Investment Advisers Disclosure Law

Mike Colson, Partner | October 2001

Sweeping law reforms are proposed by the Securities Commission in a crackdown on unscrupulous investment advisers. However, they may have cast their net too widely.

Investment Advisers Disclosure Law

Advisers are currently governed under the Investment Advisers (Disclosure) Act 1996. The Act was designed to ensure that people have sufficient information about their investment advisers.

The Commission wants to tighten up on this legislation including tougher disclosure rules to protect investors. The changes would bring investment advisers under similar enforcement and disclosure regulations as issuers of securities publishing prospectuses and investment statements.

While the reforms are welcomed at some levels they could add unnecessary compliance costs. Industry players only have until 22 October to comment on the discussion paper released by the Commission.

The disclosure regime

The Act currently provides a two-tier disclosure regime with a distinction between initial disclosure and request disclosure.

An adviser must disclose any prior criminal convictions, bankruptcies and any prohibition from taking part in the management of a company. The adviser must also give a description of the procedures of the broker (or the broker's employer) relating to the receipt and disbursement of money or property before receiving any investment money.

Further information such as qualifications, experience, relationship with the issuer and remuneration that is likely to influence the adviser in giving advice is only required to be given if specifically requested.

The Commission is proposing that the current two-tier system be replaced with a single mandatory disclosure document which should contain:

• information about types of investments with which an adviser has had experience;
• the qualifications he or she holds; and
• details of any investment products they may be marketing for issuers.

The Commission believes many investment advisers have a single "standard disclosure document" containing the information for both the first and second tiers of disclosure and consequently compliance costs would be low.

If the Commission's proposal is implemented it would mean those investment advisers who do not currently produce a disclosure document must do so. Advisers currently producing a disclosure document may have to tailor their existing disclosure document to include matters such as individual investment advisers' qualifications and experience in order to comply with any new regime.

Material benefits

The Commission considers the present requirement in the Act to disclose, on request, any "interest that is reasonably likely to influence the investment adviser in giving the advice" to be too limiting.

The Commission considers that all material benefits should be disclosed but some, for example trailing commissions or last resort financing facilities, may fall outside the current disclosure requirements. It is proposed that a more general obligation to disclose material benefits be introduced by referring to any "benefit" reasonably likely to influence the investment adviser in giving the advice.

Exactly what will amount to a "benefit" is unclear. A broad interpretation could make compliance difficult given the Commission's proposal to move to a mandatory single disclosure document.

The definition of investment adviser

The definition of "investment adviser" in the Act currently excludes the issuers and promoters of securities (and probably their employees) to which the investment advice applies. The Commission considers that the exclusion may apply to bank officers and advisers connected with managed funds, life insurance and superannuation and consequently removes a large part of the investment advisory industry from the scope of the Act. It is proposed that this exclusion be removed.

Employees of an issuer may give investment advice on their employer's product and the Commission considers that the qualifications and experience of those employees are relevant.

It may be onerous for those employees to have to meet the same disclosure requirements investment advisers face, especially if the Commission's proposal to move to a mandatory one-tier disclosure regime is adopted. Given that it will usually be the investment adviser, not an employee of an issuer, giving advice, employers may already be sufficiently regulated by their employment contracts and general securities law.

Illegal offers

Illegal offers (often fraudulent and originating from overseas) are categorised by the Commission as a significant problem. It is proposed that it be made an offence to recommend, encourage or knowingly assist a client to acquire securities, knowing that the offer of those securities does not comply with the Securities Act.

The standard proposed is that of a "reasonable" investment adviser. How this standard would be interpreted is unclear. It may cover bona fide investment advisers whom the new law would consider "ought to have known" the offer was illegal, especially given the public perception of the need for protection from rouge investors and overseas money scams.

Strengthening enforcement

There is currently no single regulatory body responsible for enforcement in regard to investment advisers. Civil actions can be taken by disadvantaged investors seeking redress, but the Commission considers this insufficient.
It recommends that there should be specific provision for investors to take or recommend enforcement action and proposes that its enforcement processes are strengthened. This could result in disgruntled investors flooding the Commission with complaints that their investment adviser in some way breached the law.

Submissions

If you would like Bell Gully to make submissions on your behalf please contact your usual Bell Gully adviser or Mike Colson in our Wellington office or Mark Todd in our Auckland office.