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18th April 2016

Regulatory Requirements: Inducements & Conflicts of Interest

The FCA has today published their Key Findings from a Thematic Review undertaken in 2015 relating to Inducements and Conflicts of interest.

Last year’s thematic review took a closer look at the benefits provided and received by firms conducting MiFID business, as well as those carrying out regulated activities in relation to retail investment products.

Regulatory Background

Off of the back of the Retail Distribution Review (RDR) implementation measures in 2012, the regulator had previously addressed conflicts of interest and inducements by consulting upon related changes to not only Principle 8, but also to those within the SYSC and COBS handbooks.

The finalised guidance to the FCA’s September 2013 guidance consultation (GC 13/5) was then published in January 2014 as FG 14/1.

Guidance Consultation GC 13/5: Supervising retail investment advice: inducements and conflicts of interest
Finalised Guidance FG 14/1: Supervising retail investment advice: inducements and conflicts of interest

The finalised guidance issued by the FCA at this time explained the regulator’s concerns over inducements and conflicts of interest and in particular why certain practices undertaken within the industry were likely to create conflicts of interest and result in firms not acting in their customers’ best interests.

Of great concern was that the FCA’s review found that payments were still being made that could result in advisory firms favouring one product provider over another therefore undermining the aims of the RDR. Thus, the FCA’s finalised guidance stressed that financial advisers and product providers both share the responsibility of managing potential conflicts of interests when receiving and making payments under service and distribution agreements.

Main Findings informed upon in FG 14/1:

The main findings informed upon in the FCA’s 2014 review of inducements and conflicts of interest that gave them cause for concern were:

Finding financial arrangements in place with product providers that potentially incentivised advisory firms to promote a specific provider’s product to their advisers;
Finding some payments by product providers to advisory firms appeared to be linked to securing sales of their products; and
Identifying that certain joint ventures could create conflicts of interest and potentially lead to biased advice, such as where a new investment proposition is jointly designed by providers and advisory firms.

Subsequent to their Finalised Guidance, the FCA expected firms to review and revise their existing agreement if necessary in light of the new finalised guidance and to do so within three months of its publication date, this being by 16th April 2014.

Conflicts of Interest & Inducements: Update 2016

Two years on and the FCA has today issued their key findings from a thematic review undertaken last year (2015).

The thematic review conducted during 2015 reviewed the benefits both provided and received by firms that carry out MiFID business and by those that carry out regulated activities in relation to a retail investment product.

For both of these type of firms, the regulator informs that the COBS Inducement Rules (COBS 2.3) include the requirement for any benefit or payment to improve the quality of the service to the client.

Whilst a full thematic report is not expected from the regulator at this time since they have informed their work from having undertaken the review will be included within their planned MiFID II consultation paper, they have published their key findings from the review to “remind firms of [the regulators] expectations around the current rules”

Key Findings and Regulatory Expectations of Firms

Hospitality provided of received did not always appear to be designed to enhance the quality of service to the client.

The FCA expect firms to “consider and assess whether all aspects of the benefit are designed to enhance the quality of the service to the client including the location and nature of the venue, and those activities which are not conducive or required for business discussions, e.g. sporting and social events and activities.”

Offering hospitality that is not designed to enhance the quality of service to clients in connection with other benefits that do meet the requirements.

The regulator reminds firms that regardless of whether one benefit they provide might be designed to enhance the quality of service to a client does not mean that another, which does not meet the requirements, can be included in conjunction with the compliant activity or event.

Ineffective hospitality registers:

These did not always record relevant or sufficient detail or were not well maintained. Firms are reminded that registers should have enough detail to ensure effective monitoring and compliance.

Advisory firms incur costs when facilitating training or educational material supplied by product providers.

Whilst providers may make payments to advisory firms to cover these costs, these payments should only cover the costs incurred. The advisory firm should not make a profit as this could be considered an inducement and thus are not allowed.

MiFID firms were not providing clients with an indication of the value of allowable benefits provided.

Firms must ensure clients are given an indication of the value of those benefits in order for the client to be aware of the possible level of inducements

The FCA states that firms should consider their key findings along with the regulatory expectations and ensure that they meet the current requirements.

Conflicts Management, Healthcheck & Support

Firms should be actively managing any conflicts that exist or might exist between their own interest and those of their clients as the regulator is concerned not only with actual conflicts but potential ones also.

If you should require any support or assistance in reviewing your systems and controls in relation to inducement payments to ensure that you have appropriate governance arrangements in place to meet your regulatory objectives or require any help in reviewing the contracts you have in place (such as distribution agreements, commission sharing agreements or introducing broker agreements), our experienced regulatory compliance consultants would be more than happy to assist.

Please call or email for a free no obligation discussion over any requirements or concerns you might have.