Anthony R. Davidson
Director of Standards Enforcement
Financial Planners Standards Council
May 2002
Delivered to the Ontario Bar Association
professional development day for securities industry litigators.
To begin to understand the regulatory environment, the application of standards and the potential legal liabilities which impact financial planning and financial planners you first have to be able to answer the question, "what is financial planning?" I shouldn't think of posing such a simple question except that the answer identifies the basic difficulty in assigning liability to financial planning activities.
Financial planning is primarily two things in today's world of personal finance. First, it is a relatively straight forward six-step process to; establish an engagement with a client; gather data: assess the personal and financial assets and requirements; recommend changes to organization, structure and investment; implement them; and, ongoing monitoring of the plan. Second, and more common in the current environment of financial salespersons, it is a methodology for creating a bond of trust between a client and an adviser that facilitates the sale of investment or insurance products. I don't see anything wrong with an investment or insurance salesperson using financial planning as a sales tool, as long as it is applied and used within a set of ethical standards. It is only when the activity of financial planning is improperly applied in order to create an investment sales opportunity that combining financial planning with investment sales is a problem.
To understand how a financial planner's duties and responsibilities might be determined it is necessary to differentiate between ethical standards and practice standards. Most organizations attempting to regulate financial planners have some form of recorded ethical standards. In the materials I have included two examples, the ethical standards of Financial Planners Standards Council (FPSC) and those of the Canadian Association of Financial Planners (CAFP). The content of the two documents is admittedly similar with the main difference being the level of detail which the document contains regarding each rule or standard. What does not exist presently in either of these, or other, financial planning organizations is a defined set of practice standards. Practice standards are the practical methodologies financial planners must follow in applying the financial planning process to their clients and the standards of maintaining documentation that they must adhere to. You will not find practice standards in the materials as they are currently being developed at FPSC. In the case of FPSC, which administers the Certified Financial Planner designation (CFP), the ethical standards apply to all without regard to their business activities. However, if the CFP professional is in the business of providing financial planning services, he or she will be held to both the ethical standards and the practice standards.
It is also necessary before I speak about what these standards are, and how they can be used to frame professional responsibilities for financial planners, to speak briefly about the regulation of financial planning in the past, as it is today and how I believe it will evolve.
The Muddled Past
Up until the past five years, the regulatory control of financial planning activities had been perhaps only second in quality to that governing the judging of international figure skating. Regulation, for the most part grew out of the products that individuals calling themselves financial planners were selling. To this day, there is still a cry from the product side to set the standards they are obliged to follow. To the extent it was addressed, the insurance industry through the Canadian Association of Insurance and Financial Advisors (CAIFA) regulated financial planners who sold insurance and mutual funds, the Investment Dealers Association of Canada (IDA) regulated financial planners who sold investment products for one of its member firms, the provincial securities commissions regulated investment selling financial planners who were not IDA members. In this same way, the Mutual Fund Dealers Association (MFDA) now proposes to regulate securities commission registered financial planners where their planning activities are associated with mutual fund sales, and the IDA and other organizations will deal with their own members. Industry membership organizations such as the CAFP (R.F.P.) and licensing organizations such as Financial Planners Standards Council (CFP) regulated their members and CFP professionals as to ethics. With all of this disassociated and muddled regulation, the potential for rogue salespeople posing as financial planners to slip through the regulatory and standards enforcement cracks was substantial. This was particularly so in the circumstances where the financial planning activities were done improperly with adverse effects, but the investment sales activity was done properly, and did not attract criticism. An example I will provide in a minute illustrates this problem.
The relative ease with which a mutual funds licence and a limited market dealer licence can be obtained provided the tools for unethical salespersons posing as financial planners to do some real harm to their clients. The ongoing industry boom in mutual funds and the wave of Limited Partnerships in the early 1990's (which seems thankfully to have slowed considerably) aided the unethical or the untrained adviser in taking advantage of what was a poorly regulated sector, assisted in many cases by the sophisticated investor rules. In addition to these "rogues" who exploited financial planning to sell their products to clients who in many cases should never should have owned them, there were those doing equal harm, but not intentionally. Educational and qualification standards to ensure that individuals calling themselves financial planners were competent, were virtually non-existent and where they did exist there was little public awareness of what they meant. It was not unusual to have individuals with new mutual fund registrations, but with backgrounds totally unrelated to investment, setting up shop as financial planners. When researching the background of several clients complaints over the past few years, I found startling examples of incompetence. To illustrate the point, in three separate cases where clients had complained about a financial planner it turned out that just prior to setting up shop as investment selling financial planners, the individuals involved had been a fitness instructor, a fashion model and a TTC driver, all honorable vocations but hardly the educational background required to advise on a client's financial well being.
In my experience, from a civil litigation viewpoint, financial planning has been equally hard to approach, particularly when it came to opining on industry standards. If the planner involved sold investments and worked with an IDA member firm, the Conduct and Practices Handbook provided a good source on which to base an opinion. However, if the financial planner worked for a registered mutual fund dealer and not an IDA member, no such authoritative source was available, only the broad definitions of the Securities Acts. In these cases, it became a practice to apply the concepts of the Handbook to cases involving non-IDA members, but the connection was less than direct. In both of these circumstances, it was the suitability of the investment product that provided the basis of opinion, not financial planning standards. Again, in my experience, in client/adviser relationships where financial planning has been used as a investment product sales hook, it is the "know your client" rule with its suitability applications which has substituted for actual accepted practices and standards in financial planning.
Things Are Changing
A number of private organizations now exist which promote educational standards for financial planning. In 1995, Financial Planners Standards Council was formed. Current board membership includes the Canadian Institute of Chartered Accountants, the Certified General Accountants, the Society of Management Accountants, the Canadian Association of Financial Planners, the Canadian Institute of Financial Planning, the Canadian Association of Insurance and Financial Advisors and the Credit Union Institute of Canada. At formation, FPSC also included the Institute of Canadian Bankers and the Canadian Securities Institute, both of which now maintain their own financial planning educational programs.
The Canadian Securities Administrators through the Provincial securities commissions over the past several years have been developing a programme to ensure competency and to register financial planners. Although the regulations are still in draft form and are yet to come into effect, a basic registry of qualified financial planners, and a restriction of the use of the term "financial planner" to those registered, will be a solid first step in regulating this industry.
I am most familiar with the workings of FPSC, the private organization that licenses Certified Financial Planners, through my work as Director of Standards Enforcement. The Council has established a curriculum of education, holds semi-annual examinations set independent of the board membership for qualified candidates, oversees ongoing educational requirements and enforces a Code of Ethics on its CFP professionals. FPSC has the ability to suspend, expel, fine and publicly identify CFP professionals who are found to have breached its Code of Ethics. It does not have the ability to compensate clients for losses, leaving negotiation and litigation as the only current methods of recovery should the planners activities not fall under other organizations', such as the IDA's, authority. FPSC's Code of Ethics outlines the principles behind each standard and provides rules set to enforce those standards. It does not go to the depth of detail that the Conduct and Practices Handbook does. However, as mentioned, the development of the working practice standards guidelines will provide further structure to the activities of CFP professionals. I cannot say that FPSC's code of ethics and practice standards will be adopted by the industry as a whole. I can say that with 14,000 CFP professionals working in all areas of finance in Canada, I receive ongoing calls from both FPSC board members and non-member organizations as to how their evolving financial planning functions can be organized to meet FPSC criteria.
The process in financial planning to determine who becomes the accepted organization to set industry standards and ethics, and whose educational criteria will be the most accepted, is one that is both political and exhausting and, I can happily say, one I am not a direct part of. Although biased by my association with FPSC, I don't believe the determination of who sets the standards is nearly as important as having the standards set. Somewhat surprisingly, despite the jockeying for position in industry influence, there does not seem to be much dispute over the fundamental standards themselves.
The basic principles behind the ethics standards required of Certified Financial Planner professionals are not very different from those behind any profession. If financial planning is to become a legitimate profession, financial planners will simply have to be held to them. They state that, a CFP professional shall:
offer and provide professional services with integrity;
be objective in providing professional services to clients;
provide services to clients competently and maintain the necessary knowledge and skill to continue to do so in those areas in which the CFP professional is engaged;
perform professional services in a manner that is fair and reasonable to clients, principals, partners and employers, and disclose conflicts of interest in providing such services;
maintain confidentiality of all client information;
conduct themselves in all matters in a way that reflects credit upon the profession; and
act diligently in providing professional services.
I do not have the time today to discuss the details that underlie these principles. I am pleased to say that the growing number of inquiries I receive from CFP professionals as to how they can avoid breaching these principles in a wide variety of situations is a strong indicator that they see professional liability in such a breach. It's not just me they are worried about in my capacity of standards enforcement. To a very large extent it is you folks they are worried about more because they sense that they have an expanding exposure to litigation if they step outside of the Code of Ethics.
I would like to highlight the separation of the practices of financial planning and investment sales by using a short case example. A fifty-one year old who had worked as a brakeman for the CPR in the Maritimes for thirty-three years was given early retirement when his line was closed. He had earned, through his own and company contributions, a quite reasonable defined benefit pension plan of $2,600 a month for which he would be eligible when he turned fifty-five. When he left his job, he was given the option of waiting for his pension or taking a locked-in lump sum amount of $185,000. Bewildered by such a sum of money, he consulted a local "financial planner" who laid out a plan suggesting that the lump sum could be invested in a portfolio of mutual funds with the assurance based on historical performance, that at age fifty-five and thereafter, the amount he could draw on a monthly basis would far exceed the defined benefit. He accepted the plan, bought the funds and made the planner one of the happiest guys in Moncton, New Brunswick. At age fifty-five he started to draw the maximum he could from his plan but, as you have already guessed, it was less than $2,500. In fact it was far less, and the discrepancy was going to continue for the rest of his life.
On review, after his complaint, the mutual fund portfolio was found to be well balanced and reasonably safe. In a word, it was suitable. Ten years ago, this man would have had a hard time pursuing any sort of compensation for perhaps thirty years of some $900 less per month. Today, the financial planner and his firm are being sued for the actuarially calculated damages, based on his failure to meet the standards of his profession as a financial planner. I think the man will win his case against the financial planner. The question is whether or not the firm the planner worked for will be held responsible for the damages as well.
The separation of liability for unsuitable investments and that for negligent or unethical financial planning advice is relatively clear. As more planners are held to a set of standards and you people set the liability precedents that will truly make them a profession, I believe that liability for the planning part of the equation will become as accepted as that for the product part. The issue of who is responsible for the damages is not yet so clear.
Evolving Responsibilities
We are all aware that there is little point in suing when there is no money to win. Today, most financial planners are either working directly for large financial or insurance institutions, or as independent agents associated by license with registered mutual fund or limited market dealer organizations. Historically, few such independent agents paid any part of financial planning fees earned to the dealer they were registered under, only a part of the product commissions earned. Many of these dealers are now being placed in a position of perceived or real liability based on the financial planning activities of their agents, and want part of the profits in return. One of the largest mutual fund sales firms in the country has told their agents that the cost of compliance over financial planning activities is going to be paid for with the fees earned. It is apparent that these firms sense they are likely going to be held financially responsible for financial planning activities.
In conclusion, I would suggest that appropriate and accepted financial planning ethical standards do exist, and that as the regulatory system over financial planning grows with provincial competency and registration requirements, as sponsoring firms develop internal compliance structures and as the public recognizes and relies on designations such as the CFP, the liability for the consequences of poor or unethical financial planning practices will increase concurrently for both practitioners and for their sponsoring firms.
CFP®, CERTIFIED FINANCIAL PLANNER® and are certification marks owned outside the U.S. by Financial Planning Standards Board Ltd. (FPSB). Financial Planners Standards Council is the marks licensing authority for the CFP marks in Canada, through agreement with FPSB.
are certification marks