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FSA clarifies rules on adviser outsourcing in suitability guidance

FSA clarifies rules on adviser outsourcing in suitability guidance

The FSA has repeated its calls for firms to ensure they are not shoe-horning clients into centralised investment propositions (CIPs) and has clarified rules in the adviser-discretionary outsourcing relationship in its finalised guidance on suitability.

Following a consultation, the FSA is proposing two main changes to its suitability guidance in relation to replacement business and CIPs.

Firstly, an inclusion of a reference to the fact that an adviser should consider the client's risk profile when recommending a switch to a new product.

The watchdog has also stressed that where a client appoints an advisory firm as an agent to act on its behalf, the firm should then deal directly with a discretionary investment manager. In this case the advisory firm becomes the client of a discretionary investment manager, the guidance stresses.

With a growing number of advisers outsourcing to discretionary managers, particularly ahead of the retail distribution review, the FSA said that both the introducing firm and discretionary manager had obligations to ensure a personal recommendation or decision to trade was suitable for the client.

'The obligations on each party will depend on the nature and extent of the respective service provided. Both parties should be clear on their respective service, and ensure they meet the corresponding suitability and obligations. If either or both parties are not clear, there is a risk that clients may receive unsuitable advice and/or have their portfolios managed inappropriately,' the FSA noted.

The regulator is of the view that outsourcing takes three distinct forms:

* Firstly where an adviser arranges for the client to have a direct contractual relationship with the discretionary manager

* Where the adviser holds permissions for managing investments and delegates investment management to a third party

* Where the discretionary manager does not have a contractual relationship with the underlying client, with the adviser acting as an agent for the client and having an obligation to explain the position to the client.

In its guidance the FSA highlighted incidents of poor practice where advisers had not explained to clients that they were not responsible for investment management or little due diligence on whether the CIP solution met the needs of the target client.

The changes follow a thematic review of 181 files from 17 firms in which the quality of advice was found to be unsuitable in 33 cases and unclear in 103 cases.The FSA repeated its concerns that firms have 'shoe-horned' clients into a 'one size fits all' solution which is not suitability for the individual needs of a client; advised clients to switch existing investments into a CIP with an inadequate consideration of whether the switch is suitable; and advised clients to move to a CIP which is more expensive and has few additional benefits.

The FSA also identified firms which had failed to consider the impact of suitability of additional charges when conducting replacement business, and were unable to quantify the additional charges associated with the new investment with several failing to provide a comparison of costs between a new and existing investment.

As a result, the FSA said that firms should consider all the charges, performance and tax treatment of a recommended investment.

When recommending a CIP - whether designed by the firm itself or a third party - the FSA said firms should consider the the range of tax wrappers that can invest in the CIP, the type of underlying assets, the flexibility of the CIP in relation to the client's objectives and the CIP provider's approach to due diligence on the underlying investments.

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