House of Commons - Retail Distribution Review

Retail Distribution Review - Treasury Contents

6 Overall costs and benefits

Introduction

70. As we have already seen, several of the proposals contained within the RDR have caused controversy within the industry, while those especially concerned have been Independent Financial Advisers. In particular, complaints have been raised against the changes to the qualification levels and the systems of remuneration, and there has been suggestion both of advisers leaving the market, and advice becoming unavailable to certain groups of people, especially those on lower incomes. It is unsurprising that given this impact on advisers within the market, the costs and benefits of the RDR are also contested by some.

Benefits of the RDR

71. Before turning to the potential detriment of the RDR, which has been the focus of many of the submissions we have received, it is important to examine why the FSA has decided to continue with the RDR while faced with continued criticism from some quarters. In its evidence to us, the FSA outlined why it felt intervention in the market was necessary:

The RDR was launched in response to both our, and market participants' observation of significant problems in the UK market for retail investments. In deciding whether to invest, consumers are being asked to make decisions about markets which are, by their very nature, uncertain and which can be complex. When they decide to invest they are also being asked to take risks which can often be quite difficult to assess and they may not crystallise until a long time after the decision to invest was taken. This is one of the main reasons why consumers seek advice; it is also why consumers need advisers they can trust, why advisers need demonstrably to behave in a professional way and why the interests of advisers need to be clearly aligned with those of their clients. These are not characteristics of the retail investment market.[91]

72. It should be noted that the FSA is not the only body supportive of the measures contained within the RDR. Which? told us that:

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.[92]

The Financial Services Consumer Panel was also supportive, and provided us with examples of how they felt the RDR would improve the market:

The Panel has taken a close and active interest in the development of the RDR and we continue to support both its objectives and how the FSA proposes to achieve them. In our view the RDR presents great opportunities to the industry as well as challenges, but with consumers being the true beneficiaries of the RDR—the advice market is currently weighted in favour of industry and the RDR will establish much needed equilibrium.

How will this be achieved? By:

—Eliminating bias in the market.

—Changing the relationship between the independent adviser and their client to one where the adviser is the agent of the client, not the product provider.

—Providing clarity about the nature of the advice service being offered, how it is to be paid for and by whom. As the FSA has said, "it cannot be right to hide the cost of advice from consumers, with the intention that they neither see the cost involved nor value the services they receive. We cannot both support structures that conceal the cost of advice and complain about consumers not being prepared to pay for it. A paradigm shift is needed".

—Ensuring that financial advisers are appropriately qualified, complying with standards of ethical conduct and aware of developments and innovations in the market.[93]

The FSA also provided us with data on the detriment they felt was suffered by consumers from mis-selling. In the following tables, they provided information on the cost of recent problems within the market (Table 3), and then estimated potential annual detriment in the market for retail investment product new business (Table 4).

Table 3: Examples of previous mis-selling

Examples % of unsuitable sales Illustration of annual consumer detriment

Pensions being transferred inappropriately 16% £43 million

Unit Trusts sold outside an ISA where a tax benefited equity ISA was more suitable 12-20% £70 million

Investment bonds sold outside an ISA where a tax benefited equity ISA was more suitable 12-20% £92 million

Personal pensions A 1% increase in commission leads to an increase in personal pension market share of 1.4% Up to £18 million

Source: Financial Services Authority, Ev 25

The examples provided by the FSA in Table 3 suggest "approximately £223 million of detriment arising only from those sales that were unsuitable", as well as adding that "Research on mis-selling is not available for all products in the market, and therefore this figure of £223 million is likely to underestimate total consumer detriment".[94] Table 4 provides some scoping of potential mis-selling annual in the market for retail investment product new business, which the FSA estimates to be around £0.4-0.6 billion per year.

Table 4: Potential mis-selling

Total annual market
(£ bn)
Average unsuitable sales Level of consumer detriment Total annual detriment (£ bn)

109 12% 3% 0.4

109 20% 3% 0.6

Source: Financial Services Authority, Ev 25

73. Not all took the FSA's figures as an accurate reflection of the benefits to be had from the RDR reforms. SimplyBiz noted that:

The benefits of the RDR are wholly uncertain and whilst we note Hector Sants' letter regarding the cost of consumer detriment from mis-selling, such comparisons as are quoted by the FSA relate to circumstances and conditions which in the main are no longer applicable or include other channels which make the figures unreliable in relation to IFAs.[95]

Alongside this, written evidence by Roger Heath, an IFA, who drew our attention to other work:

Paul Mcmillan (in the 06/01/2011 issue of MoneyMarketing) points out that the table purporting to show an annualised consumer detriment total of £223 million for mis-selling contains data which is:

—out-of-date;

—skewed by the inclusion of tied and multi-tied advisers (eg a large retail bank); and

—takes no account of subsequent developments such as falls in upfront commission levels, behavioural changes by advisers and the decline in the sales of investment bonds.[96]

TRUST IN ADVISERS

74. One of the aims of the RDR is to increase the levels of trust in advisers. As the FSA noted:

The number of people currently seeking advice, as a proportion of the population, is small. If more people are to seek advice in the future, then they must both trust the advice and view the service as good value for money. Our proposals address both these issues by improving the likelihood of there being trust and confidence in the market and by making clear to consumers the cost of advice and the nature of the service they are going to receive.[97]

This was reaffirmed during the hearing with the FSA. Ms Nicoll, when asked whether the RDR was going to achieve an increase in trust levels, replied:

We hope so and we intend so, and we intend to monitor that fact. Once the RDR is in place, we will have a programme of continual monitoring of achieving what it is that we are seeking. One of them will be in this particular area in consumer research and the confidence and trust that they have in this market.[98]

Mr Sants was also keen to stress that trust was "an absolute key yardstick by which the success of the RDR should be judged and we do believe that it will improve trust".[99] He went on to note that:

It is not just that 40% figure. You have the other 70% of people not seeking investment advice at all. So we have 70% of people who don't seek advice at all and 40% of people who do don't trust the advice they get. That, I think we would all recognise, is a problem to be solved and this, we hope, will make a significant contribution to improving those statistics.[100]

The FSA also provided us with further detailed information on the statistics on trust used by them during our hearing. As Table 5 shows, even when financial advice is taken, people may not trust that advice. 39% of people who use any type of adviser do not trust financial advice, showing the need to increase trust levels.

Table 5: Levels of trust of financial advice

% of adults % trusting financial advice % not trusting financial advice

All 45.0 48.0

Using any adviser 30.6 60.0 39.0

Not using a financial adviser 69.4

Source: Financial Services Authority, Ev 34

However, Table 6 shows that those who seek advice from IFAs are more trusting of financial advice than those who use a Bank adviser or an accountant or solicitor:

Table 6: Trust of financial advice by type of adviser

Received professional advice from: % of all adults % trusting financial advice

IFA 18% 63%

Bank or building society adviser 11% 55%

Accountant or solicitor 3% 53%

Source: Financial Services Authority, Ev 35

And finally Table 7 shows the distribution of those who do and do not trust financial advice by age, with those between 30 and 49 showing the most mistrust of financial advice.

Table 7: Trust of financial advice by age

Age band Trust financial advice (45% of all adults) Don't trust financial advice (48% of all adults)

Under 30 years old 25% 14%

30-49 years old 39% 36%

50-64 years old 20% 27%

65 years plus 16% 23%

100% 100%

Source: Financial Services Authority, Ev 35

Costs

75. Of course, the implementation of such a complex system of regulation is not without direct cost to the firms involved, and in the case of the RDR, it is considerable. The FSA provided us with the following details of the costs they expected firms to have to carry:

We used data provided to us by firms to estimate that costs for the first five years of the RDR would range from £1.4 billion to £1.7 billion; an increase from our earlier estimate of £0.6 billion (also based on estimates provided by firms). The difference arises because the draft rules we published gave firms a better understanding of the changes they will need to make and the costs they are likely to incur. Consequently, firms' responses to our second CBA survey are materially different in some areas from the responses to our first survey on estimating compliance costs. The main changes in the cost estimates are increases in the costs of introducing the move away from commission to "fees".[101]

Not all were sure that the FSA had completely captured the cost of the RDR. SimplyBiz told us that "The FSA has consistently underestimated the cost of the RDR and most experts agree that their latest estimates are still woefully inadequate".[102] Others were just not convinced that the RDR was a useful use of resources. Mr Laurence Frazer told us that "The actual cost of the RDR which is well in excess of one billion pounds is a profligate waste. The IFA system is not broken, people are happy with its proposition of choice in remuneration, but it may well be if this is implemented".[103]

Access to advice and closing the savings gap

76. Independent Financial Advisers play an extremely important part in our financial advice system. When Mr Martin Lewis of Moneysavingexpert.com gave evidence to us on reforms to financial regulation, we asked him whether IFAs were being fairly treated by the RDR, he told us that:

I'm rather worried. Funnily enough, many financial journalists are very pro-fees, when it comes to IFAs, and think that IFAs should charge fees. Probably, by the nature of what I do, I deal with a wide spread of the public. The websites have 10 million unique users a month. It's a very wide range of people. I worry that if you ask people to pay for financial advice they will not pay. Now, I'm not the greatest fan of IFAs, but I certainly think they're far better than tied agents and are well worth people going to on issues like protection, pension and investments especially for somebody who doesn't have a clue. I sometimes worry about which is the worst evil: having some IFAs who are paid commission and who have limited levels of commission bias, which should be regulated very stringently to try and reduce the commission bias, or not having people go at all.

So I'm not 100% convinced of the idea that fees solve everything. I think, to an extent, what we're going to end up having is tied agents who are getting commission, going in selling hard. It's very difficult for the public to understand the concept of tied agents—multi-tied IFAs—going in selling hard. People go into their bank and think the salesperson, who is commission incentivised, selling them payment protection insurance, is a financial adviser. That's difficult enough. To tie IFAs' hands by not allowing commission, certainly in environments where people would prefer them, seems to be a problem for me.[104]

77. Since IFAs are an important part of the financial advice mix, in the same earlier inquiry into financial regulation we asked the FSA about the potential loss of IFAs from the market:

Mr Sants: Well we obviously have looked closely at this issue. We have some data that suggested more like a 10 to 20% reduction in capacity could flow from the RDR measures. We've obviously deemed that to be acceptable or we wouldn't be going ahead. But in my experience in the lobbying process you tend to get fairly extreme statements made, which don't necessarily always come about in practice.

Lord Turner: But we shouldn't exclude the possibility that some exit of capacity from the industry, which is therefore also an exit of administrative costs, may be in the interest of consumers. That's a cost that is being absorbed, isn't it?

Mark Garnier: I put on the record I disagree with that.[105]

78. Mr Sants remarks were met with considerable disquiet by the adviser community. Adviser Alliance made the following remarks to us:

Hector Sants believes a 20% adviser exodus a price worth paying, a display of insouciance which has inspired industry outrage. Given the current economic climate we consider this view contemptible—it will leave millions of consumers without access to advice. FSA research, carried out by Oxera, indicates that most of the orphan consumers will not seek any further advice. So, far from encouraging consumers to engage with the industry, the RDR will disenfranchise millions of consumers and exacerbate the current pensions gap of £318 billion (Aviva estimate, September 2010).[106]

The Association of Independent Financial Advisers was similarly concerned by his comments:

There are a wide range of predictions as to the number of IFAs who will exit the industry post-2012 as a result of the RDR, but AIFA categorically believes that FSA is wrong to say that a 20% drop is acceptable. It is incompatible with the original RDR objective of improved consumer access to accept a significant reduction in the number of places that consumers can go for independent financial advice.[107]

In its written evidence, the FSA told us it did not think that the RDR would lead to less advice being available. As well as providing detailed statistics, it explained that:

Some in the industry believe that the RDR will reduce access to advice for the less well off. We do not agree. We have said that changes from the RDR are significant and there will indeed be changes within the market; however, the impact on market capacity and structure is likely to be limited. For example, Oxera reported that around 14% of firms that currently provide independent advice indicated that they are likely to provide restricted advice post-RDR. This market impact will, in some cases, simply be a shift in the service description of the firm from independent to restricted advice because of the new definition of independence.[108]

The FSA went on to explain that:

As we have said, we will be monitoring the changes in the market, including exits during and after the transition. Even if demand for advice outstrips supply, entry barriers are low. In the longer term, new entry or expansion by existing players is likely to fill the gap. Some customers may question whether they need advice when they understand how much it costs them (a cost which is currently opaque because of commission) but that is a personal decision based on how much individuals actually value the service they receive.[109]

79. Many of those who provided evidence were more concerned than the FSA appeared to be by the loss of these advisers. Mr Keith Lewis explained that:

In the current form the implications of RDR could mean a loss of 30% of small to medium IFA's and important issues, such as Pensions and Life Assurance always have to be sold, and unless people have access to advice and services, and only have a deteriorating effect on the level of pension provision and life cover, and is a time bomb for any Government, in terms of the public relying more and more on benefits. Also, the closures of many small businesses could result in the loss of some 10's of thousands of jobs, as well having an impact on larger organisations, such as major life offices having to close call centres.[110]

Mr Preston Anderson, a financial adviser, highlighted a potential impact on the state if amendments to the proposals were not made:

I believe that examinations should apply to new entrants of the industry and perhaps to anyone under the age of say 55. Advisers above that age should surely be able to continue practicing with strict CPD under what is referred to as "Grandfathering". If this amendment to RDR is not considered there will a great loss of many long term experienced advisers, again to the great disadvantage of the majority of the UK client base. Their financial affairs/protection will not be looked after in the way it is now. This may mean they would need to lean even more heavily on the state when they need financial support.[111]

We note that Lloyds Banking Group announced on 30 June in the outcome of its strategic review that:

Bancassurance will be a core part of our proposition, through our multi-brand retail strategy. We aim to maximise the conversion of our retail banking customers to Bancassurance through offering them affordable and relevant advice, taking advantage of the advice and distribution gap we see as being created by the Retail Distribution Review.[112]

The evidence suggests that there will be a loss of market capacity, as some advisers decide not to comply with the new requirements. However, the FSA state that barriers to entry in the market are low. We are concerned that the loss of advisers, particularly individuals and those in small firms, will disadvantage smaller savers by reducing choice and competition.

SAVINGS GAP

80. Given the potential loss of advisers to the market, some who wrote to the Committee feared that the RDR would not help improve the level of savings within the economy (sometimes referred to as the savings gap). The Financial Services Consumer Panel outlined the nature of the savings gap problem:

the Panel accepts that there is likely to be some shrinkage in the traditional advice market as a result of the RDR. We are conscious too of the savings gap that exists at the moment, and which has existed for some years, and the general need for consumers to save more. Figures vary, but Aviva's November 2010 research revealed a European annual "pensions gap" of €1.9trillion of which the UK accounted for €379 billion. According to the recent YouGov survey on behalf of the Institute of Financial Planning and National Savings and Investments, eight out of ten people in the UK say they would be more likely to save if financial products were more flexible and made easier to understand. Fewer individuals are planning ahead—the same research found that only 14% had goals they were working towards (compared to 26% in 2008), yet 59% of those surveyed were worried about their finances.[113]

Given the scale of the problem outlined above, many were concerned that the RDR would not aid in closing this gap, especially given the loss of advisers. Charles Stuart Financial Services Ltd explained that:

The appalling savings gap in the UK has been well documented and it makes no sense for the government through its appointed regulators to be setting in motion a situation which will see the main providers of quality advice decimated. That is the reality of losing 30% of IFAs.[114]

And Barclays told us that:

We expect that there will be an unmet demand for advice post-RDR (due to both a supply and a demand effect), which conflicts with the wider policy objective of plugging the savings gap and ensuring retail investors can access the investment services they require, especially in a world moving from defined benefit to defined contribution pension systems.[115]

81. When we pressed Mr Sants on whether the RDR would combat the savings gap, he replied:

May I first of all say that the issue of reducing the savings gap, encouraging savings, is a central concern, I am sure, to Government and to you here in this Committee. It is very right that you should be focusing on this key issue. It is vital to the long term prosperity of the country. I don't think, however, that we see the RDR as specifically designed to address that issue. Obviously, we hope, that if we have a marketplace that is working better and is trusted more by consumers, that this would have an influence on that issue but we are not specifically targeting the savings gap problem as a measurable, immediate consequence of the RDR.[116]

82. Personal savings in the UK are unacceptably and unsustainably low. We were therefore concerned about the impact that loss of advisers might have on saving. The FSA seeks to reassure us in its evidence, but we recommend that regular reports on the impact of the RDR on adviser levels, and savings through independent financial advice, should be compiled by the FSA and its successor.

83. Implementation of the RDR must be to the benefit of consumers. Consumers will not benefit if it results in a reduction in choice and competition through a substantial loss of advisers and firms. Some advisers have already complied with the requirements of the RDR. We have no wish to alter those requirements, but do wish to allow more time for advisers to reach the required standards. Therefore we recommend that the FSA defer the introduction of the RDR by 12 months, alongside our earlier recommendation to temper the 'cliff-edge' nature of the reforms to the required qualifications.

91 Ev 24 Back

92 Ev w280 Back

93 EV w213-214 Back

94 Ev 25 Back

95 Ev w149 Back

96 Ev w109 Back

97 Ev32 Back

98 Q28 Back

99 Ibid. Back

100 Ibid. Back

101 Ev 31 Back

102 Ev w149 Back