Introduction

1.1        On 20 September 2018, the Senate referred the provisions of the Treasury Laws Amendment (Design and Distribution Obligations and Product Intervention Powers) Bill 2018 to the Economics Legislation Committee for inquiry and report by 9 November 2018.[1]

1.2        In brief, Schedule 1 of the bill creates a new obligation on the providers of financial products to state the target market for a new product, and to disclose who that market is. It places a new obligation on the distributors of those products to ensure that they market the services only to the target market. Schedule 2 of the bill creates new powers for the Australian Securities and Investments Commission (ASIC) to enforce these obligations and to intervene where there is a prospect of detriment to consumers. Civil and criminal penalties apply to contraventions of the new obligations.

1.3        According to the Explanatory Memorandum, the bill has no financial implications.[2]

Conduct of the inquiry

1.4        The committee advertised the inquiry on its website. It also wrote to relevant stakeholders and interested parties inviting submissions by 18 October 2018. The committee received 19 submissions, which are listed at Appendix 1.

1.5        The committee held public hearings in Melbourne on 31 October and 1 November 2018. The names of witnesses who appeared at the hearing are at Appendix 2.

1.6        The committee thanks all individuals and organisations that contributed to the inquiry.

1.7        Hansard references throughout this document relate to the proof Hansard. Please note that the page numbering may differ between the proof and final Hansard.

Background and consultation          

Information verses regulation: what the Financial System Inquiry said

1.8        Consumer protection in financial services, as in other areas, has heavily relied on full disclosure about products. However, the nature of financial products is that they are complex and not easily understood, even where there is full disclosure.

1.9        The Financial System Inquiry (FSI) in 2014 addressed the question of how to reduce the number of consumers buying financial products that were not suitable to their needs, because of complexity or risk or time frames. The FSI noted that more information does not necessarily help consumers:

The existing framework relies heavily on disclosure, financial advice and financial literacy. However, disclosure can be ineffective for a number of reasons, including consumer disengagement, complexity of documents and products, behavioural biases, misaligned interests and low financial literacy.[3]

1.10      The FSI also suggested that it was unsatisfactory that ASIC could only wait for a breach of a regulation to occur before it could intervene.

1.11      The FSI recommended that the government take several actions, including:

Make issuers and distributors more accountable for design and distribution of products and introduce a product intervention power. To promote positive consumer outcomes, product issuers and distributors should take greater responsibility for the design and targeted distribution of products...ASIC should also be enabled to take a more proactive approach to reduce the risk of significant detriment to consumers.[4]

1.12      This bill is the Government's response to recommendations 21 and 22 of the FSI, which embodied these principles.[5]

Regulation of financial and credit products

1.13      Financial products, through which a person makes an investment or manages risk or makes non-cash payments, are generally regulated under the Corporations Act 2001 (Corporations Act). Credit products, which are used when payment of debt is deferred and a charge is made for providing the credit, are generally regulated under the National Consumer Credit Protection Act 2009 (Credit Act). Financial advice is regulated under the Corporations Act and has its own criteria and objectives.

1.14      However, the definition of 'financial product' is broader in the Australian Securities and Investments Commission Act 2001 (ASIC Act), and includes 'credit products'. This was done deliberately in order to ensure that ASIC's consumer protections apply to products that are not caught by the specific provisions of the Corporations Act or the Credit Act.[6]

Consultation

1.15      Treasury published a Proposals Paper in December 2016. It described the proposed measures as '...supplementing disclosure as the main form of consumer protection'. The proposals were broadly similar to the content of this bill. Thirty-three submissions were received.[7]

1.16      Treasury released an initial exposure draft of this legislation for consultation in December 2017. Nearly 40 submissions were received in response.[8] A new exposure draft was released in July 2018, and attracted a further 30 submissions.[9]

Content of the bill

Schedule 1

1.17      The bill amends the Corporations Act by inserting a new Part 7.8A, Design and distribution requirements relating to financial products for retail clients.

Design obligations—Scope

1.18      The bill requires the issuer of a financial product to make a target market determination (TMD) before the product is marketed. The products covered are, in general, those for which a product disclosure statement (PDS) or disclosure to investors is already required under the Corporations Act. There are some exceptions, and there is provision for regulations to specify other products for which a TMD must be made.

1.19      This means that credit products are not covered because they are covered by the Credit Act, not the Corporations Act.

1.20      The bill excludes MySuper products and margin lending facilities. These are already subject to specific regulations.[10] Fully paid ordinary shares, including securities issued under employee share schemes, are also excluded. They are regarded as well understood.[11]

1.21      The TMD must be made before any person engages in retail distribution conduct. Such conduct includes dealing in the product or giving a disclosure document or providing advice about the product to a retail client.

Content of the target market determination

1.22      The determination is to specify who the retail clients for the product are, taking into account the likely objectives, financial situation and needs of clients.

1.23      The determination will set out limitations on the distribution of the product such that it will be marketed only to the target market. It must specify the period the determination will operate before being reviewed. It also must specify review triggers; that is, events or circumstances which would suggest that the determination is no longer appropriate and should be reviewed.

1.24      It should specify the kinds of information needed to show if a review trigger has occurred, who should report the information, and when it should be reported. The product is not to be distributed during the review period, and issuers must take steps to ensure that distributors are aware of the review.

1.25      More generally, issuers must specify information that distributors must collect, keep and provide back to the offeror.

Distribution obligations

1.26      Distributors are prohibited from distributing a product unless a current target market determination is in place.

1.27      Issuers and distributors must take reasonable steps to ensure that distribution is consistent with the target market. What is reasonable depends on the risk of harm inherent in the product: the probability that it will be wrongly distributed, and the scale of the possible detriment.[12]

1.28      Distributors must collect, and issuers must retain, information relating to their obligations, including the number of complaints about the product. A distributor must notify the issuer, and the issuer must notify ASIC, about significant dealing in a product that is not consistent with the target market determination.

1.1        The bill uses a concept of 'excluded conduct'. For example, financial advice and products which are provided to implement personal financial advice are excluded by the definitions in the bill from the distribution obligations. The reason is that such products already take into account the individual consumer's circumstances. These products are still subject to the record keeping obligations.[13]

Powers of ASIC

1.29      ASIC can request distribution information or other records.

1.30      If ASIC believes that there is a contravention of the design or distribution obligations, it can investigate by way of a hearing and submissions, and then can order that particular conduct (for example, marketing the product) not occur. ASIC can make an interim order before investigating if it considers that a delay is not in the public interest. A stop order is not a legislative instrument.

1.31      ASIC can exempt specified persons or products, or modify how the obligations apply to specified persons or products. This is done by a notifiable instrument.

1.32      ASIC can exempt specified classes of persons or products, or modify how the obligations apply to specified classes of persons or products. This is done by a legislative instrument.

Penalties

1.33      Criminal and civil penalties apply, up to imprisonment for 5 years or 200 penalty units (currently $42,000) or both. In addition, a client who suffers loss or damage through a contravention of the obligations can take civil action to recover losses.

Transition period

1.34      The design and distribution obligations take effect two years after the Act receives Royal Assent.

Schedule 2

Product intervention power

1.35      The bill amends the Corporations Act by inserting a new Part 7.9A, Product intervention orders. It gives ASIC the power to intervene to pre-empt detriment to retail clients. The bill amends the Credit Act in similar terms with regard to credit products.

1.36      If ASIC is satisfied that a financial product which is available has resulted in detriment or that a product which is about to be available is likely to result in detriment to retail clients, it can make an order specifying limitations on conduct relating to the product. The example that is given (in a note to section 1023D of the bill) is that ASIC may order that the product not be issued to a retail client unless they have received personal advice. Such an order is not a legislative instrument.

1.37      ASIC can similarly make orders about classes of products. Such an order is a legislative instrument.

1.38      Intervention orders cannot specify that a person must meet a standard of training, or become a member of an external dispute resolution scheme. It cannot specify a condition related to remuneration except as it is directly related to the product at issue.

1.39      These limitations are because the intervention order has to relate to conduct related to a consumer, and should not reach inside the firm.[14]

1.40      ASIC is required to consult with those likely to be affected before making a product intervention order. This requirement can be met by ASIC's publishing the proposed order on its website and inviting comment; and the order is not invalidated by a failure to consult.

1.41      A product intervention order is in force for 18 months, but this can be extended. The order can also be amended or revoked. However, if an order ceases or is revoked, ASIC cannot remake the same order unless circumstances have changed or the Minister approves in writing.

1.42      The person dealing in the product may be required to notify retail clients whom they have dealt with in relation to the product of the order.

Penalties

1.43      Again, there are civil and criminal penalties and the possibility of civil action to recover damages.

Date of effect

1.44      The amendments in Schedule 2 have effect from the day after the Act receives Royal Assent.

Draft Regulations

1.45      On 23 October 2018, the Government released draft regulations to support the bill. Among other things, they make clear that the design and distribution obligations apply to basic banking products. They exclude defined benefit superannuation schemes and eligible rollover funds. Comment on the draft regulations is invited by 13 November 2018.

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