Lee Werrell, Managing Director of CEI Compliance Ltd, gives his personal round-up of the key issues that are currently shaping the compliance agenda.
TOPIC ONE – GC12/6 Assessing Suitability: Replacement Business and Centralised Investment Propositions
Guidance Consultation 12/6 (Assessing suitability: Replacement business and centralised investment propositions – http://tinyurl.com/bnp2bzw) was issued on 4th April. The closing date for comments on the paper was Friday 4th May 2012.
Background to this consultation
As the Retail Distribution Review (RDR) effective date of 1st January 2013 rapidly approaches, many firms are, as a prudent measure, re-examining their business models – and a good number of them are opting to offer a Centralised Investment Proposition (CIP). While CIPs give benefits for both firms and clients, the FSA is concerned that, in some circumstances, they may be unsuitable for retail investors. The regulator therefore carried out a thematic review into the use of CIPs.
- Portfolio Advice Services;
- Discretionary Investment Management;
- Distributor Influenced Funds
The results of the thematic reviews produced a total of 181 investment files from 17 firms which recommended a CIP. They assessed both the quality of advice and the quality of disclosure. And the results were as follows:
- Quality of advice was found to be to be unsuitable in 33 cases;
- Quality of advice was unclear in 103 cases;
- Quality of disclosure was unacceptable in 108 cases.
Summary of the Key Issues
The paper has been published as a result of the concerns raised during the FSA’s recent themed review of the impacts of these changes about CIPs and about preventing poor consumer outcomes. It hopes to help firms improve the standards by which they are providing investment advice to retail customers.
The underlying FSA review of CIPs identified suitability failings of wider relevance relating to replacement business (i.e. switching any existing investment into a new investment solution). The paper also draws attention to the paper it issued in March 2011, “Assessing Suitability: Establishing the Risk a Customer is Willing and Able to Take and Making a Suitable Investment Selection”, particularly Chapter 4, “Investment selection” (http://tinyurl.com/cw5ppe9).
The paper shows:
- The factors firms must consider when deciding whether a recommendation to switch a client’s investment is in the client’s best interests;
- The steps firms should take when designing or adopting a CIP; and
- The FSA’s expectations of firms to ensure that individual recommendations to invest into a CIP are suitable.
The FSA expect all firms to maintain robust systems and controls to mitigate the risk of providing unsuitable advice. A firm’s proposition and business mix are likely to affect how it approaches risk management. Firms are responsible for ensuring that systems and controls are fit for purpose and effectively mitigate the risk of unsuitable client outcomes.
Where firms operate a higher risk business model, they need to ensure systems and controls are effective in mitigating any additional risks.
The FSA emphasises that it expects “all” firms providing investment advice to act in their clients’ best interests (clients best interest rule COBS 2.1.1R). As part of the FSA’s supervision, it will look to see how firms are behaving in this area and will take tough action where it identifies poor practice.
Will the FSA Handbook be changed?
There are no planned changes to the Handbook in this consultation, but the guidance relates to Conduct of Business Sourcebook (COBS) rules 9.2.1 and 9.2.2 that require firms, when making a personal recommendation or managing a client’s investments, to obtain the necessary information about the client’s investment objectives.
Impact: Chapter 3 will be relevant to firms providing personal recommendations to retail clients.
Chapter 4 is relevant to firms either currently or considering offering a CIP.
If in any doubt as to the implications of this paper, please consult your compliance consultant.
TOPIC TWO – HMRC Guidance: Reducing your Inheritance Tax bill by Giving to Charity (http://tinyurl.com/7eeowfg.)
On Friday 6th April 2012, HM Revenue & Customs (HMRC) explained that, in order to qualify for a reduced rate of inheritance tax, you must leave at least 10% of the net value of your estate to a qualifying charity. This means that, if your net estate is worth over £325,000 when you die, Inheritance Tax may be due. From 6 April 2012, if you leave ten% of your estate to charity the tax due may be paid at a reduced rate of 36% instead of 40%. This article explains the main rules.
The net value of your estate is the sum of all the assets after deducting any debts, liabilities, reliefs, exemptions and the nil-rate band.
To work out whether the reduced rate applies, your estate and your assets are broken down into three components as follows:
- Assets that you own jointly with someone else that pass by ‘survivorship’;
- Assets in trust;
- Assets that you own outright or as tenants in common with someone else.
A qualifying charity is an organisation that is recognised as a charity for tax purposes by HMRC. The status can be checked by asking the charity to confirm that it has an HMRC charity reference number.
Instrument of Variation
If you haven’t left assets to a qualifying charity, or if the donation in your will doesn’t pass the 10% test when you die, the beneficiaries of your estate can arrange an ‘Instrument of Variation’ to make or increase a donation to charity. Doing so may mean that your estate can then qualify to pay Inheritance Tax at 36%. According to HMRC, it is possible that one part of your estate may pay inheritance tax at 36% and another could pay tax at the full rate of 40%.
HMRC revealed that it is possible to merge one or more components to gain the maximum benefit from the reduced rate.
Assets that are classed as gifts with reservation may also qualify to pay tax at the reduced rate, but only if they are merged with one or more of the three components of the estate. However this does not apply to those who benefit from a trust.
Key steps in calculating the 10% test
The steps below explain how you work out the calculation. The calculation is complicated and the easiest way to work out whether an estate will qualify to pay Inheritance Tax at 36% is to use the reduced rate calculator (http://tinyurl.com/76xnznd )
Step 1 Work out which assets fall into each component. Remember, not all estates have all three components.
Step 2 Add up the assets, then deduct any debts, liabilities, reliefs and exemptions that apply to each component.
Step 3 Apportion the Inheritance Tax nil rate band – including any transferable unused nil rate band from a spouse or civil partner – between the number of components being used and any assets classed as ‘gifts with reservation’.
Step 4 Deduct the apportioned value of the nil rate band from each component.
Step 5 Add back in the value of the donation to charity – this result is the ‘baseline amount’ for each component.
Step 6 Divide the baseline amount by 10.
Step 7 Work out whether the charitable donation is more than the result of the sum at step 6.
For most advisers: This change can have a huge impact on those who are planning IHT mitigation for clients or have recently done so. There are many examples on the HMRC website for you to consider and review and I would urge you to make sure that all Registered Individuals are aware of the new rules, especially with the first item in this round-up regarding assessing suitability.
Remember: If you have any concerns regarding these issues, please contact your compliance department or an independent consultant who is a member of the Association of Professional Compliance Consultants (APCC), recognised as a trade body by the FSA.
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