Improving market governance of the New Zealand Emissions Trading Scheme

Closes 27 Feb 2023

Topic 2: Regulating NZU financial advice, transactional and/or custodial services

There are 15 questions that can be answered within section two.

You can read section two and the questions either: 

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Summary of options

  • Option one: Existing legislation (status quo). The NZU market is partially covered by four Acts that protect market users from poor or misleading advice. The status quo also captures private remedies that exist independently of legislation, such as a claim for breach of contract. This option may not provide adequate coverage from the potential of increasingly poor advice.
  • Option two: Regulating NZU financial advice, transactional and/or custodial services. Regulating NZU financial advice means that persons who make recommendations or give opinions about buying, selling or holding NZUs would be regulated in a similar manner as under the FMC Act. Obligations for advice providers to retail clients include complying with a code of conduct, meeting standards of competence, operating under a licence from the FMA and belonging to a dispute-resolution scheme. This proposal also tests whether client money and property services as part of the FMC Act should now be considered, as it was not a part of the 2021 consultation.
  • Option three: FMC Act wholesale client settings. This option assumes that a larger proportion of those receiving NZU financial advice would have a higher degree of experience, compared to clients who receive advice about other financial products. This option proposes that wholesale client settings apply for all NZU market users.
  • Subject to feedback, we recommend progressing with option two: Regulating NZU financial advice, transactional and/or custodial services.

Summary of impacts

  • Option two provides greater oversight for government agencies, the regulator and the public as to who provides financial advice relating to NZUs, as well as greater ability to monitor compliance with existing laws.
  • Option two provides greater oversight of financial advice and additional protections for smaller NZU market users – in particular, increased access to redress for clients of NZU advisers if something goes wrong.
  • Option two increases confidence for those receiving advice from NZU advisers, as the advisers would be required to act ethically and have competence in relation to NZUs and would be subject to oversight by the FMA.
  • Option two subjects NZU advisers to compliance costs – both internal compliance costs and external direct fees (such as licensing fees, Financial Service Providers Register (FSPR) registration fees, FMA levies, dispute-resolution scheme fees) – which may be passed onto clients.
  • While option three would not amount to a big difference for existing wholesale clients, it could impact the advice received from retail clients.

Objective

We want all persons who interacts with the NZU market to have access to quality advice about buying and selling NZUs. We also want to ensure services relating to NZUs are provided with appropriate levels of care, diligence and skill. To achieve this, the following are required:

  • NZU advisers are to be competent and to act ethically. This will enable those who receive financial advice relating to NZUs to have confidence that the advice they receive will help them meet their financial goals.
  • Regulatory obligations are to be proportionate, so that financial advice relating to NZUs is accessible at affordable prices.

What we have heard so far

Stakeholders stated they had not received poor or misleading advice from advisers but acknowledged they were aware of poor advice in the market. However, in 2014 the Ministry for the Environment received complaints of poor advice, which initiated the NZU market governance work programme.

Some stakeholders mentioned that any registration framework and code of conduct for NZU advisers should consider linkages to similar frameworks. In particular, that consideration should be given to the FMC Act and its Code of Professional Conduct for Financial Advice Services [Financial Advice Code website].

Submitters also wanted to ensure double regulation was avoided for complementary frameworks such as the Forests Act 1949.*

 

*See the definition of forestry adviser service in section 63M of the Forests Act 1949 [New Zealand Legislation website].

Options considered

Option one: Existing legislation (status quo)

Under the status quo, advice relating to NZUs is partially covered by four Acts: the Fair Trading Act 1986, the Forests Act 1949, the FMC Act and the Financial Service Providers (Registration and Dispute Resolution) Act 2008.

The status quo also captures private remedies that exist independently of statute, such as a claim for breach of contract.

Coverage under the FTA

For trade in general goods and services, the FTA seeks to protect consumer interests and to allow businesses and consumers to participate confidently in trade. The FTA does this by prohibiting certain unfair conduct and practices, and providing for proportionate offences, penalties and avenues for consumer redress.

NZU advice remains within the general remit of the FTA as a service (unless parties lawfully contract out).

Consumer protections are limited, and the key avenue for remedy is to take a claim to the Disputes Tribunal, the District Court or the High Court. The jurisdiction of the Disputes Tribunal is limited to making orders for values and amounts that do not exceed $30,000; the District Court’s jurisdictional limit for such orders is $350,000; the High Court has unlimited jurisdiction.

As for all services governed by the FTA, the Commerce Commission can:

  • receive and investigate complaints
  • provide advice and/or warnings
  • take enforcement action.

As above, the penalties and offences are designed for general services and are lower than the approaches and maximums set out in the FMC Act for financial products and financial services.

Coverage under the Forests Act 1949

In the case where two parties in the forestry sector contract out of the FTA, there may remain protections under the Forests Act 1949.

In that case, under section 63V(2) of the Forests Act 1949 [New Zealand Legislation website], any person may complain to the Forestry Authority (or the Forestry Authority may itself initiate a complaint) that a person has engaged in unsatisfactory conduct or misconduct in their capacity as a registered person.

If the Forestry Authority is satisfied that a person has, in their capacity as a registered person, engaged in misconduct (as defined in section 63ZI [New Zealand Legislation website]), the Forestry Authority may consider whether there are grounds to prosecute the person for an offence under section 63ZK [New Zealand Legislation website]. A person who commits an offence under section 63ZK is liable on conviction for a fine (not exceeding $40,000 in the case of an individual, and $100,000 in any other case).

Coverage under the FMC Act and Financial Service Providers (Registration and Dispute Resolution) Act 2008

Ancillary services (such as the managing or administering of money) provided in connection with NZ ETS-related transactions by persons that are in the business of providing a ‘financial service’* are governed by the FMC Act fair-dealing provisions.

There are stronger consumer protections for this component of services, including:

  • fair dealing rules that are tailored to dealings in financial products and financial services
  • providers are required to register on the Financial Service Providers Register (FSPR).
  • providing services to retail clients requires mandatory membership of an approved dispute-resolution scheme.

The FMA has regulatory remit over financial service providers and has access to a broader range of regulatory tools when considering intervening. As well as providing guidance and undertaking investigations, the FMA may issue stop orders to pause or end conduct. These orders can be used to stop or prevent advertising or disclosure that confuses, or is likely to confuse, consumers or investors on matters that influence their investment decisions. For example, the FMA could issue a stop order to restrict the supply, or possible supply, of services that are likely to mislead or confuse in a serious manner.

The FMA may also take prosecutions for breaches of the fair-dealing provisions. As noted above, the offences and penalties are tailored to financial products and financial services, where there is a much greater prospect of financial harm or loss than other types of services.

Option two: Regulating NZU financial advice, transactional and/or custodial services

Under option two, we would extend the regulation of financial advice to persons who, as part of their ordinary course of business, make recommendations or give an opinion about acquiring, disposing of, or holding NZUs.

Duties and licensing requirements for NZU advisers

All duties and licensing requirements are discussed further in the ‘What this proposal means in practice’ section below. At a high level, obligations include the following:

  • Licensing: Under the financial advice regime, anyone who gives regulated financial advice to retail clients must hold or operate under a licence granted by the FMA.
  • Registration: All financial service providers are required to register on the FSPR (under the Financial Service Providers (Registration and Dispute Resolution) Act 2008).
  • Fair dealing: As is applied under the FMC Act, fair dealing includes:
    • not engaging in misleading or deceptive conduct
    • not making false or misleading representations
    • not making unsubstantiated representations.

Fair-dealing requirements for NZU advisers would ensure that ‘NZU financial advice’ is treated on a like-for-like basis with ‘financial advice’, in order to enhance the integrity and confidence of the NZU market.

  • Statutory duties: In providing financial advice, all financial advice providers must:
    • exercise care, diligence and skill
    • give priority to client’s interests where the provider knows, or ought to reasonably know, there is a conflict between the provider’s and the client’s interests
    • comply with a code of conduct and other statutory duties if they give regulated financial advice to retail clients.

Table 10 below indicates, at a high level, what changes this proposal is intended to make to the current regulatory environment.

Table 10: Effect of proposed changes on financial advice relating to NZUs

Service

Activity

Change proposed

Effect

NZU financial advice

Recommendation/opinion to buy/sell/hold NZUs

Yes

Regulate as financial advice relating to NZUs

Design investment plan that includes NZUs

No

Status quo – already regulated as financial advice

Transactional and/or custodial services

Buying or selling NZUs on behalf of a client (where that involves dealing with client money or NZUs)

For consultation

Regulate as client money and property service

Holding/administering NZUs on behalf of a client

For consultation

Regulate as client money and property service

NZ ETS advice

Advice about ETS obligations, entitlements, or options

No

Status quo – partly regulated as ‘forestry adviser service’

Direct transactions

Buying/selling NZUs on own behalf

No

 Status quo – no limits

We set out below some detailed examples to illustrate how this proposal would affect (or not affect) different persons interacting with the NZU market.

The Crown is broadly exempt from financial advice obligations. For example, the FMC Act is not intended to include communications from or between representatives of the Crown (such as Environmental Protection Authority (EPA) staff) to help NZ ETS participants meet their obligations.

Option three: Applying FMC Act wholesale client settings

We considered the option of regulating NZU financial advice by broadening the application of the settings for wholesale-only clients in relation to other financial products. This alternative option assumes the likelihood that a larger proportion of those receiving NZU financial advice would have a higher degree of experience, compared to clients receiving advice about other financial products.** Given uncertain evidence of a problem, regulators can better monitor the level of problems in the market and, if justified, the Government can look to increase the level of regulation at a later stage.

Under this option, persons who provide NZU financial advice could be required to:

  • register on the FSPR to provide that type of service
  • comply with FMC Act fair-dealing standards
  • meet advice duties to put their client’s interests first and to exercise care, skill, and diligence.

The objectives in proposing this option are intended to recognise that:

  • persons who engage with the NZU market, as opposed to other types of financial products, are much more likely to be as sophisticated and experienced as a wholesale investor under the FMC Act (because they own a forestry block)
  • the regulatory burden of complying with the obligations for services provided to clients that include retail clients (including mandatory dispute resolution and additional advice duties  as outlined below) is likely to be disproportionate to the benefits intended to be achieved, including reducing the availability of providers willing to provide this type of service
  • regulators can better monitor the level of problems in the market and, if justified, the Government can look to increase the level of regulation at a later stage.

In more detail, these components involve the following key features:

  • FSPR registration: Persons who provide NZU advice must register on the FSPR and pay levies. This would allow regulatory oversight of those registered and minimum character requirements of persons providing this type of advice.
  • FMC Act fair dealing: This aligns the NZU advice service with other types of financial advice (and with their penalties and offences) but does not materially change the standards currently expected under the FTA. It does allow the FMA to intervene in behaviour that appears to contravene the FMC Act standards.
  • FMC Act advice duties: Persons who give NZU financial advice are required to:
    • give priority to their client’s interests where they know, or ought reasonably to know, there is a conflict between the client’s interests and the advice-giver’s interests, by taking all reasonable steps to ensure that the advice is not materially influenced by the adviser’s or firm’s own interests
    • exercise the care, diligence and skill that a prudent person engaged in the occupation of giving regulated financial advice would exercise in the same circumstances.

For completeness, this option would not require:

  • mandatory membership of an approved dispute-resolution scheme
  • licensing by the FMA
  • complying with the FMC Act advice duties for retail clients, including:
  • ensuring the client understands the nature and scope of advice being provided.

 

*As defined in section 5 of the Financial Service Providers (Registration and Dispute Resolution) Act 2008 [New Zealand Legislation website].

**This assumption does not align with preliminary data available on the wholesale vs. retail market split.This assumption does not align with preliminary data available on the wholesale vs. retail market split.

23. Can you suggest alternative options that would achieve the stated policy objectives?
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Options analysis

Appendix C of this discussion document provides the option and risk analysis tables for topic 2.

Option one, the existing legislation, relies on a patchwork of existing regulation, which provides limited protection to market users. The status quo does not improve on the risks of poor advice and credit and counterparty risks in the NZU market, or provide any positive effect to the impact analysis criteria.

Option two, regulating NZU financial advice, provides a comprehensive protection framework for misleading and deceptive conduct in relation to NZU financial advice. Retail clients receive a high level of protection, while wholesale clients are covered by statutory obligations. This option is more proportional, considering the risk of poor advice compared to the status quo. However, there is a risk that some providers will choose not to provide NZU financial advice to avoid the costs of regulation (or provide advice to wholesale clients only to avoid having to be licensed).

Option two addresses the market risks much better than the status quo and minimises the risks of poor advice and conflict of interest in the NZU market.

Option three, applying FMC Act wholesale client settings, would apply only wholesale protections to both wholesale and retail clients. Retail clients are considered to need additional protections as they generally make up smaller businesses. A disadvantage of option three is that it provides retail and wholesale clients (larger businesses who are better equipped to deal with the risk of poor or misleading advice) with the same level of protection.

This option provides some level of protection for large businesses but is insufficient for small businesses. The obligations are clear for both parties but are not proportional to retail clients. To some degree this is better than the status quo, as it provides some limited protections to clients, but it is not suitable or fair to retail clients.

Option three provides much lower complexity than the status quo through clearer and lighter obligations on parties and lower cost through no licensing. This option also addresses the market risks better than the status quo, as it provides minimum statutory obligations for wholesale and retail clients.

Option two is preferred at this stage: Regulating NZU financial advice, transaction and/or custodial services

We currently consider that the proposed option aligns with the objective for topic 2, in that it satisfies the criteria much better than the status quo for integrity, consistency and proportionality, and market efficiency.

What this proposal means in practice

What advice about NZUs is already regulated as ‘financial advice’?

Under section 431C(1)(c) of the FMC Act [New Zealand Legislation website], financial advice includes where a person designs an investment plan for a person that:

  • purports to be based on an analysis of the person’s current and future overall financial situation (including investment needs) and the identification of the person’s investment goals
  • includes one or more recommendations or opinions on how to realise one or more of those goals.

This part of the definition already applies to NZUs in some situations – for example, where a person, as part of designing an investment plan, includes recommendations to acquire and hold NZUs as an asset within a diversified portfolio in order to achieve future income aspirations.

This proposal is not intended to change how this part of the definition currently applies to the design of an investment plan that includes NZUs.

In the examples set out below, we illustrate the narrow scope of investment-planning services in the context of those buying, selling or holding NZUs. We expect this to only apply to a small range of persons.

What is intended to be 'NZU financial advice'?

The activities we are intending to regulate are where, in the ordinary course of business and as a financial advice product, a person is providing opinions or recommendations about acquiring or disposing of (or not acquiring or disposing of) NZUs. In practice, the main type of advice regulated would be advice about whether to buy, sell, or hold NZUs, given the price that is being or may be offered.

This is envisaged to include advice provided to others based on the adviser’s own research and analysis of matters like:

  • NZU market activity (eg, buying and selling activity)
  • NZU price forecasts and modelling (ie, based on the adviser’s own assumptions and inputs about expected changes in supply and demand for NZUs)

This would also include advice relating to:

  • how to trade NZUs (eg, trading on a licensed market or over the counter to achieve a better purchase or sale price, or trading in blocks or a series of smaller trades over time)
  • whether the client should trade on a licensed market or over the counter to achieve a better purchase or sale price.

The proposal is also intended to maintain the same or similar exclusions to the definition of financial advice and regulated financial advice as those provided under the FMC Act.

For example, clause 7 of Schedule 5 of the FMC Act [New Zealand Legislation website] provides exclusions from what is ‘financial advice’ for matters that include:

  • providing factual information (eg, information about the cost or terms and conditions of a financial advice product, or about the procedure for acquiring or disposing of a financial advice product)
  • carrying out an instruction from a person to acquire or dispose of, or not to acquire or dispose of, a financial advice product for that person.

Schedule 5 also provides 11 exclusions from regulated financial advice that include, for example, Crown entities and public sector departments giving financial advice in the ordinary course of business.

In the financial advice regime, a recommendation relating to a kind of financial advice product in general, rather than a particular financial advice product (eg, an opinion about shares generally rather than shares of a particular company), would not be financial advice.

24. What are your views on whether these exclusions should, in principle, apply to NZU financial advice? If not appropriate, what modifications or changes do you think are necessary?
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What is proposed to be excluded from being ‘NZU financial advice’?

This proposal is not intended to regulate advice about current or prospective NZ ETS participants’ obligations or entitlements under the Climate Change Response Act 2002 (NZ ETS advice). This general NZ ETS advice includes advice that relates to:

  • current or prospective allocations, entitlements and/or surrender obligations in respect of NZUs
  • whether or not a participant should register under the NZ ETS in respect to an activity (eg, registering a post-1989 forest for a removal activity)
  • complying with obligations in the NZ ETS as a participant or recipient (as defined in the CCRA)
  • activities required to calculate NZU surrender obligations
  • activities that indirectly result in NZUs being acquired (such as the purchase of a forestry business)
  • land encumbrances relating to the NZ ETS
  • exiting the NZ ETS.

NZ ETS advice generally

While we are aware that there is presently no targeted occupational regulation of NZ ETS advice for persons who undertake eligible industrial activities or persons that have surrender or repayment obligations for NZUs, we are not intending to include these areas in this proposal.

Forestry adviser services

Forestry adviser services have, in part, been addressed by the occupational regulation of forestry adviser services under the Forests Act 1949.

Ancillary services or financial advice provided via other occupations

Financial advice is not regulated financial advice if it is an ancillary service or provided via other occupations (eg, advice provided by an incorporated law firm or if the person giving advice carries on one of the defined occupations in the FMC Act).*

 

*See Part 2, Schedule 5 of the FMC Act [New Zealand Legislation website] for broad exclusions from regulated financial advice and, in particular, see clause 8, Part 2, Schedule 5 [New Zealand Legislation website] for a list of ancillary services and other occupations excluded from regulated financial advice.

Examples of NZU financial advice and NZ ETS advice

Table 11 and the scenarios below are intended to indicate how this proposal would apply in practice for persons who may deal in NZUs on the supply side and demand side in the NZU market.

Table 11: Examples of advice included (or partly included) in the proposed definition of NZU financial advice

Sector

Activity

Outcome

Any

Advising a client to buy, sell, or hold NZUs based on desktop studies into emitters’ emissions profiles and devising custom forward NZU price modelling

Regulated as NZU financial advice

Any

Providing advice about NZU market activity to inform when a client should decide to buy NZUs on-market, and that acquiring units on market is likely to yield the best price

Regulated as NZU financial advice

Any

Preparing recommendations for a client about how to manage and sequence acquisition of NZUs to meet their upcoming NZU surrender obligations

Regulated as NZU financial advice to the extent that the advice relates to buying, selling or holding NZUs

  • Any advice about how many units the client is required to surrender is out of scope of this proposal
  • As part of preparing NZU financial advice, the adviser would consider information (which might be communicated by the client) about how many units the client is required to surrender
  • How the adviser considers that information to reach recommendations about when to buy NZUs would be regulated as NZU financial advice

Any

Preparing an investment plan for a client that includes holding NZUs as part of a diversified investment portfolio, or providing advice about a managed investment product that includes holding NZUs

Already regulated as ‘financial advice’

Any

Analysis of a company’s emissions profile, developing estimates for future NZU surrender obligations, and the design of a strategy to buy and sell NZUs to mitigate financial risk

Partly regulated as NZU financial advice

  • The advice that applies CCRA obligations to calculate surrender obligations is out of scope of this proposal, but the strategy to buy and sell NZUs is regulated as NZU financial advice

Table 12 and its scenarios are examples of advice we do not intend to regulate as NZU financial advice.

Table 12: Examples of advice excluded from the proposed definition of NZU financial advice

Sector

Activity

Outcome

Forestry

Providing advice about NZU entitlement and surrender obligations for a post-1989 forestry block

Regulated as a forestry adviser service under the Forests Act 1949 and not intended to be regulated as NZU financial advice

Calculating and modelling the economic potential of different tree species, or future revenue from timber and NZUs

Regulated as a forestry adviser service under the Forests Act 1949 and not intended to be regulated as NZU financial advice

Forestry/emitter

Giving advice that a person does not hold a sufficient number of NZUs to meet their surrender obligation

Not intended to be NZU financial advice

  • However, any advice regarding a strategy to buy and sell NZUs is intended to be regulated as NZU financial advice

Emitter

Carrying out an assessment of a future emissions profile and devising an estimate of the required number of NZUs to meet surrender obligations over a period of time

Not intended to be NZU financial advice

  • This activity does not relate to making an ‘investment’ in NZUs

Investor/trader

Providing information about how to access the primary or secondary market to trade NZUs

Not intended to be NZU financial advice

  • It is factual information and is therefore excluded from the FMC Act scope of financial advice

Any

Summarising price forecasts and information about NZUs from Climate Change Commission reports

Not intended to be NZU financial advice

  • This is publicly available information and is therefore excluded from the FMC Act scope of financial advice
25. Do you agree that the ‘NZU financial advice’ described in the section ‘What is intended to be ‘NZU financial advice’?’ is the type of advice that should be regulated?

Table 11 provides examples.

26. Do you agree that the advice excluded from the proposed definition of NZU financial advice is the type of advice that should not be regulated?

Table 12 provides examples.

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A ‘forestry adviser service’ and ‘NZU financial advice’ do not overlap

The proposal to make financial advice relating to NZUs a form of financial advice would mean that only financial advisers could give financial advice relating to NZUs, and only forestry advisers could continue to provide a forestry advice service.*

The intention is that there is no overlap between the types of advice regulated by the Forests Act and this proposal. Table 12 above provides examples of advice included (or partly included) and excluded, in the proposed definition of NZU financial advice.

Forestry advisers and NZU advisers would be obliged to:

  • make the boundaries of their regulated advice clear
  • understand where each type of regulated advice begins, and when they should recommend a differently qualified adviser, if a client seeks it.

If any adviser (forestry advisers or NZU adviser wants to be able to provide both advice services, the adviser may seek to acquire the relevant forestry adviser and NZU financial adviser qualification and be registered and licensed (if applicable) under both schemes.

What regulatory settings would apply to persons providing NZU financial advice?

In general terms, persons who provide a financial advice service must:

  • comply with fair-dealing rules
  • comply with certain statutory financial advice duties
  • if they provide a service to retail clients:
    • comply with additional statutory duties about the provision of financial advice
    • hold or operate under a licence
    • belong to a mandatory dispute-resolution scheme
  • register on the FSPR
  • pay fees and levies to the FMA.

 

*See the definition of forestry adviser service in section 63M of the Forests Act 1949 [New Zealand Legislation website].

What regulatory settings would apply to persons providing NZU financial advice?

Fair dealing

This proposal adopts the same requirements as the fair-dealing standards under the FMC Act in relation to financial services, including:

  • not engaging in misleading or deceptive conduct
  • not making false or misleading representations
  • not making unsubstantiated representations.

These obligations are broadly the same as the FTA fair-dealing provisions. However, applying the same concepts as the FMC Act means that the FMA can take enforcement action, and higher maximum penalties would apply. It ensures that ‘NZU financial advice’ is treated on a like-for-like basis with ‘financial advice’, to enhance the integrity and confidence of the NZU market in a fair and transparent manner.

Licensing

Under the financial advice regime, anyone who gives regulated financial advice to retail clients must hold or operate under a licence granted by the FMA.

However, providers are exempt from the licensing requirement in respect of a service that is not provided to any retail clients (ie, provided to wholesale clients only), although they may opt for voluntary licensing.

The distinction between retail and wholesale clients also affects the duties that financial advice providers must comply with to give financial advice, and whether or not belonging to a dispute-resolution scheme is mandatory. These definitions are expanded further below.

Licensing can be at the firm level – that is, if a firm employs individuals to give advice on its behalf, then it is the firm that needs to be licensed by the FMA. The firm must take all reasonable steps to ensure its advisers comply with obligations.

Before granting a licence, the FMA must be satisfied about various matters, including that:

  • directors and senior managers are fit and proper persons
  • the applicant is capable of effectively performing the service
  • there is no reason to believe that the applicant is likely to breach its obligations.

Similar requirements for licensing NZU advice businesses would:

  • give clients confidence that licensed firms have been through checks conducted by the FMA
  • give the FMA further information to assist its monitoring of NZU advisers
  • add financial and non-financial compliance costs due to FMA levies, as licence application fees vary based on the class of licence.* Applicants also need to spend time and resources to put in place the policies and processes necessary to meet the licensing standard.

The FMA sets out its expectations around licensing requirements in its Guide to Financial Advice Provider [PDF, 1,237 KB] licence requirements and application kit.

Financial advice licences also have standard conditions relating to: record-keeping, internal complaints processes, regulatory returns, outsourcing, business continuity and technology systems, ongoing requirements and notification of material changes.**

Duties in providing financial advice

All advice providers

All providers of financial advice must comply with minimum statutory duties that include:

  • exercising care, diligence and skill that a prudent person engaged in the occupation of giving regulated financial advice would exercise in the same circumstances
  • giving priority to a client’s interests where the provider knows, or ought to reasonably know, there is a conflict between the provider’s and the client’s interests.

Advice to retail clients

Providers who give regulated financial advice to a retail client must comply with additional statutory duties, including:

  • complying with the standards of ethical behaviour, conduct and client care required by the Code of Professional Conduct for Financial Advice Services [Financial Advice Code website]
  • meeting the standards provided in the code of competence, knowledge and skill in giving advice, and meeting any prescribed eligibility criteria to give advice
  • taking reasonable steps to ensure the client understands the nature and scope of the advice being given, including any limitations on the nature and scope of the advice
  • making prescribed disclosure information available, including
    • making certain information publicly available (to help the public with choosing an adviser)
    • disclosing certain information to the client (to help potential clients decide whether to obtain advice from that adviser, and to help clients decide whether to follow the advice given)
    • providing, at prescribed times (such as when the provider knows the nature and scope of the advice service the client is seeking), information about the firm’s licence, the scope of advice, fees, commissions, conflicts, disciplinary history, and conduct obligations and complaints process.

The Code of Professional Conduct for Financial Advice Services contains nine standards and, among other matters, sets out the following:

  • The standard of general competence, knowledge and skill means that the person has capabilities equivalent to the New Zealand Certificate in Financial Services (Level 5), version 2.***
  • Individuals are required, at least annually, to plan for and progressively complete learning activities designed to ensure they maintain the competence, knowledge and skill for the financial advice they give, as well as an up-to-date understanding of the regulatory framework for financial advice in Aotearoa New Zealand.

It is proposed that these obligations also apply to persons that provide NZU financial advice.

Registration and dispute resolution

All financial service providers are required to register on the FSPR**** under the Financial Service Providers (Registration and Dispute Resolution) Act 2008.

In practice, the following would apply under the NZU financial advice proposal:

  • For advice to retail clients, both the financial advice provider and individual advisers***** would be required to register on the FSPR. Registration and annual confirmation fees would be payable.******
  • Where a provider gives advice only to wholesale clients, only the provider/firm needs to register.

Registration enables government agencies and the public to know who is providing financial advice services and includes criminal history checks on the applicant and its directors/senior managers/controlling owners.

Where financial services are provided to a retail client, the provider must belong to an approved dispute-resolution scheme. This requirement does not apply to financial services provided to a wholesale client.

If a provider gives poor or misleading advice, the retail client can bring a complaint to the provider’s internal complaints-handling process. If the internal complaints-handling process does not resolve the complaint, it can be forwarded to the provider’s dispute-resolution scheme at no cost to the client.

The scheme can consider breach of contract, industry codes and legal obligations. Depending on the severity of the complaint, the findings of the scheme can result in a range of orders, including compensation.******* Providers are required to pay an annual fee to belong to a scheme and an investigation fee per complaint (the fee varies by scheme).

Meaning of wholesale and retail clients

The regulation that applies to services provided to retail clients is significantly higher than for wholesale clients. This is because wholesale clients are generally considered to have greater experience in investing, financial expertise and wealth. Typically they are also better placed than retail investors to assess risks and seek additional information (including financial advice) where required, and therefore need less protection.

The meaning of ‘wholesale client’ is set out under clauses 37–41 of Schedule 1 of the FMC Act [New Zealand Legislation website] as a person (including entities controlled by the person and, as relevant, on a consolidated basis) who meets any one of the following summarised criteria:

  • Investment business: A person who is, for example, a principal business investing in financial products, a registered bank, a financial adviser or issuer of derivatives.
  • Investment activity criteria: A person who has, within the previous two years, owned a portfolio of (or carried out one or more transactions to acquire) specified financial products******** of a value of (or where the amount payable under those transactions was) at least $1 million (in aggregate).
  • A large person: A person who (including entities controlled by the person and, as relevant, on a consolidated basis) had net assets in excess of $5 million as at the last day of each of the two most recently completed financial years.

It may be simpler for our proposal to adopt the same wholesale/retail distinction above for NZU financial advice. Using different wholesale/retail thresholds could introduce complexity, particularly if it leads to the same person being a retail client for one purpose (getting NZU financial advice) but a wholesale client for another purpose (getting financial advice about NZU derivatives or about any other financial product).

If adopting the same definitions (eg, if NZUs were a specified financial product for the purpose of the investment activity criteria described above, and thresholds were otherwise unchanged), that means a person who held more than $1 million of NZUs at any point in the past two years would be treated as a wholesale client.

We are conscious this could mean a number of small forestry participants would not benefit from the full protections of this proposal. We also note that the FMC Act thresholds were developed in the context of parties who buy or hold investment financial products generally by choice, whereas in NZU markets some parties need to hold NZUs to meet surrender obligations.

We seek feedback on whether the existing FMC Act distinction is appropriate in the context of NZUs.

Professional training and qualifications about the NZ ETS

There is a current gap between those who provide NZU advice and their qualification credentials. For example:

  • forestry advisers do not explicitly have NZ ETS, NZU market or financial training in their qualifications
  • financial adviser qualifications do not entail NZ ETS or NZU market training
  • there is a general lack of formal NZ ETS or NZU market training across NZ ETS information providers.

A standardised qualification providing targeted professional modules would bridge the gap between the advice currently given to clients on how to manage NZUs and its financial implications.

Fees and levies

The FMA is funded through a combination of levies charged to financial markets participants, Crown funding, and licensing fees.

The FMA has a cost-recovery model for the licensing and regulatory oversight of the financial advice sector. Under this proposal, no change is intended to the way FMA currently collects fees and levies for this sector.

The size of any levies for NZU financial advice providers would be considered later. If NZU advisers and financial advisers are subject to similar levels of regulation by the FMA, it may be appropriate that NZU advisers pay similar FMA levies.*********

For these financial advice providers that require a licence, the minimum application fees are:

  • Class 1 licence (sole-advisers): $703.80 (includes up to two hours’ assessment time)
  • Class 2 licence (businesses that engage more than one adviser): $882.05 (includes up to three hours’ assessment time)
  • Class 3 licence (large organisations with nominated representatives): $1,060.30 (includes up to four hours’ assessment time).

Additional fees may apply, at a rate of $178.35 per hour, if the application assessment exceeds the allocated hours.

 

*For example, for a business that engages two or more financial advisers, a licence application fee would be $882.05 (inc. GST). Additional fees may apply if the application assessment time exceeds three hours. The licensing of financial advice providers occurs in two stages – transitional and full licensing – to facilitate a smooth transition from the previous Financial Advisers Act 2008 [New Zealand Legislation website]. This proposal assumes only one stage of licensing for NZU advice providers.

***Approved by the New Zealand Qualifications Authority in January 2019 (NZQA reference 2315).

****A publicly searchable register of all financial service providers in Aotearoa New Zealand.

*****Under the financial advice regime, an individual ‘nominated representative’ can give advice of limited scope under the control of the licensed provider, and that individual is not required to be registered. We assume that nominated representative arrangements are unlikely to be common in relation to NZU advice.

******Fees apply for the firm and each adviser. The registration fee is $345 plus a $40.25 criminal check fee per person (eg, per director) and an annual confirmation fee of $86.25.

*******Up to $200,000 or $350,000, depending on the scheme.

********This currently includes equity securities (eg, shares), debt securities (eg, bonds), managed investment products and derivatives, but excludes interests in retirement schemes and some other simpler financial products, such as bank term deposits. See full list of exclusions at clause 46A, Schedule 8 of the Financial Markets Conduct Regulations 2014 [New Zealand Legislation website].

*********The annual levies that are payable for financial advice providers are currently $449.65 for each licensed provider and $460 for each adviser engaged by the licensed provider. Levies for wholesale advice providers are $759 each (with no levies for individual advisers giving advice on behalf of wholesale advice firms).

27. Do you consider that applying the wholesale client definition to NZU financial advice is appropriate?
28. What changes (if any) would you have to make to your business to accommodate the difference in the obligations between these two classes of clients?
29. What are the expected costs and benefits to your business of the proposed new obligations in relation to regulating NZU financial advice, transactional and/or custodial services?
30. What are your views about requiring a minimum qualification would help improve the quality of NZU financial advice, given the types of activities involved in that advice?
31. Are the costs of licensing and other obligations under the FMC Act appropriate for NZU financial advice?
32. Are there likely to be impacts on availability of advice?

For example, if you are an NZU adviser, would you consider choosing not to provide NZU advice to avoid the burden of licensing?

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Should client money or property services apply to the NZU market?

We have received complaints of NZETR account operators withholding access to NZUs from account holders. We want to understand the gravity of this risk in the NZU market and possible solutions to mitigate this risk.

Persons who receive client money, or client money in connection with a financial advice product, are subject to the client money or property service regime under the FMC Act. This regime is not part of financial advice regulation. It imposes key duties and obligations to help ensure providers meet minimum conduct, disclosure and record-keeping standards (among other things).

However, there are material differences between the holding of client money and client NZUs, compared with other financial products under the FMA regime, which require further thought. These differences are:

  • how ownership of NZUs is recorded, managed and administered compared to other financial product markets
  • the role of account operators in the NZETR.

While client money or property services for NZUs were not proposed in the previous 2021 market governance consultation, the purpose of looking at it in this topic is to consider consistent treatment between persons providing client money or property services in relation to financial advice products (eg, shares) and persons providing equivalent services in the NZU market.

As part of this discussion document, we seek views on what role (if any) a client money and property regime should play in the NZU market.

What is a client money or property service?

At a high level, a person provides a client money or property service by:

  • receiving money from a client (or from a person on the client’s behalf) in connection with the acquiring, holding or disposing of a financial advice product
  • receiving property from a client (or from a person on the client’s behalf) that is a financial advice product, a beneficial interest in a financial advice product, or in connection with a financial advice product
  • holding, paying, or transferring that client money or client property.

It includes a custodial service, whereby a person holds the client money or client property on trust for, or on behalf of, a client (or another person nominated by the client).

Broadly speaking, under financial markets legislation, a custodian is a provider who holds money or property for clients, rather than someone who merely executes orders to pay or transfer money or property to another person. Providing a custodial service is when a person:

  • holds client money or client property on trust for a client (Person A) or another person nominated by Person A (Person B) under an arrangement between Person A and Person B
  • holds client money or client property on trust for another person with whom Person A has an arrangement.

In practical terms, if NZUs were to be included within the definition of a financial advice product, then client money or property services could include:

  • receiving money or property in connection with the acquisition or disposition of a client’s NZUs (eg, the purchase, sale or transfer of NZUs), and holding, paying, or transferring that money or property
  • receiving payment from a client to acquire NZUs on their behalf
  • holding and/or administering a portfolio of a client’s NZUs (where, for example, a firm holds legal title to the NZUs on trust for the client who owns the beneficial interest).

A service is a regulated client money or property service if it is not excluded under Part 3 of Schedule 5 of the FMC Act [New Zealand Legislation website] (which relate to, for example, the Crown or ancillary services such as conveyancing).

What regulatory obligations would apply to a client money or property service?

Client money or property service providers do not require a licence to operate. They must, however, comply with a set of statutory obligations and register on the FSPR.

Conduct obligations

All providers of regulated client money or property services must:

  • exercise the care, diligence, and skill that a prudent person engaged in the business of providing the service would exercise in the same circumstances
  • not receive client money or client property for the acquisition of a financial product if the provider knows, or ought to reasonably know, the product was made under an offer that contravenes the FMC Act.

Providers of regulated client money or property services to retail clients (as defined above) have additional duties to:

  • make prescribed disclosures to the retail client before receiving client money or property (or, if not practicable, as soon as practicable after receiving the same)
  • not make false or misleading statements or omissions in the prescribed disclosures.

There are currently no prescribed disclosures.

Handling obligations

Some providers (such as those who provide these services to a retail client) must also comply with obligations for handling client money and client property, including:

  • paying client money into a separate trust account in Aotearoa New Zealand and ensuring the money or property is held on trust for the client
  • account properly (or ensure the account is properly made) to the client for that client money
  • keeping, or ensuring there are kept, trust account records that clearly disclose the position of the client money in the trust account (and/or the equivalent records for client property)
  • must not use client money or client property for any other purpose than as expressly directed by the client.

Custodians

Custodians also have obligations to:

  • report to clients about their money and property held
  • reconcile records
  • obtain and submit to the FMA an annual assurance report from an auditor qualified to carry out audits under the FMC Act in relation to the custodian’s processes, procedures and controls.*

Registration costs

All registered financial service providers must pay registration and annual fees and levies. Table 13 summarises the fees and levies for financial service providers. Table 14 details the fees and levies for custodians and client money or property services. Additional administrative costs can be incurred in the form of time spent to meet obligations.

Table 13: Registration fees and levies for financial service providers

Service

Total incl. GST

Application fee

$345.00

Criminal history fee (per person)

$40.25

FMA levy

$690.00

Table 14: Annual FMA levies for custodians and client money or property services

Financial service

Definition

FMA levy incl. GST

Custodians

Persons who act as a custodian or provide custodial services

$13,685

Client money or property services

Providers of regulated client money or property services (other than custodians)

$4,140

What types of services might be impacted by a proposal to regulate client money or property services in the NZU market?

If this proposal is included for financial advice providers of NZUs, it is expected to relate to persons who are in the business of receiving client money or NZUs, and of the holding, payment or transfer of that client money or NZUs.

However, we are conscious the NZU market has material differences, compared to other financial product markets, in how the ownership of NZUs is recorded, managed and administered.

NZETR accounts and NZU transactions

Persons are required to have an account in the NZETR to be able to own or trade NZUs. Different types of persons may hold an account, such as individuals, companies, incorporated trusts or unincorporated organisations of people and entities (eg, joint ventures).

Account holders may also appoint one or more people as account operators who may, independently and without supervision:

  • manage the account holder’s emissions units (transactions, surrenders or repayments of emission units)
  • complete applications for industrial allocations for emissions units
  • have an option for account operators to participate in NZ ETS auctions.

These features, which have similarities to share registry services, separate the management of property from money (used, for example, to complete a transaction).

Potential effect of client money or property services regulation

It is currently unclear how the client money or property service provisions will be structured if they are applied to adviser framework for NZUs.

Further, given the role of account operators, it is possible that these obligations may not be appropriate if NZUs were treated as financial products, because those operators have authority to manage NZU holdings without holding legal title. However, the operators may be captured, to the extent they receive client money and carry out payment in order to execute the transaction(s).

We therefore seek your feedback on:

  • what role (if any) a client money and property regime should play in the NZU market
  • whether and to what extent similar risks to persons handling client money and/or property exist in NZU markets, as compared with financial products
  • whether and to what extent client money or property services should be tailored to apply to NZU markets, particularly in light of the proposal to introduce licensed market operators.

 

*Regulations 229P to 229V of the Financial Market Conduct Regulations 2014 [New Zealand Legislation website].

33. We have received complaints of NZETR account operators withholding access to NZUs from account holders.
34. Is it appropriate to consider applying client money and property service regulation to persons other than account operators in the NZ ETS?
35. Are the existing protections (to the extent applicable) under the FTA and Trusts Act 2019 (including obligations for those holding money or property on trust to act honestly and in good faith, and use powers for a proper purpose) sufficient to address to address the risks in the NZU market?
36. If applied, would your business be covered by the definition of custodial service or otherwise by the meaning of client money or property service?
37. If you are currently an account operator in the NZETR, how would you be impacted (if at all) by the proposal to regulate client money or property services?