In our report “The next frontier - the future of automated financial advice in the UK”, published in April, we noted that a key regulatory challenge for firms in providing automated advice is understanding which side of the “advice boundary” their services fall on – guidance or regulated advice. We argued that the success of automated models in the UK would therefore depend, in part, on how much clarity the Financial Conduct Authority (FCA) would be able to provide about where the boundary lies.In order to provide this clarity, in August, the FCA published its updated draft guidance on the amended advice perimeter. In our view, the proposed changes and guidelines do make it much easier for firms1 to understand where the advice boundary is. However they also make much clearer the fact that several of the advice scenarios whose status was previously “uncertain” are in fact regulated advice and therefore are subject to suitability requirements.
For example, to use a scenario we highlighted in our research, the FCA has clarified that if a robo-adviser allows customers to filter products based upon specific factors relating to the customer’s life and situation, for example age, marital status, or retirement plans, the result of this filtering would amount to a personal recommendation.
Similarly, if an adviser uses an expression such as “people like you buy this product”, the FCA believes it would be reasonable for customers to view this as a recommendation of what is suitable for them or as being based on a consideration of their personal circumstances, and therefore amounts to regulated advice.
There was always going to be a trade-off between the FCA’s consumer protection objective and its ambition to make guidance more widely available and affordable across all segments of society. We believe the FCA has taken the view that, on balance, protecting consumers from potentially unsuitable advice needs to be prioritised. The issue is that this poses a number of commercial challenges to firms wishing to provide simpler forms of financial advice to their customers.
Changes to the regulatory definition of advice
The reduction in uncertainty is due in part to the planned changes to the Regulated Activities Order (RAO), which will bring the definition of advice in line with the revised Markets in Financial Instruments Directive (MiFID II). The current definition in the RAO pre-dates the MiFID definition and is wider in scope. The changes will mean that, in the future, the vast majority of regulated firms will be providing regulated financial advice only when they offer a personal recommendation. Having just one definition of advice will make it easier for firms to understand the regulatory requirements they need to abide by.
As in previous guidance, the FCA reiterates that the five key tests set out under MiFID need to be met for a service to amount to a personal recommendation and therefore constitute regulated advice.
However, in this latest consultation, the FCA acknowledges that context is crucial to determining what the answers to these tests are. As such, to support firms further, it has also outlined several case studies and examples (including those mentioned above). These examples are drawn from the experience and feedback the FCA gained from working with firms in its Advice Unit and will be a very helpful asset for firms in determining whether, in practice, their services risk straying from guidance into personal recommendations, and therefore regulated advice territory.
The commercial challenge
Earlier this year, the FCA said that there was a need to “disentangle firms’ views about the clarity of the FCA’s expectations of them and firms’ own risk appetites which may be preventing them from adopting new models”.
Now that the additional clarity regarding the regulatory environment for automated advice has been provided, firms need to consider whether, in light of the new guidance, it is possible for them to develop a viable robo-advice proposition for their target market.
The key challenge will be that most services which will add value to customers will now likely fall into the regulated advice category. The associated compliance costs to fulfil the suitability requirements, coupled with a consumer base which appears to be unwilling to pay much for automated advice (as highlighted in our report), risk making the automation of basic advice services very challenging from a commercial perspective.
Nevertheless, some firms may still want to offer these services at a loss, as part of their overall client strategy and proposition. In this context, an outstanding question for the FCA is whether it will allow firms to cross-subsidise between distribution channels, i.e. using the revenues from their face-to-face business to fund their automated offering, provided value-for-money for all customers is maintained. Or, alternatively, whether the FCA would consider granting firms waivers of Retail Distribution Review (RDR) adviser charging rules2, and under what conditions.
More guidance on this latter point would benefit firms. Allowing some cross-subsidisation would also have important implications for the FCA’s aim of making guidance and advice more accessible, and reducing the “advice gap”.
The FCA has said it plans to publish a policy statement on these changes in December. The planned changes to the RAO to amend the definition of advice will take effect from 3 January 2018.
1For a handful of regulated firms that only hold permissions for advising on investments or for agreeing to advise on investments, the current scope of Article 53(1) of the Regulated Activities Order will continue to apply.
2Current rules state that a firm can only be remunerated for a personal recommendation on retail investments products by adviser charges.