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Referral Arrangement Rules (Part 1): What You Need to Know

Earlier this year, when the Canadian Securities Administrators (CSA) delivered their long-awaited proposals regarding embedded commissions, they also published a proposed set of rule changes aimed at enhancing advisor and dealer obligations toward their clients (Client Focused Reforms). These Client Focused Reforms will no doubt significantly impact the economics of advisors’ business models and how they address key issues such as KYC, KYP, suitability and conflicts of interest, all of which we discussed in a previous article.

An area of particular interest and concern to many of our clients, however, were the proposed rule changes dealing with referral arrangements. Many advisors have arrangements with third parties either as a means of client acquisition or to provide their clients with services that they are not authorized to perform. For example, it’s very common for an MFDA advisor to have an arrangement with another professional services firm (i.e. an accounting firm) for purposes of client acquisition. They may also have arrangements with either an investment counsel or brokerage firm for certain high net worth clients who want either products or services that the MFDA advisor is not licensed to provide. The Client Focused Reforms will impact each of these relationships. 

The Big Picture: Regulators are proposing major changes to rules governing how financial advisors and dealers deal with referral arrangements. Referral arrangements will be permitted but only if advisors comply with specific requirements.

Here are five key takeaways from the CSA’s proposals:

1. A Referral Fee must not:

• Continue for longer than 36 months;
• Constitute a series of payments that together exceed 25% of the fees or commissions collected from the client;
• Increase the amount of fees or commissions that a client would otherwise pay for the same product or service.

2. Advisors cannot pay a Referral Fee unless:

• The recipient of the fee is a registered individual or firm;
• The terms of the referral arrangement have been set out in writing between the registered firm (i.e. dealer) and the other party. The advisor may (but need not) be a party to the agreement.
• The dealer keeps a record of all referral fees; and
• The client receives in writing and understands the terms of the referral agreement.

3. The definition of what constitutes a referral arrangement goes beyond that of providing financial products and services. It also includes client names and information.

4. The regulators view all referral arrangements as a conflict of interest that must be resolved in favor of the client.

5. The rules governing referral relationships will come into effect immediately once the Client Focused Reforms come into force. Advisors will have 3 years to bring pre-existing arrangements into conformity.

Why This Matters: The proposed new requirements will significantly increase the risk, cost and administrative complexity of referral arrangements for both advisors and dealers. They will certainly alter how advisors process, administer, and evaluate any current and future referral relationship.

Check out Part 2 of our article to learn more about what you can do to get ahead of these changes to ensure that your referral arrangements comply with regulatory requirements.

Please contact us if you have any questions.

Afsar Shah, BA, LLB.

Business & Regulatory Coach

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Referral Arrangement Rules (Part 2): Take Action Now

In part one of our Referral Arrangement article, we discussed what advisors need to know about the regulatory changes regarding their referral arrangements. In this article, we will discuss what to do about these upcoming changes. 

Why This Matters: The proposed new requirements will significantly increase the risk, cost and administrative complexity of referral arrangements for both advisors and dealers. They will certainly alter how advisors process, administer, and evaluate any current and future referral relationship given that:

• Advisors will need to obtain dealer consent prior to entering into any referral arrangement;
• Advisors will need to demonstrate in writing that a referral arrangement is in the client’s best interest;
• The economic benefits to an advisor of a referral arrangement may no longer justify the additional administrative costs, requirements and risk;
• Certain book acquisitions may be deemed a ‘referral relationship’ unless properly structured and documented;
• Any violation of the proposed new rules can result in serious financial penalties.

The Bottom Line: All advisors should review their current (and future) referral relationships to make sure they align with the proposed new requirements and still make economic sense. Here are the impacts of the CSA’s proposals as they relate to referral relationships:

• There will be increased and on-going regulatory scrutiny around referral relationships, particularly with respect to fees, duration, the client interest and disclosure;
• Referral arrangements will still be permitted but only if certain requirements are met;
• The fees associated with a referral arrangement will be capped and the duration limited;
• All permitted referral arrangements will have to be documented in writing, approved of by your dealer, and disclosed in writing to your client;
• The proposed changes will likely reduce the economic value of all referral arrangements.

Take Action: Advisors have a window of opportunity to get ahead of these changes and ensure that their referral arrangements comply with regulatory requirements. Here are a few suggestions as to what your action plan should include:

1. Education & Training – learn more about the proposed rules and how they might affect your business model. Understanding the new requirements is key if you wish to continue to enter into these kinds of relationships and keep regulators and compliance at bay.

2. Identify Your Existing Referral Arrangements – create an inventory of all the referral arrangements that you currently have in place.

3. Conduct an Assessment – do your existing referral arrangements comply with the proposed new requirements? Do the fees fit the new criteria? Did you document the terms of each referral arrangement in writing? Do you have a written record of all fees paid or collected? Did you document that your client understood the terms of the referral arrangement and that it was in their best interest?

4. Re-evaluateTheir Economic Value – do each of your referral arrangements still make economic sense given the increased costs and risk?

5. Talk to Your Dealer – start working with your Dealer to bring your referral arrangements into conformity with the proposed new changes. What will they be looking for from you?

6. Review your Process for Future Referral Arrangements – make sure you have a playbook in place that ensures your future referral arrangements comply with the new requirements and make economic sense.

The Personal Coach Can Help: To learn more about the CSA proposed policy changes and to help you develop your readiness game plan, contact The Personal Coach. Our extraordinary team of coaches and consultants has extensive experience working with advisors to develop customized strategies and plans to help you drive results and reach your strategic and financial objectives. Happy planning!

Afsar Shah, BA, LLB.

Business & Regulatory Coach

Get in touch

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