Aug 15

Think twice before obtaining a “sophisticated investor” certificate.

You may have read that ASIC has revised its guidance about how it will apply the wholesale or “sophisticated” investor test to SMSFs.

Previously, ASIC had expressed the view that generally, for financial services provided to the trustee of an SMSF, a $10m fund value threshold applied before the trustees could be dealt with as “wholesale” clients.

ASIC have now revised this view and have stated that they will take “no action” where a trustee with net assets of $2.5m or more is treated as a wholesale client, and where the product or service provider has obtained an accountant’s certificate to this effect. It is important to note that this is a “no action” statement from ASIC- it does not settle the acknowledged uncertainty associated with these provisions.

Being treated as a wholesale client is a double-edged sword for SMSF trustees. On the one hand, the SMSF may gain the opportunity to make investments which are not available to retail clients, without needing to invest above the $500 000 regulatory threshold for such products. They may also gain access to some investment products or services at a lower cost, as the product provider may pass on cost savings associated with operating outside the retail investment regulatory regime.

On the other hand, the SMSF loses access to important protections set out in Parts 6D.2 and 7.6 – 7.9 of the Corporations Act, including:

  • When a licensee provides a financial service, they must provide a written statement called a Financial Services Guide (FSG), setting out the terms and basis of their services (s941A).
  • If a licensee provides advice specific to the client’s needs, they must provide a written Statement of Advice (SoA), which sets out the basis of that advice, as well as the amount and source of any commissions or other remuneration they receive from product providers (s946A, s947B, s947C, s947D).
  • Product issuers must generally give retail clients a Product Disclosure Statement (PDS) before issuing a financial product (s1012B). The PDS should provide essential details about that product. For CDOs, the preparation of a prospectus instead of a PDS is required when what is being offered is a security (as defined in s700). However, the objectives of the two documents are similar in aiming to provide clients with the information they require to make an informed investment decision.
  • All providers of financial services must maintain a dispute resolution system for their retail clients, including access to one of the independent complaint services to which every licensee that provides financial services to retail clients is required to belong. Complaint handling by these bodies is free to the consumer. (s912A (2)).
  • If a financial services licensee provides a financial service to persons as retail clients, the licensee must also have arrangements for compensating those persons for loss or damage suffered because of breaches of the relevant obligations by the licensee or its representatives. (s912B).
  • Those that provide advice to retail clients are also subject to stricter training requirements set out in ASIC’s Regulatory Guide 146 Licensing: Training of financial product advisers (unless exempted).

(Source: Australian Government, Wholesale and Retail Clients, Future of Financial Advice Options Paper, January 2011 )

In issuing the guidance ASIC also stated that it “supports a review of the test to ensure that it is both clear and appropriate”.

Such a review would need to examine the relevance of an assets test alone for determining whether an individual or group of individuals (eg Trustees) are sufficiently “savvy” about investment matters to be treated as a wholesale or sophisticated investor.

It would also need to consider the fact that the dollar value threshold of $2.5m has not changed since 2001. By (apparently) permitting the aggregation of super balances of up to four people, ASIC, in effect, are significantly lowering this threshold.

Other questions remain outstanding:

  • Does anyone (eg the accountant or product provider) have an obligation to explain to the trustee (who is at that point a retail client) the consequences of the move to being a wholesale investor? For example, does the provision of a “wholesale investor” or “sophisticated investor” certificate constitute advice?
  • How do advisers deal with multi member funds where, for example, no individual member comes close to meeting the $2.5m threshold, or conversely, one member has a relatively small balance?
  • What products remain subject to the $10m “superannuation products” threshold?
  • Does the “controlling entity test” need to be met for the $2.5m threshold to apply to the fund? This would require funds to have a Corporate Trustee and to appoint one director as a Managing Director. (We think it does- we have sought legal advice on this matter.)

In our view, trustees should fully understand the products and services that they are acquiring before opting out of the retail investor regulatory framework. They should understand exactly what benefits are obtained for members, weighing advantages such as access to investment types or lower fees against the loss of both information (e.g. product and fee disclosure), and dispute resolution and compensation mechanisms.

 

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