Believe me, I did think long and hard about the appropriate title for this post. I wanted to include a word in title to get across the seriousness of the issue without being alarmist. So I thought of ‘Armageddon’ ‘Bloodbirth’ ‘Nightmare’ and even ‘Conundrum’ before eventually settling for me final choice.
Fact is, no matter how you dress it up, there is a sh*tstorm gathering over legacy asset, on and off platform (Sorry, did you just wonder if I used such a rude English word on purpose? Well, the German Chancellor Angela Merkel seems to think this is perfectly acceptable in public and the word has since been entered into the Duden, the German equivalent of the Oxford English Dictionary. So keep up!)
When you think about the implications of the sunset clause introduced in FCA Paper PS13/1, FCA closed-book review, and the increasing administrative nightmare associated with managing client’s asset off platform, it takes no imagination to conclude that a major trouble is brewing down the road for many advice firms.
According to a June 2014 survey by FundNetwork, 49% of adviser firms are confused about the implications of the sunset clause and most have very little clues as to what is actually expected of them. Add to this the fact that platforms differ in way they are approaching this issue, and what you get is a very worrying picture.
Some platforms will eventually force clients into clean share classes, other are suggesting (pretending?) there is a different way. Some platforms have suggested they may end up disinvesting orphaned client who don’t respond to their communication and in the process, create unnecessary tax liabilities for those poor souls. Some platforms may turn off pre-RDR trail, others may not. Whichever way you look at it, there is no easy way out for advisers but doing nothing is definitely not an option.
Trailing Off
Perhaps the most pressing threat on legacy asset is the PS 13/1 sunset clause, which means that from April of 2016, platforms can no longer keep fund rebates on legacy business as payment for their services and have to make explicit charge to the investor. In theory, nothing stops platforms from continuing to pay trail to advisers on pre RDR business but anyone expecting this to be business as usual is living in dreamland. Platforms could, in theory, just make an explicit charge for their own services and rebate what they used to get from fund managers back to clients. But remember, most fundsupermaket previously negotiated deals with fund managers, so the numbers don’t quite add up anymore. Also, the ban on cash rebates (except in very specific instances) means rebates would have to be in units and creates a tax liability for clients in General Investment Accounts.
I sometimes hear advisers say ‘we’ve got until April of 2016 to deal with this.’ Well, you haven’t. Platforms are not going to sit around and wait until the deadline. In fact, word of the street is, some platforms will start mandatory conversion to clean share classes as early as middle of of 2015. So, if you have clients on supermarkets like Cofunds, Skandia, FundsNetwork et al, on pre RDR trail commission, you have months rather than years.
Off Platform Legacy
A different but related issue is pre-RDR trail commission on non-platform asset – i.e investment and pension business placed directly with lifeco, SIPP providers and fund managers. They don’t come under the PS13/1 remit and are probably not under immediate threat. But here’s is a very good question, what stops a lifeco from switching off trail commission on pre RDR legacy business? Some commentators have argued that there is a contractual obligation on providers to keep paying trail commission. I won’t be so sure. Case in point is a recent decision made by Aegon to turn of trail unless clients confirm that they are still in touch with their advisers. Aegon later backed down due to industry pressure but if such contractual obligation exists and is completely watertight, why will they try to breach it in the first place? Call Aegon old school, call them a dinosaur lifeco if you like but they sure aren’t that stupid?
The ‘Orphaned Clients’ So Called
One big myth on the sunset clause is that advisers could simply sit and do nothing, if they don’t want to deal with clients anymore (usually the lower-end clients with less than £50K invested) and are prepared to lose trail commission by April 2016.
Here is the thing, just because a platform turns off trail doesn’t mean the client is no longer the adviser’s client. Unless an adviser formally disengages with the so called ‘orphaned clients’, they may still carry the liability for placing the business on the platform in the first place and for whatever happens afterwards, even if they are no longer receiving trail! Add to that the fact that some platform have suggested they are prepared to disinvest non-responding orphaned clients, which means those investors face losing their ISA tax-efficiency permanently and may be even get a CGT bill as a result.
I think advisers are opening themselves up to some liability here. Unless an adviser formally disengages with a client, stops receiving trail ( ideally well before the platform forces share class conversion), it is totally conceivable a client will have good ground for complaint, if the platform screws them over. Wait until the ambulance-chasing claims management companies smell blood. Well, I meant to say ‘don’t!’
Oh and good luck disengaging from clients of some platforms! Apparently, unless they are assigned to another adviser on the platform or move elsewhere, you can’t!
Investment Suitability and Administrative Tail-Chasing
The risk of losing trail on legacy business is only half the worry for advisers. Assuming advisers manage to avoid losing trail with the least effort possible, can they really afford to keep clients in the existing portfolios and service them going forward?
Most firms have invested considerable amount of time and effort redesigning their investment propositions in the run up to and following the RDR. Chances are, their new investment proposition is very different than their pre RDR legacy clients have. Is the existing investment suitable and compatible with client risk profile? Is that evidenced and documented somewhere? Should they move legacy clients to the new investment proposition? Often migrating clients come at significant cost to firms, and without appropriate technology and expertise in place, it could easily become a major nightmare.
Keeping a client in existing portfolio of disparate funds places an onus on advisers to keep that portfolio under regular review, which includes fund review and rebalancing to make sure that the portfolio is within their risk profile. The administrative tail-chasing that results from all this means it’s probably not a viable option for most.
So what to do? Leverage technology for the migration process? Disengage with the clients and loss the trail? Offer an execution-only option?
As you probably know, I often have no clue what I’m talking about, so I’ve lined up some people who really have a clue what on earth they are talking about at our upcoming Migrate Workshop, specifically to help advisers address these major issues around legacy asset and the sunset clause. We have also invited three big platforms with large legacy books to join our no-holds-barred panel session and engage in lively debate with advisers on their approach to the sunset clause. Check out the details here, I think we have 20 seats or so left. Get In, NOW!
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Hi Abraham, excellent article as always, just one point though, unless I missed something it was Aegon and not Zurich who were trying to switch off trail
You are right James and I’ve made the correction. Both lifecos have very similar images in my head. Thanks for pointing it out. Much appreciated.