New Legal Obligations in Pipeline for Financial Institutions

Close on Christmas the Government has introduced the Financial Markets (Conduct of Institutions) Amendment Bill.  Once the holiday season is out of the way the Bill will no doubt garner close attention from those affected within the financial services industry upon return to work.  The intent of the Bill is evidently far-reaching and will most likely attract many submissions as it goes through its Parliamentary stages to become law.

Rather than being an independent piece of legislation, the Bill instead amounts to a series of amendment insertions intended principally for the Financial Markets Conduct Act 2013, but also for the Credit Contracts and Consumer Finance Act 2003, the Financial Service Providers (Registration and Dispute Resolution) Act 2008, and the Reserve Bank of New Zealand Act 2008.  Accompanying the Bill is an explanatory note which sets out the reasoning behind the changes it will bring.

The Bill is the culmination of two reports issued jointly by the Reserve Bank of New Zealand (RBNZ) and the Financial Markets Authority (FMA): Bank Conduct and Culture (November 2018) and Life Insurer Conduct and Culture (January 2019), which should be read in conjunction with A guide to the FMA’s view of conduct (February 2017).  Neither report was particularly complimentary to its subject.  Consonant with the two reports, the financial institution types presently covered by the Bill are registered banks, licensed insurers, and licensed non-bank deposit takers, all supervised by the RBNZ.  The Bill is intended to apply broadly to the services and related products that such financial institutions provide, but also captures the intermediaries of these institutions, subject to various criteria. 

At this stage, standalone managed investment scheme (MIS) managers and issuers of debt securities are not covered by the Bill, although this could change as submissions proceed.  However, if registered banks and licensed insurers also operate funds management or debt issuance divisions, then the products and services created and distributed through such subsidiary channels would be captured by the Bill.  Demands for consistency of treatment across all financial institutions may see the Bill’s ambit widened.

Of particular significance in the Bill is the centrality of a “fair conduct principle” requiring financial institutions to provide fair treatment to consumers.  This principle is proposed to be embedded in the FMCA as section 446B, and stated therein as, “The fair conduct principle is that a financial institution (and an intermediary) must treat consumers fairly, including by paying due regard to their interests.”  The requirement applies end-to-end across financial institutions’ products and services from early design to post-sales dealings.  Linked with the principle is an onus on financial institutions to develop and publish fair conduct programmes that they and their intermediaries are legally obliged to comply with.  Financial institutions and their intermediaries will furthermore be required to comply with new regulations provided for by the Bill, such as potential restrictions or prohibitions on paying out sales incentives such as hard or soft commissions.

One possibly unintended consequence is that entities not on the face of it captured under the Bill’s definition of financial institutions could end up effectively having to comply with the Bill anyway.  For example, a non-bank licensed MIS manager, not presently defined as a financial institution, might distribute its managed funds through a registered bank, which is so defined.  The registered bank could apparently be obliged to comply with the Bill in respect of distributing the non-bank fund manager’s products.  As a consequence, the fund manager may be concerned to ensure it received regular certifications of compliance with the Bill from the distributing bank and prompt notifications of any breaches or exceptions.

The Bill is structured so that it applies in stages.  The day after Royal assent, the Bill’s powers to make regulations and share information between the Commerce Commission and the FMA come into effect.  Much of the rest of the Bill will come into force no later than two years after the date of Royal assent in order to allow time for the requisite regulations to be made.  Within four years of Royal assent, the regulations needed for licensing requirements of various types of entities must be created, albeit that they can be made to apply at different times to allow for phasing in.  Thus the Bill does not promise to usher in overnight change to the way in which financial institutions it covers must undertake good conduct, but it gives clear warning of what these institutions should rationally start to work towards complying with from now on.

As a licensed supervisor, Trustees Executors supports the thrust of the Bill, which is consistent with how we go about conducting our duties and obligations.  We place high emphasis on the entities we supervise achieving the right kind of conduct towards their consumers.  Consistent with this stance, in June 2019, Trustees Executors sent out a conduct thematic review questionnaire to financial sector participants across MIS managers and non-bank deposit takers.  Results from the thematic review indicated that while work is ongoing within the industry to improve governance and management of conduct risks, there is yet more to do, particularly around developing robust risk assessment, risk frameworks, and communicating risks to vulnerable customers.

One area where Trustees Executors can see a need for the introduction of licensed supervision to help enhance good conduct is in the life insurance sector.  The joint RBNZ/FMA report and now the Bill point to the requirement to legislate the conduct of life insurers and their intermediaries, but there are evident gaps in how this new regime is meant to work in practice, especially as it increases the workload of the FMA as a regulator.  The FMA is able to delegate much of this workload burden off onto licensed supervisors as its frontline operators for MIS managers, for example, and by the same logic could look to bring in a similar arrangement for life insurers.