Quality of advice: Case study 2
This case study is drawn from experience of mystery shops we have conducted around the advice process.
The case study contains examples of both good and not so good Treating Customers Fairly (TCF) practice and illustrates the kind of issues that Firm D should consider, in these circumstances, to improve the quality of advice it is providing to its customers. In analysing both these examples and issues, you may be better able to identify TCF issues in your own firm.
Customer profile
Mr Smith is 60 years old and has just retired. He has received a tax-free cash lump sum of £60,000 from his occupational pension scheme. He would like advice on the best way to make the most of this money and, in particular, whether to pay off his outstanding mortgage or to invest the money for growth.
Mr Smith decided to visit his local independent financial adviser (IFA), Firm D for advice.
Firm D profile
Firm D is a large IFA, with advisers in branches throughout the country. Mr Smith met with Adviser E.
Disclosure
When Mr Smith contacted Adviser E, he explained his situation and asked for advice on his forthcoming tax-free cash.
Adviser E explained his status as an independent financial adviser in simple, easy-to-understand terms using the Initial Disclosure Document (IDD) and the firm's Terms of Business.
He also explained the payment options available to Mr Smith using the menu. Adviser E explained that if he gave generic advice, which resulted in no product sale, any payment would be by fee but if he sold a product to Mr Smith, then Mr Smith could choose between paying for the advice by either fee or offsetting the fee through commission.
Despite Adviser E fully explaining the IDD and menu so that Mr Smith understood his payment options and the independent service being offered, as the conversation progressed it became clear that Adviser E was steering Mr Smith towards the commission route.
Issues to be considered
TCF issues Firm D might consider include:
- How does Firm D ensure that its advisers make the disclosure process transparent and provide impartial information about the payment options available to customers?
- How can the adviser be reasonably confident that the customer fully understands and appreciates the service and payment options offered and can therefore make an informed choice between them?
Assessment of Client Needs
Adviser E explained to Mr Smith the importance of the fact-find process and the impact on his advice should they not discuss all relevant information. As Mrs Smith was not present and Mr Smith, in general, likes to keep his finances separate, Adviser E completed a sole fact-find.
Early on in the fact-find process, Adviser E established that Mr Smith has an interest-only mortgage backed by an endowment policy. The endowment policy has a written guarantee from the provider that the mortgage will be repaid at the end of its term. Mr Smith confirmed he is happy with the level of premium committed to the endowment policy and, based on his expected income and expenditure, Adviser E confirmed the endowment premiums and mortgage interest payments appeared affordable over the next five years.
Adviser E did not investigate any other details about Mr Smith's mortgage and associated policies e.g. tie-in period, redemption penalty, single or joint name basis etc, yet he discounted the option of Mr Smith repaying his mortgage with the tax-free cash.
In addition to his occupational pension scheme, Mr Smith also explained he has other personal pension arrangements, which, for the moment, he would not be taking benefits from. The adviser suggested to Mr Smith that he should find out more about his personal pensions so they could investigate them further. Adviser E stated the need to find out whether Mr Smith's personal pensions are contracted in or out of the State Second Pension. Adviser E also identified that Mr Smith's wife, who is in poor health, has an FSAVC, with the option of taking tax-free cash. The adviser mentioned he could look into this as an advice issue in the future.
As Mr Smith had indicated in the first instance that he was interested in advice on what to do with his tax-free cash, Adviser E mainly concentrated on this area and went on to discuss Mr Smith's existing savings and investments. He asked how much money Mr Smith currently held on deposit and how he had accumulated the money. Mr Smith explained that the money in his cash ISA is the result of regular monthly savings from the previous four years, although he has not yet contributed for this tax year, but the money held in his instant access savings account is from a recent maturity of a one-year-fixed term deposit. Adviser E was keen to explore whether Mr Smith has any plans for this money and over what term. Mr Smith explained that, apart from going on holiday with his wife, he has no immediate plans. So Adviser E ascertained that Mr Smith has adequate cash reserves for emergencies and the money from the tax-free cash is surplus to immediate requirements.
Adviser E then went on to discuss Mr Smith's attitude to risk. Mr Smith had already stated that concerning his tax-free cash, his only objective is to make the most of it but without the risk of losing any. This is because he would like to leave a healthy inheritance for his grown-up children.
Adviser E explained risk and reward in very general terms, stating simply 'greater risks need to be taken for greater returns'. Mr Smith recognised he would have to accept a minimal risk to his capital to achieve his desired return, So Adviser E and Mr Smith agreed a cautious/balanced approach to investment would be appropriate.
Once Adviser E had explored Mr Smith's savings, investments and attitude to risk, he asked about Mr Smith's other potential need areas, such as long-term care provision and protection requirements beyond those relating to the endowment policy.
Issues to be considered
TCF issues Firm D might consider include:
- Does the fact-find process Firm D has in place enable the capture of all pertinent customer details including:
- their current and future circumstances and objectives, e.g. current and expected income and expenditure levels;
- all relevant details regarding current financial status, e.g. mortgage arrangements and access to emergency funds; and
- other money the customer may be entitled to, e.g. state and occupational benefits?
- What are the consequences for the customer and the firm where an adviser does not obtain all relevant details about a customer's circumstances or a customer refuses to disclose potentially relevant information?
- How can the firm have confidence in customers' understanding of risk and reward to ensure determining customers' attitude to risk is robust?
- What are the consequences for customers and the firm if attitude to risk is incorrectly assessed?
- How can Firm D deal with customers who are unable to provide full details of existing policies that impact upon subsequent recommendations? What guidance could Firm D provide to advisers in these instances?
Recommendations
As Adviser E failed to find out and subsequently to fully consider Mr Smith's mortgage details he assumed that Mr Smith's mortgage arrangements were suitable for his circumstances. So Adviser E concentrated his recommendations on investment of the tax-free cash.
Based on the information regarding Mr Smith's tax position obtained during the factfind process, Adviser E recommended that he invest £7,000 into a maxi ISA. Adviser E also recommended that to shelter further money from tax, Mr Smith should transfer £7,000 over to his wife for her to use her maxi ISA allowance.
When Adviser E explained his recommendations to Mr Smith, he referred back to Mr Smith's attitude to risk and stated that the funds recommended for him were in line with his approach to investing and they should provide the growth required without the risk to his capital. However, to allow for the importance of diversification, he recommended higher-risk funds for Mrs Smith's ISA. The remaining capital was placed into an investment bond in Mr Smith's sole name, although the adviser did not fully explain the risk profile of this product or how it met Mr Smith's objectives.
Adviser E also recommended Mr Smith see a solicitor about will planning and mentioned he give consideration to Inheritance Tax.
Issues to be considered
TCF issues Firm D might consider include:
- How does Firm D know that its advisers' recommendations match the information (about customers' circumstances, objectives, attitude to risk etc) obtained during the factfind?
- How does Firm D satisfy itself that advisers explain clearly and fully how any recommendation is suitable for the customer?
- What are the implications for the firm and the customer where the adviser only considers his recommendations in the short-term, rather than looking at the customer's long term-financial planning, for example, future tax planning, or the need to access emergency funds?
Suitability Letter/ report
Adviser E sent a suitability letter to Mr Smith immediately after their conversation.
Its content, while written in easy to understand plain language, did not appear to fully reflect the information he gave Mr Smith at the point of sale. In particular, when referring to the customer's risk profile, the letter stated this as balanced, as opposed to cautious/balanced. In addition, under the description of the recommended funds, some had too much exposure to risk and, as such, had the potential to fall in value, which contradicted what Mr Smith required and what Adviser E had explained.
Adviser E re-confirmed in the letter the reason for recommending an ISA in Mrs Smith's name and the importance of diversification. However, given Mrs Smith had not been present at the interview and, as such, her objectives and attitude to risk had not been established, Mr Smith was still unsure why higher-risk funds had been recommended for his wife.
The letter confirmed that Adviser E had restricted his advice to that of investing Mr Smith's tax-free cash. It also mentioned other potential need areas and suggested that Mr Smith might like to meet Adviser E again in the near future to discuss these.
Adviser E also suggested that Mr Smith might like to consider taking advice on both his and Mrs Smith's personal pension arrangements before taking benefits.
Issues to be considered
TCF issues Firm D might consider include:
- Are suitability letters/ reports written in a manner the customer understands?
- Does the suitability letter/ report demonstrate why the adviser recommended a particular product and provider and how they meet the customer's circumstances and objectives?
- Does the suitability letter/ report document the customer's attitude to risk? Does this then link into the adviser's recommendations?
- What are the implications for the customer and the firm where an adviser makes a recommendation for a customer's family member where he has not conducted a fact-find about that family member?
- What are the benefits to the firm and the customer in the suitability letter/ report stating if the advisor and customer have agreed that advice limited to one or more needs will be provided and explaining the potential limitations and risks of not receiving full advice?
TCF Going Forward
Firm D should consider its ability to treat its customers fairly throughout its advice process by referring to TCF issues such as those highlighted above. Firm D should also consider wider aspects of TCF; these will include areas such as:
- What could it do to ensure that its advice process does not undermine the fair treatment of its customers?
- What can Firm D's senior management do to ensure good TCF practice is cascaded to all parts of the firm?
- How is the firm engaging, motivating and training its staff on TCF?
- How is TCF implemented into Firm D's monitoring and supervision regime?