Prohibiting the payment of trailing commission could ensure that it no longer contributes to “consumer detriment with higher prices”, according to a new consultation paper from NSW Fair Trading.
In a consultation paper entitled Easy and Transparent Trading – Empowering Consumers and Small Business, released by NSW Minister for Innovation and Better Regulation Matthew Kean, the fair trading body considered reforms to help deliver the Productivity Commission's agenda for the Innovation and Better Regulation portfolio and weighed in on recent scrutiny of trailing commissions.
The report comes ahead of the release of the Productivity Commission's final report into Competition in the Australian Financial System, which is expected imminently and - if its draft report is anything to go by - is expected to make several recommendations regarding changes to broker commissions.
Despite the broking industry repeatedly outlining the benefits of trail and suggesting there is no evidence to prove negative impacts of it, the NSW government claimed that the payment of trail increases consumer costs and provides “little incentive” for “sellers” such as brokers to improve consumer outcomes.
The report reads: “In some cases, advisers may be earning these payments by providing the consumer with ongoing advice, regular appraisals of investments and strategy, and other services. In other cases, they are not. The commission is not based on the additional advice. Australia is one of the last markets in the world, along with some lenders in New Zealand, to pay trailing commissions to mortgage brokers.”
It continues: “The problem of trailing commissions is that they result in sellers of products continuing to receive income, irrespective of the level of service they are providing to consumers. This increases costs for consumers.
“Indeed, sellers have little incentive to apply their skills to improve the situation of people to whom they have already sold products.
“Additionally, where the fees are paid by consumers, it can be unclear for consumers what the total cost of the commission will be for the life of the product.”
The NSW government also predicted that the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry would “most likely make recommendations on conflicted payments in the financial and insurance sector”.
The government added: “This highlights the need to ensure that all consumers, regardless of the service to which they are referred, have the benefit of consumer protections available in other sectors.
“These commissions contribute to consumer detriment through higher prices. In addition, non-disclosure of such commissions means that consumers cannot make a fully informed choice to proceed with the referred service.”
The state government also proposed the following reforms that it claimed could help address such “issues”:
- Amending the Fair Trading Act to prohibit providers of services, products or advice from paying trail commissions to intermediaries who recommend or refer customers to their business.
- Requiring all intermediaries who refer consumers to third parties to fully disclose the benefit the intermediary will receive if a trailing commission will be paid on a successful referral, over the life of the product.
- Prescribing that a trailing fee or commission is a “key term” which must be fully and clearly disclosed by the service or advisory business when entering into the service contract with the customer. Public comment is sought on the appropriateness of these commissions.
It should be noted, that the latter suggestion regarding a transparent disclosure of trail commissions received by mortgage brokers is already common practice in this sector.
The state government is therefore asking the public to put forward a "workable solution to balance the needs of industry and consumers where trailing commissions impact negatively on the market".
The proposed reforms in the paper and policy ideas are reportedly “the result of a ‘sweep’ of legislation and regulations in the Better Regulation portfolio, a review of reports by think tanks and government agencies on the Australian, NSW and other advanced economies and the ministers call for ideas from more than 100 think tanks, industry groups, academics and other stakeholders”.
The public is being invited to provide comments to the consultation paper by 27 August 2018.
Treasury warns against removing trail
NSW Fair Trading’s report follows on from comments made by Treasury in a report to the financial services royal commission, in which it warned against the removal of trailing commission.
Looking at the suggestion of removing trail to provide greater incentive to assist customers to refinance, Treasury said that it “would have the potential advantage of removing incentives for brokers to inappropriately recommend larger loans that take longer to pay back”, although it argued that it was “unclear” how significant this incentive is in practice, and that brokers would have greater incentives to assist customers to refinance.
However, it warned that removing trail could also “reduce incentives for brokers to guard against arranging non-performing loans and to not unnecessarily switch consumers to alternative loans that do not provide for a better deal”.
“Refinancing is not a costless exercise, with real costs for both lenders and borrowers,” the body said.