Financial Services Update – December 2011

With Christmas just around the corner it is probably a good time to sit back, take stock of yet another turbulent year, and focus on the key issues that will impact the financial services sector in 2012.

New Responsible Entity (RE) Financial Requirements

Why do we need a change? Well, there has been a steady rise in assets under management since 2002 (the last time these measures were reviewed) as well as the perceived need for increased financial controls following several recent high profile RE collapses (think Trio Capital, Timbercorp, and Great Southern).

Trio was a case of out and out fraud, whilst many other managed investment funds have been built on high levels of debt coupled with investments being driven by tax minimisation strategies with potential for commercial gain coming a distance second.

RE’s who operate managed investment schemes will need to ensure that they are adequately prepared for the revised financial capacity requirements, which will come into effect in November 2012.

The changes can be broken down into three parts:

1. Cash Needs Requirement:

RE’s will need to prepare 12 month cash flow projections from November 2012.  Crucially, directors will need to approve these projections on at least a quarterly basis. (See RG 166.43 and revised Table 4).

2. NTA Requirement:

If you have outsourced your custody function, RE’s will need to hold the greater of:

• $150,000;
• 0.5% of the average value of scheme property (capped at $5 mill); or
• 10% of the average RE revenue (uncapped).

If you have not outsourced your custody function, you must hold the greater of:

• $5 million; or
• 10% of the average RE revenue (uncapped).

The revenue component has been introduced to ‘catch’ those RE’s with high revenue and low FUM (e.g. agribusiness schemes). Have a look at RG 166.73 – Table 6 for some really useful guidance on calculating these NTA requirements.

3. Liquidity Requirement:

Finally, RE’s must hold the greater of $150,000 or at least 50% of its required NTA in cash or cash equivalents and the balance held in liquid assets (convertible in 6 months).

For more information on these requirements please see:

• Consultation Paper 140
• ASIC Regulatory Impact Statement – Responsible Entities: Financial Requirements, Nov 2011
• Class Order (CO 11/1140)
• Updated RG 166 Licensing: Financial Requirements
• Pro Forma 209 (PF 209) AFSL Conditions

FOFA Tranche 1 Update

The future looks uncertain for the Future of Financial Advice Bill (FOFA) as Tranche 1 (Corporations Amendment (Future of Financial Advice) Bill 2011) has been referred to the Senate Economics Legislation Committee.

Followers of these reforms should expect to see plenty of submissions in response to the tabled client opt-in and disclosure statement reforms, especially if the annual fee disclosure statement obligation is applied to existing as well as future clients.

Submissions for the Bill are due by 6 February 2012 with a Senate report date of 14 March 2012.

Meanwhile, Tranche 2 of the FOFA Bill (the Corporations Amendment (Further Future of Financial Advice Measures) Bill 2011) has been introduced into the House of Representatives and forms the second part of the reforms.  In particular, Tranche 2 includes:

• a ban on conflicted remuneration (including product commissions), where licensees or their representatives provide financial product advice to retail consumers; and
• a ban on volume-based shelf-space fees from asset managers or product issuers to platform operators.

Don’t expect too much movement over Christmas.  Whilst the timing of the commencement of these reforms remains uncertain, one thing is certain, these reforms will have a big impact on a large part of the financial services sector during 2012.

Every financial services licensee (not just financial planners) should get a good handle on the FOFA reforms and assess the potential impact of this new legislation via their risk management program.

Time for a D+O insurance health check?

Australian Insurance Brokers and company directors are frantically checking Director and Officers (D+O) policies following a recent NZ case which, if followed in Australia, will have a significant impact on directors and officers insurance coverage.

The directors in the case were faced with a criminal claim by the NZ equivalent of ASIC, as well as an action in the civil courts by the company receivers, for various breaches of their duties. The receivers successfully argued that they had a ‘charge’ (or first rights) over the insurance proceeds  in the civil compensation claim, leaving the directors unable to fund their criminal defence costs through their D&O policy.

The Directors mistake? The policy provided cover for both defence costs and claims for damages and compensation in one policy. Subject to State clarification, Australian directors may now have to consider finding and purchasing separate cover for defence costs only, thereby segregating coverage levels.

AML/CTF Update

1. All reporting entities should now have re-registered with AUSTRAC through AUSTRAC Online. In addition, all remittance service providers also need to apply for registration, including those that have previously registered with AUSTRAC.

There is a useful guide to completing this registration, which can be found here.

2. The Carbon Credits (Consequential Amendments) Act 2011 amends several Acts, including the AML/CTF Act 2006 and makes Australian Carbon Credit Units (ACCUs) a “financial product”. Under the amendments the acquisition and disposal of ACCUs (and eligible international emissions units) by an agent on behalf of another person is now a “designated service”.

The following draft rule changes have also been released by AUSTRAC in recent weeks :

• Chapter 11 (S.47 exemption for entities that only provide a designated remittance service)
• Draft AML/CTF Rules exempting financial institutions from the applicable customer identification procedures in certain circumstances.
• Chapter 23 (persons who carry out a ‘law practice’ or an ‘accounting practice’ are ‘non-financiers’ as defined in section 5 of the AML/CTF Act and are not carrying out a designated remittance arrangement)
• Chapter 28 (clarification on the exemption from conducting the applicable customer identification procedures on assignment, conveyance, sale or transfer of businesses)

Corporate Advisory Vs Securities Businesses – more than a Chinese Wall

Research house services are becoming an increasingly familiar business model within Australia. However, because these services will commonly sit ‘alongside’ ancillary business units, such as broking and funds management, the firms running this model run a huge risk of potential conflicts of interests, front running and insider trading.

The regulator has had this issue on their radar for some time now and this is reflected in Consultation Paper 171: Strengthening the regulation of research report providers (including research houses).  If CP 171 gains momentum, then expect to see a future separation of these business units as a strategy to manage inherent conflicts of interest, including the strict and formal physical and electronic separation between each business unit.

If you have any questions regarding the topics covered in this blog please feel free to contact us oncontact us on +61 2 9299 6105 or contactus@complispace.com.au.