Legislation for major reforms to the financial advice industry was passed by the House of Representatives last week. Thankfully, the legislation was passed with few amendments despite the massive lobbying campaign conducted by the financial advice and product industries. That these reforms are needed has been supported by the release of the Australian Securities and Investments Commission's most recent examination of the quality of financial advice.
If this had been a proper exam, the financial planning industry would have failed miserably. This shadow shop exercise differed from those carried out in previous years because it concentrated on baby boomers seeking advice about retirement. In total 64 financial planners were approached for advice.
Those recruited for the shadow shop were people aged from 50 to 69 who genuinely needed financial advice related to retirement and investment issues. They chose their own adviser and paid for the advice.
Of the 64 statements of advice issued, only two were rated as good, 37 were rated as adequate, and 24 as poor. The adequate rating was not necessarily a pass, as although the advice had some good elements, there were weaknesses in the recommended strategy or products.
The major problems and weaknesses identified by ASIC in the advice given included:
-investigation of the client's personal circumstances was not fully carried out or was inaccurate
-selling of an investment product was concentrated on rather than strategies devised to meet the client's needs and objectives
-clients were advised to switch investments without adequate reasons for the advice that in most cases left them worse off, and
-almost a third of the advice given did not provide cash flow projections showing the impact of the recommendations and some 44 per cent gave no estimates of how long the client's money would last in retirement.
Of the 64 advisers, 78 per cent charged an upfront commission or a fee based on the value of the client's investments. Because the size of the sample was not large enough, ASIC could not unequivocally state that there was a direct link between the poor quality of the device and the conflict of interest related to earning commission income. ASIC did, however, state there was evidence the conflicts of interest harmed the quality of advice received.
It was not surprising that ASIC found that, where the fees earned related and depended on the selling of a financial product, the advice provided concentrated on the selling of financial products rather than strategies designed to achieve what the clients wanted.
The focus on product-oriented advice by the majority of the 64 financial planning advice firms can be linked to only 17 per cent being independently owned. Of the remainder 45 per cent were owned by banks, 20 per cent were licensed by superannuation funds, and 17 per cent were owned by large financial planning companies.
This latest shadow shop shows a direct link between poor quality product-focused advice and advisers who earn commissions or asset-based fees and who are employed or licensed by financial institutions such as banks. Instead of the Future of Financial Advice reforms, a more radical step would have been to ban financial institutions from owning advice firms.
With the reforms not applying for another 12 months, and given that the shadow shop exercise indicates many advisers are still putting earning commissions ahead of clients' best interests, the delay provides further opportunity for these advisers to feather their own nests before hopefully being forced out of the industry.
Max Newnham's book Funding Your Retirement: A Survival Guide is available in book stores and as an e-book.
Frequently Asked Questions about this Article…
What did ASIC's shadow shop reveal about the quality of financial advice for retirees?
ASIC's shadow shop of 64 retirement-focused financial advice engagements found very poor overall quality: only 2 statements of advice were rated good, 37 were rated adequate (but often had weaknesses), and 24 were rated poor. Common failings included incomplete client fact-finding, product-focused recommendations, unnecessary switches that left clients worse off, and frequent absence of cash-flow projections or estimates of how long retirement savings would last.
How common are commissions and asset-based fees among financial planners, and why does that matter?
In the ASIC sample, 78% of advisers charged an upfront commission or a fee based on the value of a client's investments. The article notes evidence that these conflicts of interest harmed advice quality: where fees depended on selling products, advisers tended to focus on product sales rather than strategies tailored to clients' retirement goals.
What specific weaknesses did ASIC identify in retirement advice that everyday investors should watch for?
ASIC identified several specific weaknesses investors should watch for: advisers not fully investigating the client's personal circumstances, advice that emphasised selling particular products instead of meeting client objectives, recommendations to switch investments without adequate reason, lack of cash‑flow projections showing the impact of recommendations, and no estimates of how long a client's money would last in retirement.
Does ownership of advice firms by banks or super funds affect the advice consumers receive?
The shadow shop linked poorer, product-focused advice to firms that are owned or licensed by large financial institutions. Only 17% of the advice firms in the sample were independently owned; 45% were bank-owned, 20% licensed by superannuation funds, and 17% owned by large financial planning companies. The article argues this ownership structure can encourage product-driven advice rather than unbiased strategies.
What upcoming reforms to financial advice were mentioned, and when do they take effect?
The article says legislation for major reforms to the financial advice industry (the Future of Financial Advice reforms) was passed by the House of Representatives with few amendments. However, the reforms will not apply for another 12 months, giving advisers more time before the new rules take effect.
Are cash‑flow projections and estimates of longevity of savings important in retirement advice?
Yes. ASIC found that almost a third of the advisers did not provide cash‑flow projections showing the impact of recommendations, and about 44% gave no estimate of how long the client's money would last in retirement. The article highlights these as key omissions that can leave retirees unsure whether advice will meet their long‑term needs.
What warning signs should everyday investors look for to avoid poor or conflicted financial advice?
Warning signs include an adviser who pushes specific investment products without exploring your personal circumstances, recommendations to switch investments with little explanation, no cash‑flow projections or estimates of how long your savings will last, and advisers who are paid commissions or asset‑based fees tied to product sales. The article suggests these factors often coincide with lower-quality, product-focused advice.
If reforms are delayed, how can retirees protect themselves from poor quality financial advice now?
Until the reforms fully apply, retirees can protect themselves by asking potential advisers for thorough fact‑finding, independent cash‑flow projections, clear estimates of how long savings will last, written reasons for any recommended changes, and full disclosure of how the adviser is paid. The article implies being cautious about advisers who rely on commissions or are owned by banks or other financial institutions.
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