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What is the advice risk?

You could be forgiven for keeping your head down, servicing clients and paying the bills. And frankly, we all need to be doing that.

Monday, October 21st 2019, 7:00AM

by Jon-Paul Hale

Jon-Paul Hale

However, much of the recent market noise about dealer groups, FAPs and bank aggregation has raised more than a few comments that included statements about advice risk.

Now, most of us appreciate that there is a risk to running an advisory business. If what we say and recommend turns to custard, we expect to be facing some interesting questions.

And for the majority of us, the general attitude is regardless of where the FAP discussion lands the approach will still be: don't screw it up. Focus on providing sound advice and building a great business by getting it right.

Which at the end of the day is what we need to be doing too.

However, what is this thing called advice risk?

And I must echo the comments of Regan Thomas, "it all comes down to nature and scope”.

For those that don't know, Regan is the other risk adviser I spent some time with through the CWG work. He is also part of the Financial Advice NZ Risk MAC (Member Advice Committee), the internal panel of advisers specifically focused on risk issues.

And he's dead right. This is something we haven't been quite so good with.

Two things I have seen, in my various roles and contacts over the years, is the definition of the scope of service isn't always clear on where the lines are drawn. Or if they are specific about what is covered, they are not specific about what is not included. And this can be just as much a problem when we discuss principles-based legislation.

Specifically in scope, means what's not covered is potentially implied, and open to interpretation, if the general expectation on the scope is inclusive, or covered by the law ie ongoing servicing. Conversely, a specifically-out-of-scope approach, means everything else is implied as in scope.

Confused, yeah, easy to be as we are in a complex area, even the legal experts in this area are saying it is complicated and potentially confusing.

And when we overlay the basic definition of financial advice: "To recommend the purchase, disposal, or holding of a financial instrument" (a regulated financial services product or service). We start to have some significant gaps in our ability to defend a claim of poor advice and a poor advice outcome if the nature and scope of the advice are not well defined.

Yes, I'm still using the word outcome ... It is not a definition in the law; it is an expectation of perception by the people looking in at what is going on.

What I mean by this is you have contact and enquiry with a client, you discuss things, and they only want to talk income protection. Cool, we'll pick this up now and circle back to discuss the rest at an appropriate time.

So the scope of service says: risk review, life insurance products. The client accepts this, and things continue. Except the client hasn't told you about their old insurance cover, and they haven't reviewed this in a very long time.

A few years go by and the client reviews and discusses their IP cover with you, but continues to refuse to engage in the broader risk discussion. Saying, "I'm ok there and don't need it”.
(An educated client who demonstrates that they know and understand what they are doing in general principles.)

Then comes the call, the wife has early-stage breast cancer, and the trauma cover provider has turned down the claim. It is not covered because it is an old product and has no passback of new definitions.

There is an argument here that the adviser notes would be clear that the trauma cover wasn't reviewed. However, the scope of service is still sitting at the wider full risk position, rather than the much tighter IP-only discussion, at the exclusion of other life insurance products. That is if there is actually a signed one on file.

The hindsight risk here is the implication that not exploring the trauma cover situation becomes an implied position. A position that the trauma cover was acceptable under the holding of cover advice rules.

The advice documents may show that the more comprehensive cover options were not explored, while at the same time they haven't specifically limited scope. And it is this limiting scope in a specific way that potentially leaves the advice risk door open.

For example: A client comes to you and says I have an old AMP whole of life (WOL) policy for $10k, but the mortgage is $400,000. In reviewing it, you find they have medical conditions, and you can't replace or increase the cover without horrible terms. So you say "sorry, can't do – hold onto the $10k WOL policy".

What isn't done clearly at this point, is to turn around then and explicitly state; the terms offered mean that holding the current cover at $10,000 is the best answer, and this will leave you with $390,000 of debt exposure, unable to be covered by insurance.

Other means to cover this risk need to be considered, or there needs to be an understanding of the magnitude of this risk.

OK, sounds pedantic and stating the completely obvious, and it is. However, under the advice rules the risk for the FAP is from advice to buy, hold, or dispose of cover.

This is advice to hold with an identified risk the client has scoped in not being covered in your advice. If the client is told "your current cover is the best there is for you", and the scope says to fix the cover shortfall. Then the test of the ideal outcome against the scope of service is going to come up short when the wife knocks on the door and says the bank is looking for $390,000 because the husband handed in his knife and fork.

Now highly simplified I would suggest, the client knew there was exposure on the existing cover, and they know cover hasn't changed. He may have told his wife it's been sorted, or been covered. But the paperwork on the advice doesn't say all of this, and much more complex situations exist that will have the same principles applied to them.

Which is to say the FMA licence conditions consultation on "documentation" is helpful here, as lack of documentation is what is getting us in trouble when tests like this are applied to our advice.

And this is also the risk that remains for the FAP the adviser advises under.

This is the advice risk everyone is talking about. No money changed hands; there was likely no fee; there was no commission.

However, there is 100% liability for the outcome of the advice for a product provided by someone else years in the past if it is part of the scope of service.

So in the vein of my last article, exactly why are dealer groups running to become FAPs? When they face this level of advice liability they likely have little-to-no visibility of?

Beats me.

I get the corralling of advisers and the grouping of production and revenues for the dealer groups that presently exist. However, as the providers explore how this fits with conduct and culture that may change, and change quite significantly.

For the principal advisers out there looking to be FAPs with associates, you too have the same challenge with the advice given on your behalf.

Because a client is a client of the FAP when they have a contract for advice, not product, not premium, not servicing, or commission. Advice is the measure here, nothing else.

Tags: advice risk aggregation Dealer Groups FAP insurance Insurance Advisers Jon-Paul Hale licensing Life insurance

« To FAP or not to FAP, that is the questionAs confusion reigns and opinions are strong, is it all a bit much? »

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