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Chapter 4 - Issues arising from the Draft Bill
Introduction
4.1
The Committee isolated six main issues arising
from the submissions and hearings in relation to the draft Bill. As noted in
the previous Chapter, these issues are not a definitive survey of all matters
raised during the inquiry. Instead they are intended to highlight the more
significant aspects of the practical implementation of the draft Bill and some
broader questions relating to financial regulation. Again, as noted previously,
the Committee decided to report as early as possible, to enable the Government
to include its response to the report in the final Bill as presented to
Parliament.
Adverse effects of the draft Bill on the delivery of financial services in
rural and regional areas
4.2
The Committee identified adverse effects on the
delivery of financial services in rural and regional areas as the most
important issue arising from the draft Bill. The Committee received
overwhelming evidence from regional banks, building societies and credit unions
as well as the major banks that, as presently drafted, the draft Bill places an
onerous and inappropriate regulatory burden on the industry, which if
implemented would seriously affect the range of services currently being
provided in regional areas. The Committee also accepts the evidence put before
it that the inclusion of basic banking products in the definition of financial
product and the flow on effects this has on the industry, in terms of both
training for counter staff and the cost of complying with the disclosure regime
that accompanies advice concerning financial products, is the element of the
draft Bill which jeopardises the financial industry’s ability to continue to
maintain its present level of service in regional areas. The Committee believes
that any reduction in service to regional areas would be a most unfortunate and
unacceptable development.
4.3
The Australian Bankers’ Association (ABA) told
the Committee that it was concerned that the draft Bill did not take sufficient
account of functional differences between certain financial products. The most
important of these was the difference between traditional banking products
issued by authorised deposit taking institutions and other investment or market
linked financial products. These banking products are issued by prudentially
regulated bodies, are capital assured and are not speculative or related to a
market. They are generally repayable on demand and are well understood in the
community. The draft Bill, however, equated these products with investment
products where there was a potential risk of loss of both income and capital.
There are two key areas where this is inappropriate: the giving of advice by
counter staff and the agency distribution of these simple banking products. For
instance, the draft Bill imposes onerous conditions in relation to banks and
their agents, who are often rural businesses such as newsagencies or
pharmacies. These conditions would apply not only to the proprietors of those
agencies, but also to every employee who provided financial products to retail
clients.
4.4
The ABA advised that there are particular
difficulties with rural and regional services in relation to the divide in the
draft Bill between the provision of factual information and the provision of
financial advice. Banks and agencies may have to commit to rigorous staff
training programs even where the risk profile of a product is negligible. Also,
there are very few consumer complaints about basic transaction banking
products, because they are repayable on demand. It would be difficult to see
disputes arising in those situations.
4.5
While giving evidence to the Committee the ABA
noted that the Financial System Inquiry report—the Wallis report—at page 263
recognised the differing functional characteristics of financial products when
proposing regulatory oversight of disclosure requirements. The ABA, quoting directly from the Wallis report, outlined
for the Committee the inquiry’s conclusion that the different level of risk
profile in simple banking products compared with those of an investment nature
needs to be recognised. The ABA further noted that whilst this recognition of
difference had been reflected to a degree in the draft Bill in respect of
product disclosure, the approach did not flow through the draft Bill’s
provisions relating to other requirements, particularly advice and third party
relationships.
4.6
The Commonwealth Bank told the Committee that
the inclusion of deposits within the draft Bill was a major concern. The
present level of prudential regulation had allowed banks to offer simple,
flexible, low cost deposit taking facilities. These products should be removed
from the ambit of the draft Bill. Under the proposed provisions even these
simple products explained by counter staff would be subject to the full advice
process. At present, the Commonwealth Bank has about 17,500 staff in its branch
network, of whom 1,200 are authorised to give advice. Under the draft Bill,
however, some 13,000 would need to be trained to the level of giving advice.
4.7
The Commonwealth Bank advised that these
provisions of the draft Bill would make it almost impossible to continue
offering the same level of banking services for rural and regional customers.
About 40% of the 110,000 Commonwealth Bank access points were in these areas,
many of which are provided through agencies. Many of these continue to operate
viably only because they provide banking services.
4.8
The Bendigo Bank Group told the Committee that
there was a major difficulty in distinguishing between product information on
the one hand and financial product advice on the other. There were particular
concerns with the effect of this on local agencies such as pharmacies,
newsagents and stock and station agents, in rural and regional areas.
4.9
The ANZ Bank advised that there was a lack of
clarity in the definitions of general and personal advice, flowing from the
failure of the draft Bill to take account of the differences between low risk
basic banking products and higher risk investment products. The onerous
obligations under the draft Bill would threaten the expansion of services to
small communities in country locations.
4.10
Westpac Bank advised that the inclusion of basic
banking products (such as those used to meet everyday transactions and not used
primarily to obtain significant return on funds) and the flow on effects in
terms of training and disclosure requirements that follow this inclusion, would
adversely affect rural and regional customers. They advised that the viability
of in-stores would be threatened and the willingness of small business people
in country towns to act as agents would, in all probability, decrease. Westpac
noted this could constrain access for basic banking products for rural
communities.
4.11
Westpac also advised the Committee that the
inclusion of basic banking products in the draft Bill could not be in response
to customer concerns as complaints data and market research supported the
proposition that customers are currently being provided the most appropriate
deposit account for their needs in the vast majority of instances. Westpac,
like the ABA, also shared the view that the inclusion of basic banking products
within the ambit of the draft Bill did not align with the recommendations of
the Wallis Inquiry which recognised the need for consumer protection measures
to differentiate between the different risk profiles of different products.
4.12
The Australian Association of Permanent Building
Societies (AAPBS) advised that about 750 of their 1,120 outlets were agencies
which, like their branches, offer simple deposit and transaction accounts. In
this respect the definition of financial product advice in the draft Bill was
too broad and indiscriminate, which would impact adversely upon the
distribution of their services through agencies.
4.13
The AAPBS advised that the draft Bill had
obvious problems for building society agencies, which are usually businesses in
a country town. If counter staff had to be trained to give full personal advice
then the costs were such that building societies may decide that it is not worthwhile
to continue to operate agencies. The AAPBS quoted Mr Mark Scanlon from the Bass
and Equitable Building Society, the only building society in Tasmania, as
saying that under the provisions of the draft Bill there was no point in
continuing agencies. Mr Scanlon later provided the Committee with a summary of
agency business for the Bass and Equitable Building Society.
Location
|
Business Type
|
No. of Accounts
|
No. of Transactions in June 2000
|
Devonport
|
Jewellery store
|
143
|
751
|
|
East Devonport
|
Newsagency
|
810
|
1611
|
|
Shorewell
|
Newsagency
|
31
|
613
|
|
St Helen’s
|
Photography processor
|
669
|
593
|
|
Latrobe
|
Home Hardware/Festival Supermarket
|
231
|
683
|
|
Penguin
|
Travel Agency
|
377
|
522
|
|
Smithton
|
Pharmacy
|
916
|
632
|
|
Sheffield
|
Pharmacy
|
324
|
416
|
|
Deloraine
|
Pharmacy
|
385
|
483
|
|
Somerset
|
Newsagency
|
56
|
372
|
|
Stanley
|
General Store
|
260
|
298
|
|
Riverside
|
Pharmacy
|
222
|
587
|
|
Kingsmeadows
|
Pharmacy
|
75
|
838
|
|
Shearwater
|
Newsagency
|
356
|
805
|
TOTAL
|
|
4855
|
9204
|
4.2
The Credit Union Services Corporation
(Australia) Ltd (CUSCAL) told the Committee that the draft Bill imposed onerous
disclosure and conduct requirements, which were appropriate only for risky
investment products, on simple core banking products. Credit union products
were simple, safe and widely understood. The result of the new requirements
would be to increase costs for staff training and business systems. In
particular, the draft Bill would have a negative effect on rural services
through agents and the rural transaction centres. The increased burden may
result in these services becoming uneconomic.
The information economy and e-commerce
4.3
The Telstra evidence included much comment on
the information economy, convergence and the on-line delivery of financial
services. The Committee regards these as of central importance in the reform of
financial services. The Telstra evidence raised many questions in relation to
these matters which, like Australia’s international competitive position, will
be a core element in future economic performance.
4.4
Telstra representatives advised the Committee that
it supported the draft Bill, but had some concerns about the operational
implementation of the reforms and the compliance issues which flow from
implementation. These concerns are that certain transactions may be
inadvertently brought within the legislation. The main area of concern relates
to trade credit. Telstra is the largest credit provider in Australia in respect
of non-interest charging credit and provided a range of choices for consumers
as to how they pay their phone bill. Product choice and selection includes
paying by means of the emerging opportunities through the Internet and on-line
or through other bill payment mechanisms. Telstra understood that the draft
Bill was not intended to include trade credit but that this was not expressly
clear in the present drafting.
4.5
Telstra also advised that it was very concerned
about the potential for overlap between the draft Bill, which will be black
letter law, and a new EFT code of conduct being developed by the industry
association, which is a self-regulatory model. There is also a plethora of
codes of practice being developed under the Australian Communications Industry
Forum for customer relationships in credit management. These codes include
billing, complaint handling, compensation, privacy and similar issues. Telstra
advised that it was worried about dual compliance obligations at the
operational level. In particular, there was the issue of compliance of “front
of house” staff who give advice to consumers which would be either personal
advice, general advice or investment advice, which would be caught by the draft
Bill. It is important that any overlap between the draft Bill and the EFT code
be resolved before either commences and that they operate in a logical
sequence.
4.6
The costs and timeframe of compliance were also
of concern to Telstra. The putative commencement date of 1 January 2001 could
impose quite significant costs, particularly with the systemic issues resulting
from compliance check lists and staff training. There could be a serious risk of
operational dysfunction and non-compliance. If staff have to be trained to give
personal advice as a result of the final legislation and regulations, the
systems and process changes are potentially horrific.
4.7
Telstra advised that another important point was
the potential of convergence and on-line delivery of financial services, which
would be quite different from the previous off-line delivery. There are issues
of how the requirements apply to a consumer who is clicking through options
on-line. Telstra is at the forefront of convergence in the e-commerce
environment and intends to be more involved in the financial services sector,
particularly in on-line applications. Telstra advised that new delivery
mechanisms for financial services, such as the so-called smart card market, are
not yet mature and that there is some concern at the degree of regulation
necessary at this time. Black letter law could discourage innovation in the
technology area, which would be disadvantageous to e-commerce. The e-commerce
framework should have high-level regulation but not detailed prescription,
particularly in the area of business to consumer. There is concern that if the
draft Bill and the self-regulatory codes do not dove-tail, then there may be
operational dislocation and failure to achieve the best out of the so-called
new economy in cyber space.
4.8
The Telstra representatives gave further details
of instances of its front of house staff providing advice to consumers with
inadvertent consequences. Such advice included payment options for a
telecommunications service, a mobile phone plan, or a smart card scheme.
Telstra advised that some definitions in the draft Bill were so vague and
general that these day to day transactions could be seen as providing a
financial service and giving financial advice, for instance in the case of a
consumer in difficulties who is unable to pay their bill.
4.9
Telstra further advised the Committee that a
concern arose because front of house staff were expected to cross sell other
Telstra products. For instance, a telephony product associated with a mobile
phone plan may have a payment choice with a commission from a partner that
delivers on-line insurance or banking services. This is a grey area, especially
because Telstra’s main portal provides basically all consumer on-line products,
including e-commerce products as well as the traditional telephony products.
Australia as an international financial centre
4.10
The Committee decided to highlight the comments
and concerns of the Australian Stock Exchange Limited (ASX) because they relate
closely to the crucial issues of Australia’s international competitive position
and to its role as an international financial centre. Both the Financial System
Inquiry and the discussion papers for CLERP6 indicated that any reform should
address these issues. The ASX evidence also raised interesting conceptual
issues about the nature and purpose of regulation of the financial sector.
4.11
The ASX representatives placed before the
Committee a number of issues which they advised are vital to the positioning of
Australia as a global financial services centre. By way of preliminary comment
the ASX advised that the Australian stockmarket capitalisation was now about
$655 billion, four times its size of a decade ago. Trading volumes have grown
just as rapidly over this period, which in turn has led to growth in liquidity,
one of the most competitive features of a market. The number of retail
investors has also increased, although shares are still a relatively new form
of investment for many retail clients. The Australian stockmarket, however,
although the twelfth largest national market in the world by market
capitalisation, is only about 1.12% of the world total, compared with the 50%
for the United States and 33% for Europe.
4.12
In this environment, the ASX advised, the
Australian market needs to be able to respond quickly to change, domestic and
international, in order to continue to grow and to remain relevant. The
regulatory framework is a key element in Australia’s ability to compete effectively.
The ASX is therefore concerned that the draft Bill increases the regulation of
the financial services sector and that this may affect adversely the level of
domestic innovation in the marketplace. Australia’s relatively small size in
the global marketplace means that we can not afford inefficiencies in the
regulatory framework of financial market products and services. The level of
financial markets regulation should be that which best promotes market
confidence, best facilitates the choice of Australia as a centre for financial
markets operations and best equips our financial market participants to compete
internationally.
4.13
The ASX representatives told the Committee that
the draft Bill is far stronger on its regulatory and retail investor protection
elements than on wealth creation, encouraging entrepreneurship and innovative
business development. There are a number of areas where regulation has been
quite significantly increased with no particularly cogent reasons for the
increase. The different levels of regulation add levels of cost and levels of
inefficiency and could put Australia at a disadvantage internationally.
4.14
In this context the ASX noted that the draft
Bill regulates Australian market and clearing settlement facilities more
heavily than foreign-based markets which may operate in Australia. The ASX
suggested that this may be partly a drafting problem, but that if it is not and
is in fact a policy issue, then there is a risk that the draft Bill will hamper
on-shore facilities and not properly protect Australians with access to
off-shore facilities. Australian incorporated entities will be regulated under
the draft Bill regardless of whether they operate in Australia, which will be
an incentive for off-shore incorporation and operations.
4.15
The ASX representatives also raised the question
of cost effectiveness, which the draft Bill was intended to enhance. The
benefits of the draft Bill were intended to outweigh its costs. The ASX
advised, however, that the draft Bill in fact increases the level of regulation.
The ASX concluded that some of this additional regulation may be warranted, but
there does not appear to have been a reduction in the other areas where
regulation could have been reduced. For instance, the ASX suggested that the
draft Bill framework for compensation for retail investors was unnecessarily
complex, which would confuse investors about avenues of redress and raise
issues of market costs and efficiencies. The ASX submitted that it was possible
to streamline these procedures.
4.16
The ASX further advised that there were areas
where it was unclear how much regulation there would be, because the level was
being left to ASIC or the regulations. In this regard the ASX noted that the
model for stock market regulation in Australia has been co-regulation, which is
a combination of statutory and self-regulation. This model achieves a
productive collaboration between the government regulator and the
self-regulator, in this case the ASX. The Minister has assured the ASX that the
draft Bill would not change the relationship between ASIC and the ASX or
increase the regulation of markets. It is fundamental to the co-regulatory
framework that the Minister remains directly involved, because of the economic
and policy focus which the Minister and the Department can bring to bear on
regulatory issues. For instance, under the draft Bill the Minister could take
action which would bring aspects of the operation of the national guarantee
fund into line with international practice and enhance Australia’s international
competitive position. Conversely, the Minister had wide powers of delegation to
the statutory regulator which would need to be exercised appropriately.
4.17
The ASX representatives also raised the issue of
the present 5% limit on individual shareholdings in ASX as a demutualised
entity. The ASX submitted that the limit, if retained, should be increased to
15%, in line with the banking sector, with the possibility of a larger
proportion, subject to a fit and proper person test. In the near term the funds
of millions of Australians would be invested across a number of markets
operated by different commercial companies with a range of ownership
structures. There will not be an even-handed competitive environment if
structural restrictions are placed on one type of market operator, or just one
operator, instead of being evenly applied. Restrictions on ownership should be
justified in relation to regulatory outcomes and the efficient operation of the
economy.
4.18
Finally, the ASX described the transitional
arrangements under the draft Bill as being of critical importance. Many details
were still not known. The ASX advised that there must be consultation with
industry on these details and sufficient time for industry to prepare; this was
necessary for a smooth and cost-effective transition period. The role of ASIC
during this period would be critical and the ASX would support wide powers for
ASIC to modify the application of the new provisions and to exempt or extend
the time for compliance.
The impact on small business
4.19
The Committee considers that it is important
that the draft Bill does not impact adversely upon small business. In this
context the Committee noted the evidence of the Life Agents Action Group (LAAG)
and the Association of Financial Advisers (AFA), both of whom expressly
represented small business. Their evidence was particularly valuable, not only
for the views expressed, but also as a contrast to submissions received from
larger organisations.
4.20
The Life Agents Action Group (LAAG) raised the
issue of commission disclosure on risk business; that is, insurance products
which do not have any investment or savings content. The LAAG submitted that
commission disclosure on risk business serves no benefit, with no evidence of
genuine consumer concern. In any event, commission content of a risk sale has
no impact on claim payment or policy benefits. Also, agent preference for a
particular company or product is related not to commission, but rather to
service and relationships. Agents who are mainly commission driven will go
broke. The draft Bill is particularly unjust in that it requires commissioned
agents to disclose earnings, while salaried officers are exempt. Moreover,
salaried officers are usually placed on quotas and receive bonuses. Consumers
at present have a right under other Commonwealth legislation to request
information about commissions; this is acceptable but few ever do ask.
4.21
The Association of Financial Advisers (AFA)
raised similar concerns. The AFA agreed with commission disclosure on
investment and superannuation products where the results are affected by the
amount of commission paid. However, for pure risk products the commission does
not affect the price of the product or its outcome; disclosure will not help a
consumer to make an informed decision on insurance cover. Disclosure, if
necessary, should be total distribution costs and not just commission. Big
companies employ salaried officers who do not have to disclose remuneration,
whereas small self-employed businesses must do so. In many cases it is even the
same product which is being sold. This is not a level playing field. Also, some
insurance companies have a high expense base but pay virtually no commission;
this is because their marketing costs are very high. The AFA submitted that
commissions are only one cost, which did not necessarily reflect the quality of
the product.
Co-regulation and the position of professional bodies
4.22
As with the position of rural and regional
deposit taking agencies, the Committee believes that the draft Bill should not affect
anyone whose involvement in financial services is incidental to their main
activity. In addition, the draft Bill should apply in the clearest possible
fashion. The Committee believes that both the accounting and legal professions
provided significant input in this area and that the co-regulation model has
potential to be expanded into other areas of the financial services sector.
4.23
The Law Institute of Victoria (LIV) submitted
that the draft Bill had significant implications for the way in which legal practices
are conducted, with the potential to increase the cost of legal services for
consumers due to the dual overlapping regulatory requirements which would apply
to the legal profession.
4.24
The LIV submitted that the draft Bill could
include within its coverage the majority of lawyers, who as part of and
incidental to their day to day legal practice, either provide financial product
advice, deal in a financial product, or provide a custodial or depository
service. Providing any of these services (apart from as an authorised
representative of a licensee) will require a lawyer to hold an Australian
Financial Services Licence and comply with the disclosure and other provisions
of the draft Bill.
4.25
The LIV suggested that the definition in the
draft Bill of financial product advice is wide and could cover a number of
unintended situations. For instance, it could include a lawyer who advises on
the scope of cover of a general insurance policy; or who advises a client not
to purchase a business by way of shares, because the lawyer has discovered
contingent liabilities in relation to them; or who advises about legal aspects
of superannuation or other investment products being considered by the client.
In these cases, a general insurance policy, shares and superannuation are all
financial products.
4.26
The LIV submitted that where such advice to a
client is part of, or incidental to, a legal practice, such advice should be
either expressly excluded from the draft Bill, or prescribed by the regulations
to be outside the definition. This would be consistent with the existing
exemption applying to lawyers where advice is given in those circumstances,
under the Corporations Law and the relevant ASIC Policy Statement. This
approach, the LIV submitted, would continue the present position and maintain
the policy underlying the present exemption. If, however, a lawyer provides
financial advice as a financial planner or adviser, then he or she should be
licensed under the provisions of the draft Bill. In these cases retail clients
should be entitled to all of the protection of the proposed legislation. It is
essential to maintain the present exemption of incidental activities, even
though the draft Bill provides for ASIC to make declarations in relation to
professional bodies. Nevertheless, the draft Bill should retain the declaration
procedure, which should be available to members of professional bodies who hold
themselves out as financial advisers as well as legal practitioners. Such a
declaration is, however, subject to the relevant professional body being
willing and able to convince ASIC that it has met the required criteria.
4.27
The LIV also submitted that perceived anomalies
in relation to product disclosure statements, dealing in financial products and
providing a custodial or depository service, should be addressed.
4.28
Finally, the LIV expressed concern about the
proposed commencement date of 1 January 2001, which would not give its members
sufficient time to implement systems and procedures to ensure proper
compliance, apply to ASIC for licenses and declarations or comply with training
and other requirements. In addition, much of the substance of the reform will
be in regulations and ASIC policy decisions, which have not yet been made
public. The LIV considers that 1 July 2001 would be a more realistic
commencement for the draft Bill. There should also be a transition period of at
least 6 months so that professional bodies can be confident that relevant
obligations in relation to licensing, conduct and disclosure would not apply
until all applications had been processed.
4.29
The Australian Society of Certified Practising
Accountants and The Institute of Chartered Accountants in Australia (the
Accounting Bodies) submitted that one issue which required clarification was
who the draft Bill required to be licensed. The Accounting Bodies advised that
if specific financial product advice was being provided, then licensing is
appropriate. However, under the present provisions of the draft Bill there is a
risk that all 100,000 of their members must be licensed. This was because
professionally qualified accountants give financial advice as a routine
activity. The Accounting Bodies suggested that licensing in these circumstances
was not the intention of the draft Bill and that this should be made explicit.
The Accounting Bodies also supported the provision in the draft Bill under
which ASIC could declare professional bodies, which met stringent criteria, to
participate in the licensing regime. This provision is in accordance with an
express recommendation of the Financial System Inquiry. In relation to declared
professional bodies, the draft Bill continues a long history of co-regulation.
Nevertheless, the standards which ASIC would apply must be developed in full
consultation with the Accounting Bodies if they are to be realistic. These
standards should be as precise as possible.
4.30
The Accounting Bodies submitted that the present
exemption for incidental financial advice is uncertain and confusing. There is
a real risk that the Corporations Law is being breached, with a consequent
result that professional indemnity insurance is invalid. This would have a
severe effect upon clients. In the practical world of the practising accountant
the present legislation simply does not work. At this stage, it is not clear that
the draft Bill will resolve these issues.
Proper recognition of corporate structures and the definition of
retail/wholesale client.
4.31
A number of submissions suggested that the draft
Bill included anomalies as a result of a failure to recognise the conglomerate
as a typical corporate structure in the financial sector. This deficiency is in
spite of the Financial System Inquiry expressly commenting on the existence and
operation of financial conglomerates. This omission from the draft Bill will
have adverse consequences for conglomerates in relation to costs, disruption
and capital gains tax.
4.32
The Commonwealth Bank submitted that the draft
Bill failed to take into account the structure of financial service
conglomerates; it would be necessary to modify certain licensing and disclosure
provisions to provide suitable exemptions. At present, many areas of the draft
Bill do not recognise current conglomerate structures, which will force those
conglomerates either to undertake fundamental structural change or to adopt
administratively complex procedures. Either of these would be costly and
disruptive. Also, any structural change may have adverse capital gains tax
implications. In most financial service conglomerates, staff are employed by a
single corporate entity within the group, while other related entities within
the group hold licences to provide financial products and services. These
licensed entities usually do not employ staff of their own, but use the
employees of the service or holding company. The Commonwealth Bank suggested a
number of amendments to the draft Bill to ensure that licensing and disclosure
provisions apply fairly to financial services conglomerates. On a related
issue, the Commonwealth Bank advised that certain corporate entities such as licensed
dealers, superannuation funds and responsible entities, which are logically
wholesale clients, may not meet the relevant conditions of the draft Bill and
would therefore be treated as retail clients. Here again the Commonwealth Bank
suggested amendments to overcome these difficulties.
4.33
The Australian Bankers’ Association (ABA)
submitted that the draft Bill seemed to ignore the nature of the financial
conglomerate, despite the Financial System Inquiry expressly noting that the
Australian financial system already predominantly comprises financial
conglomerates. The FSI also noted that conglomeration is assisted further in
some cases by innovation in product design so that products which have been
traditionally the preserve of one type of institution may be offered by
entities of another type. The ABA suggested amendments to the draft Bill
similar to those put forward by the Commonwealth Bank. A number of other
submissions made similar points about the conglomerate structure and about the
distinction between wholesale and retail clients.
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