Digital advice exemption: better late than never

Home Insights Digital advice exemption: better late than never

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Contributed by: Dan Jones, Joanna Khoo and Grace Liang

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Published on: November 16, 2017


The FMA (Financial Markets Authority) has today released its second consultation paper, found here, on the exemption the FMA greenlighted earlier in the year enabling entities (rather than just individuals) to provide personalised robo-advice (now called digital advice). The consultation paper seeks feedback on the current draft of the exemption notice, the information sheet on the exemption, the FMA application form, and the application guide.

Coming into force early 2018, the exemption is a necessary first step in putting the New Zealand financial advice regime on equal footing with overseas regimes, with the FMA believing this will be of particular assistance to New Zealanders in KiwiSaver. While digital advice is already well developed in the US, UK, Australia, Singapore and Europe, digital advice, New Zealand has been slow off the blocks.

In this update, we consider:

  • the rise of digital advice;
  • global regulatory framework trends;
  • New Zealand's regime to date;
  • the exemption; and
  • key areas for providers to consider before relying on the exemption.

The rise of digital advice

At about the time the Financial Advisers' Act 2008 (FAA) came into force here, firms in the US were already launching their first digital advice platforms.

Over the past 10 years, digital advice platforms have exploded globally, gaining significant attention within the fintech and wealth management industries. As at October 2017, digital advisers had $224 billion in assets under management, and this is estimated to grow to over $2 trillion by 2020.1

Digital advice platforms are capable of providing a wide range of financial advice services, including financial planning, wealth and investment management, and services relating to pension savings, mortgages and insurance. Advice ranges from generic guidance on investment products based on objective factors (such as product type and asset class) to bespoke advice tailored to the individual's subjective needs (such as goals, attitudes to risk, age, gender and marital status). 

Global regulatory framework trends

The regulatory framework has been an important factor in the development of the digital advice industry globally, with Regulators having to strike a balance between developing robust regulations that protect consumers and the integrity of the financial services market, promoting innovation and technological advancement in the fintech industry, and increasing consumer access to low cost financial services.

Regulation of the digital advice industry in different jurisdictions has focused broadly on the following factors:

  • customer suitability and ensuring that financial advice is appropriate for the customer;
  • algorithm design and oversight;
  • disclosure and transparency of costs and risks;
  • trading practices and competency; and
  • data protection and cyber security.

Regulators have played a key role in providing regulatory clarity in an evolving digital advice landscape, by providing ongoing guidance notes and policy statements for best practice. Some regulators have focused on defining different types of advice and applying different standards to providers of advice. Other have focused on applying general standards of conduct for advisory services, for example, by imposing fiduciary duties on digital advisers. 

New Zealand's regime to date

To date, the FAA has required that personalised financial advice be provided to retail clients by a natural person. Personalised advice through digital advice platforms or digital channels were effectively prohibited. The FAA permitted an entity to provide class digital advice. However, as it is sometimes difficult to distinguish class advice from personalised advice, providers have been hesitant to develop class digital advice tools. 

The exemption

The exemption will allow entities to provide personalised financial advice or investment planning services to retail clients in respect of certain "eligible products" (including Kiwisaver products and other managed investment products, listed equity securities, government bonds, listed debt, and mortgage and insurance products) through a digital advice facility. The exemption does not extend to discretionary investment management services. There are no financial limits on the total investment amount of products that a digital advice service can advise on.

According to the FMA, a key objective of the exemption is to increase accessibility of financial advice to investors in New Zealand, particularly those investors with smaller amounts of money to invest, who would generally not have access to other financial advice channels. 

Current barriers to customers obtaining financial advice under the traditional human adviser model include:

  • the cost of financial advice; and
  • the minimum amount of investable assets typically required.

Recent reports on digital advice platforms show the average financial planner has a minimum investment between the range of $10,000 and $50,000, while minimum investment amounts for digital advisers start as low as $500.2 In addition to having lower minimums on investable assets compared to traditional human advisers, most digital advisers charge fees ranging from 0.02% to 1.0% of assets under management, while traditional financial planners charged average fees of 2.0 to 3.0% of assets under management.3

Globally, the rise of digital advice has been a significant step toward reducing this advice gap by generating a low-cost solution that is suitable to a broad range of customers and in New Zealand, the FMA believes digital advice could be of particular help to KiwiSaver investors, who collectively have investment assets of more than $40 billion. Less than 0.3% of all new KiwiSaver accounts or transfers receive personalised financial advice. 

Key areas for providers to consider before relying on the exemption

Providers looking to develop digital advice platforms will need to consider the following:

  1. Commercial viability of digital advice

    Given that digital advisers, on average, charge a much lower fee to investors, providers looking to invest in developing or acquiring a platform will need sufficient scale of service uptake to make such investment worthwhile. As such, the exemption seems to favour providers with a large-scale client base (such as providers of KiwiSaver, or large retail funds). Despite these barriers to entry, overseas jurisdictions have shown that there is a role in the market for smaller players to innovate and develop new platforms that may be used by larger financial service providers.                        
  2. Application process and conditions of the exemption

    Although the exemption was initially intended to be a class exemption, providers will now need to apply to the FMA to rely on the exemption and will need to provide good character declarations for directors and senior managers as well as information showing that they have the capability and competence to provide the digital advice service. In the second consultation paper, the FMA have released the draft application form, and a draft guide to making applications which contains useful guidance on what should be included in the application form.

    Providers seeking to rely on the exemption should also be aware of the ongoing conditions and requirements of the exemption proposed by the FMA, including:

    Disclosure obligations: providers must disclose certain information to each retail client that uses the digital advice service before or at the same time as the client receives any digital advice services through the platform. This includes explaining the scope of the advice being offered, clarifying the information used as the basis of the service, clarifying the extent of human involvement, and explaining how tailored the advice recommendations are.

    Conduct obligations: providers must have procedures in place that give reasonable assurance they will comply with code standards 1 to 3 and 5 to 11 of the Code of Professional Conduct for authorised financial advisers when providing digital advice services. These include placing the interests of the client first and communicating clearly, concisely and effectively.

    Record keeping: providers must retain written records that show how it complies with the exemption conditions, and make these available on request. This includes copies of the financial advice or investment planning services provided to clients through the platform, copies of client information used by the digital advice service to generate that financial advice or investment planning service, and copies of all algorithms and software used by the platform.

    Notifying FMA of a material change in circumstances: The provider must notify the FMA in writing within five working days of becoming aware of a material change of circumstances, being a change that adversely affects the provider’s ability to provide the personalised digital service effectively, or the provider or its directors or senior managers becoming subject to any new criminal convictions, disciplinary proceedings or other circumstances.

    The application process and conditions are intended to ensure that digital advice services are provided in a manner that is consistent with the existing authorised financial adviser requirements.  However, the effect of the application requirement is to create a quasi-licencing process similar to the licensing regime under the FMCA. Providers should therefore factor in sufficient time for the application process in their launch strategy.

  3. Timing of the exemption including relative to wider law reforms

    Submissions on the consultation paper close on 15 December 2017, and the FMA is aiming for the application process to open in early 2018, with providers starting to rely on the exemption from the second quarter of 2018. However, the Ministry of Business, Innovation, and Employment is currently undertaking an overhaul of the current financial advice regime, with new law reforms expected to take effect in 2019. The FAA will be repealed when the law reform comes into effect, and all FAA exemptions (including the exemption) will be revoked. 

    Providers relying on the exemption will still be required to comply with the new regime (including obtaining any relevant licence under the new regime). The transitional provisions of the new regime are still under development, so it is unclear how long providers relying on the exemption will have to comply with the new regime. 

While a small number of providers have indicated readiness to launch digital advice solutions under the exemption, the timing, infrastructure cost, and requirements to apply to the FMA and establish processes to comply with the exemption conditions may mean enthusiasm could be limited.

Please get in touch with our team if you would like to discuss what the exemption could mean for you and your organisation.

  1. Statista "Forecast of assets under management of robo-advisors in the United States from 2016 to 2020".
  2. Advisory HQ "Average Financial Advisor Fees & Costs: 2017 Report".
  3. Deloitte Consulting GmbH "Cost-Income Ratios and Robo-Advisory: Why Wealth Managers Need to Engage with Robo-Advisors" (December 2016).

This article is intended only to provide a summary of the subject covered. It does not purport to be comprehensive or to provide legal advice. No person should act in reliance on any statement contained in this publication without first obtaining specific professional advice. If you require any advice or further information on the subject matter of this newsletter, please contact the partner/solicitor in the firm who normally advises you, or alternatively contact one of the partners listed below.

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