a small decrease in the overall charges for consumers on the £109 billion of annual new business would represent a significant saving. There would also be a further benefit from the reduction in ongoing charges.
Many consumers do not understand how they pay for financial advice at present, and it is therefore difficult for them to assess whether they are getting value for money. Consumer understanding is not aided by the way in which the industry discusses, or fails to discuss, the cost of their services. In our research into investment advice in October 2007, 82% of all advisers failed to explain the Keyfacts of Costs document or have a meaningful discussion about how the advice would be paid for. One IFA said "Now if you agree to take out my recommendation, then I’ll get paid by whichever … investment company it is. So, as far as you’re concerned you’re not really paying for advice." One Bank adviser said "If you went to an IFA they would charge you £100 an hour for advice, but its all free here."
Consumers’ attitudes to adviser remuneration
Our focus group research showed that consumers are clearly concerned about the impact of commission on the quality of advice they receive. At best they believe it will encourage the adviser to give good advice but bias the recommendation, and at worst may result in inappropriate advice.
"Is that product the best thing for you or the best commission for them."
"Even if they say they’ve got your best interests at heart they haven’t because it is what they will get paid at the end of the day."
"It does make you distrust them a little, are they going to go for that because they are going to get more commission?"
Currently, financial advisers are not viewed as having a high professional standing but our research suggests these changes to the remuneration structures would overcome some of the suspicion associated with the advice process and make the service appear more professional and customer focused.
"It is taking away the choice of going to the company which gives them the biggest commission, they are actually focusing on the product which is best for you which takes that element of the whole commission away. You should get better advice."
"The adviser is making it physical to you up front. At the moment it’s all hidden."
"By doing that it becomes more professional. It takes away the sales element. If you went to a solicitor you expect to pay for their service.
"They are obviously cleaning up the house, they are going to be more accountable."
While consumers widely welcome the move away from commission, it is clear that many consumers will not know what a fair price to pay for the advice they are receiving or how to negotiate with financial advisers. More needs to be done in the run up to the end of 2012, both on a general level to increase awareness of the changes and specifically to help consumers feel comfortable with engaging with the adviser about the cost of the advice and to help them understand what a reasonable price would be for the advice provided.
A better qualification framework for advisers
The current minimum qualification a financial adviser is required to hold before they can give advice is set at Qualifications & Credit Framework (QCF) Level 3. This is equivalent to an A-Level examination. We cannot see how this is remotely appropriate as a minimum standard for an individual whose advice has such an enormous impact on people’s lives. When you compare the level of training necessary with that of an accountant or a solicitor it is hardly surprising the current qualification standards do nothing to support consumer confidence in the industry and the quality of the advice they receive.
As a result we welcome the moves in the RDR to improve the professionalism of those offering financial advice and selling financial products. Many advisors are already qualified at a level above the level required by the new proposals so will not be affected by the change. Many others are taking action to increase their level of qualification and the FSA has taken steps to ensure there are a range of options available so that those advisors who do not wish to sit written exams can take an alternative route.
We appreciate the fact that any regulatory change on this scale can be difficult for some of those already in the industry to handle. However it is clear that the current service offered by the industry as a whole is simply not good enough and we would strongly oppose any proposals to introduce grandfathering rights. While in many cases experience does bring wisdom it simply cannot be said that, just because someone has been in the industry for a long time, they provide a good service to consumers. Widespread grandfathering would also result in a significant number of bank advisers and IFAs being automatically upgraded to the required level, which would mean that it would take a generation for the higher standards of professionalism to implement. This would be totally unfair on the significant number of IFAs who have already put significant effort into gaining the new qualification. According to research carried out in March 2010, 49% of all individual investment advisers were already appropriately qualified and a further 40% expected to have completed the qualification before the end of 2012. Furthermore we would argue that for good quality, experienced IFAs the cost of gaining the qualification will be lower than the maximum assumed by the FSA as they will be able to draw on their substantial experience when completing the examination.
The future of the independent advice industry will not be decided in the next two years, but in the next 10 years. It is important that the industry has a level of ‘professionalism’ and a reputation which makes it attractive to graduates and also ensuring that more apprenticeships are available so that more young people see it as a viable career option.
Greater clarity around the type of advice being offered
Which? has consistently argued that there must be a clear distinction in the market between those offering independent, unbiased advice which is in the best interests of the consumer and those simply trying to sell one of a limited range of products (such as those advisers who work in banks). The labels attached to the proposed services will be important and must give the desired clarity for consumers. We are not convinced that "Restricted adviser" is an appropriate label, preferring "Sales Representative" as it removes the illusion of impartial advice being given.
In addition to ensuring clear labels, the FSA must monitor how the services offered are described to consumers. In our mystery shopping research, 37% of tied advisers gave misleading disclosures about the service they were offering – implying that they could provide a larger degree of choice than was actually the case. This bad practice must not be tolerated under the new regime.
Given our consistent finding of poor advice from bank based advisers in our mystery shopping, we believe the FSA should commence a project examining the quality of this advice and take enforcement action against any bank found to be offering poor advice to consumers. This project should also examine how banks are planning to implement the move away from commission towards a more transparent and fairer charging system to ensure that in circumstances where the bank is both the product provider and the organisation providing the advice there is no potential to distort the cost of the advice or to reintroduce bias into the system.
Structured deposits
Structured deposits are products where the return received by the consumer are typically linked to the performance of a stock market index such as the FTSE 100. They have a variety of names, including ‘Protected equity bond’ or ‘Protected Capital Account’ and although these products can be complex, the regulatory regime classifies them as deposits which means that they are exempt from the requirements of the Retail Distribution Review. We have attached our recent article from Which? money on these products. We are concerned that unless this loophole is dealt with by the FSA, more firms may move to selling ‘structured deposits’ so they can continue to receive commission.
January 2011
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