Government releases options paper on review of retail/wholesale distinction
PDF DOWNLOADAs part of its Future of Financial Advice reforms (FOFA), the Government has recently released an options paper (Options Paper) reviewing the distinction between retail and wholesale clients in the Corporations Act 2001 (Cth) (Corporations Act).
The distinction between retail and wholesale clients has not been significantly updated in 10 years. During the global financial crisis, clients who did not have the necessary investment experience were exposed to complex financial products on the wholesale market.
Background
The retail/wholesale distinction is central to the regulation of financial services in Australia. The Corporations Act imposes far greater regulatory burdens on providers of financial services and products to retail clients than to wholesale clients. Under the Corporations Act, a person to whom a financial product or service is provided is treated as a retail client unless specifically designated as a wholesale client.
Insurance and superannuation are treated differently, but investors in other financial products can be treated as wholesale clients if they satisfy certain threshold tests. A client is considered to be a wholesale client if they meet one of the following tests:
- the product’s value is over $500,000 (the “product value test”);
- the client has net assets over $2.5 million or a gross income of at least $250,000 a year for the last two years (the “wealth test”);
- the client falls under the definition of a professional investor as defined in the Corporations Act;
- the client falls under the definition of a sophisticated investor under section 761GA of the Corporations Act; or
- the client is above a certain size that is not a small business.
The Government is following a general trend, internationally, to clarify the treatment of retail and wholesale clients.
The Options Paper is proposing four possible options for reform:
Option 1: Retain and update the current system
This option focuses on updating the existing product value threshold which is applicable to wholesale clients. It is proposed that the existing threshold of $500,000 in the product price or value test would be increased to $1 million.
The Options Paper raises the question of whether all three thresholds should be increased including the $250,000 gross income and $2.5 million net asset thresholds in the category for high wealth individuals.
Other possible changes include:
- introducing a mechanism to index the monetary thresholds;
- excluding illiquid assets from being counted towards the $2.5 million net assets threshold;
- ensuring that clients specifically acknowledge instances when they will be classed as a wholesale client;
- requiring clients to meet two of the three monetary thresholds ($500,000 price or value test, $250,000 gross income and $2.5 million net assets) rather than one;
- introducing additional requirements for complex products;
- changing the price or value test for derivatives; and
- repealing the “sophisticated investor” test, licensees would no longer be able to classify clients as wholesale based on an assessment of their investment experience.
Option 2: Remove the distinction between wholesale and retail clients
This option would mean all investors, except professional investors, would receive the protections and disclosures currently afforded only to retail clients.
As part of the broader FOFA reforms, a duty obliging advisers to act in the best interests of their client will be introduced. If the distinction between different classes of investors is removed, advisers would need to verify the suitability of investments for each investor when providing them with personal financial advice, which will impose additional burdens on advisers and is, therefore, unlikely to be well received by the industry.
Option 3: Introduce a “sophisticated investor” test as the sole way to distinguish between retail and wholesale clients.
This option would allow licensees of financial products and services to classify clients as wholesale by assessing their investment experience rather than relying on existing wealth threshold tests.
The financial services industry is already disinclined towards the current sophisticated investor test under section 761GA of the Corporations due to the difficulty and potential legal liability of making this kind of subjective assessment. Expanding the sophisticated investor test to all distinctions between retail and wholesale is unlikely to be well received by industry.
Option 4: Do nothing
The existing retail/wholesale distinction would remain unchanged including the existing tests and thresholds.
Whichever option is adopted, the Government will need to strike the right balance between providing adequate protection and disclosure to clients who need it, while encouraging efficiencies in the financial services industry.
Although the Options Paper does not specifically address the issue, it should be noted that any change to the retail/wholesale client distinction, particularly arising from changes in the professional and sophisticated investor criteria, may impact on the fundraising disclosure provisions of Chapter 6D of the Corporations Act.
To access a copy of the Options Paper click here
Contact details
Melbourne
Michael Linehan,
Partner
T: +61 (0)3 9321 9807
E:
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Sydney
Darren Pereira, Partner
T: +61 (0)2 8083
0487
E:
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Jon Cane, Partner
T: +61 (0)2 8083 0489
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Brisbane
Philip Vickery, Partner
T: +61
(0)7 3135 0632
E:
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