On 29 June 2022, the Financial Markets (Conduct of Institutions) Amendment Act 2022 (the "Amendment Act") attained Royal assent. On 6 June 2023, by way of Order in Council, it was announced that the Amendment Act will fully come into force on 31 March 2025.
The Amendment Act will introduce a new regime, requiring certain financial institutions to be licensed in respect of their general conduct towards consumers. This licence will be a new type of market services licence with a similar licensing framework as that for other types of market services licences. In addition, the Amendment Act inserts a new subpart 6A into part 6 of the Financial Markets Conduct Act 2013 ("FMCA"), which requires financial institutions to prepare and comply with a fair conduct programme (in order to comply with the fair conduct principle) and comply with any restrictions on sales incentives. The "fair conduct principle" is a high-level principle to treat consumers fairly. To date the Financial Markets Authority ("FMA") has released guidance for establishing, implementing and maintaining a fair conduct programme as well as draft guidance on the intermediated distribution of financial products and services ("Draft Intermediated Distribution Guidance").
The licensing regime will be monitored and enforced by the FMA. The FMA has stated that licensing applications will open on 25 July 2023 and that it will further consult with the industry on the requirements for regulatory returns in the future. The relevant sections of the Amendment Act which deal with applications for a financial institution licence will also come into force on 25 July 2023. On 30 November 2022 the FMA released the final standard licencing conditions for financial institution licences as well as an application guide for applying for a financial institution licence. On 6 June 2023, the fees for applying for a financial institution licence, which were previously consulted on in late 2022, were finalised (by way of the Financial Markets Conduct (Fees) Amendment Regulations 2023 ("Amendment Fees Regulations")). The finalised fees are the same as the proposed fees which were initially consulted on.
On 6 June 2023, the Financial Markets Conduct (Conduct of Institutions) Amendment Regulations 2023 (the "Amendment Regulations") were published. The Amendment Regulations, alongside the Amendment Act, fully come into force on 31 March 2025. Among other things, the Amendment Regulations prohibit certain forms of incentives from being offered by financial institutions. In late 2022 the Ministry of Business, Innovation and Employment ("MBIE") consulted on prohibiting certain forms of incentives and released an exposure draft of proposed regulations. The Amendment Regulations follow-on from this consultation, however, there have been a few changes to make the prohibition less restrictive.
This article summarises the background of the regime, the key provisions of the Amendment Act, licensing of financial institutions, the commencement of the Amendment Act and the Amendment Regulations and the next steps that will occur to support the operation of the new regime.
Australian Royal Commission report
On 14 December 2017, the Australian Royal Commission ("ARC") was established to investigate misconduct in the banking, superannuation and financial services industry. Over the course of 2018 and 2019, the ARC published an interim report and final report detailing poor treatment of customers across different parts of Australia’s financial services industry.
Financial Markets Authority and the Reserve Bank of New Zealand joint conduct and culture reviews
Misconduct cases in the UK, US, Australia, and other overseas jurisdictions raised concerns with the FMA and the Reserve Bank of New Zealand ("RBNZ"), the two key regulators of New Zealand's financial markets, about whether the same issues could exist in New Zealand, especially as New Zealand’s four largest banks are Australian owned.
In response, the RBNZ and the FMA launched a joint review into the conduct and culture in the New Zealand financial sector and produced two reports:
- The first report, published in November 2018, focused on retail banks. This found weaknesses in systems and processes as well as a small number of issues related to poor conduct by bank staff. Consequently, the review recommended ways to improve oversight, controls, and processes
- The second report, published in January 2019, focused on life insurers. The review found extensive weaknesses in life insurers' systems and controls such as in the approach of identifying, managing and remediating conduct risks and issues. This contributed significantly to poor customer outcomes. As insurers’ products are often sold by intermediaries, many insurers believed they had no responsibility for customer outcomes and made little effort towards consumer experience. The RBNZ and the FMA provided specific findings to each individual life insurer as well as general suggestions for improvement.
Both these reports focused on finding solutions to ensure sufficient levels of consumer confidence exist in New Zealand's financial system, and that confidence is both justified and sustainable. While the reports did not find widespread conduct and culture issues in New Zealand, they highlighted issues in how conduct risk is managed and a lack of focus on customer outcomes. It became evident there was a gap in how financial institutions are regulated in New Zealand. This increases the potential for more widespread consumer harm in the long term.
MBIE public consultation
- An imbalance of power between financial institutions and consumers
- Some products are not designed with good customer outcomes in mind
- Sales are prioritised over good customer outcomes
- There are weak systems and controls to manage conduct risk
- There is a lack of accountability to ensure good conduct.
MBIE received 85 submissions for this consultation before submissions were closed on 7 June 2019.
Cabinet paper and regulatory impact statement
On 25 September 2019, in response to the RBNZ/FMA reviews, the public consultation and departmental consultations, the Minister for Commerce and Consumer Affairs proactively released a cabinet paper recommending legislation be introduced to address the real risk of harm to customers of financial institutions. The document included the proposal to create a licensing regime for banks, insurers and non-bank deposit takers ("NBDTs") in respect of their general conduct.
On 9 December 2019, MBIE also published a regulatory impact statement in regards to the proposed regulatory regime.
Bill introduced to Parliament
In December 2019, a further cabinet paper was proactively released seeking approval to introduce the Financial Markets (Conduct of Institutions) Amendment Bill (the "Bill") into Parliament and seeking policy decisions.
On 11 December 2019, the Bill was introduced to Parliament. On 12 February 2020, the Bill had its first reading.
The Bill was referred to the Finance and Expenditure Committee ("FEC"), which announced a round of public consultation that closed on 30 April 2020. The select committee published its report on 7 August 2020.
The FEC's key recommendations included insertion of a regulation making power that would allow regulations to be made that would exempt specified types of financial institutions from the requirement to hold a licence, an extension of the maximum transitional period for the Bill to come into force once it receives Royal assent (from two years to three years) and for there to be more clarity about the central, substantive, fair conduct principle set out in the Bill.
In April 2021, MBIE released two discussion documents and announced an accompanying round of public consultation on these documents, which closed on 18 June 2021:
- Treatment of intermediaries under the new regime for the conduct of financial institutions
- Regulations to support the new regime for the conduct of financial institutions.
Consultation - Discussion document on the treatment of intermediaries of financial institutions
The Bill proposed placing requirements on financial institutions (eg banks, insurers and non bank deposit takers) to oversee and train any intermediaries distributing or managing their products (eg mortgage or insurance brokers) to ensure good outcomes for consumers.
MBIE sought submissions on topics such as:
- Compliance with the proposed oversight and training requirements being too expensive and resource intensive
- Certain obligations introduced being redundant as they may potentially overlap with, or duplicate conduct regulation provisions created by the Financial Services Legislation Amendment Act 2019.
The discussion document sought feedback on matters such as the definitions of 'intermediaries', 'agents' and 'employees' of financial institutions. The document also offered several proposals on the obligations of intermediaries, employees and agents.
Consultation - Discussion document on regulations
The Bill contained several regulation making powers to support its operation, including powers to make regulations around the content and publication of fair conduct programmes, sales incentives and other discrete issues.
The discussion document sought feedback on matters such as the regulation of sales incentives offered or provided by financial institutions and intermediaries and details relating to the fair conduct programmes.
Key provisions of the Amendment Act
On 28 June 2022, the Bill had its third reading and was passed by Parliament. On 29 June 2022, the Amendment Act attained Royal assent.
The Amendment Act will:
- Require banks, insurers and NBDTs (together, financial institutions) to be licensed in respect of their general conduct towards consumers. The licensing regime will be monitored and enforced by the FMA
- Require financial institutions to establish, implement and maintain effective fair conduct programmes throughout their businesses that ensure they meet the requirement to treat consumers fairly
- Require financial institutions to comply with their fair conduct programme
- Require financial institutions and intermediaries involved in the chain of distribution to comply with regulations that regulate incentives. These regulations will be able to restrict sales incentives based on volume or value targets, eg soft commissions such as overseas trips, bonuses for selling a certain number of financial products, or leader boards.
Implementation of the Amendment Act
The FMA has released guidance in relation to applying for a financial institution licence, on preparing fair conduct programmes and on intermediated distributions, as well as the final standard conditions for financial institution licences.
Consultation - Proposed standard conditions
On 20 July 2022, the FMA released a consultation paper proposing six standard conditions to be imposed on the holders of financial institution licences and their authorised bodies. This consultation closed on 7 September 2022. On 30 November 2022, the FMA released the final standard conditions for financial institution licences.
The final standard conditions that will apply in respect of the financial institution service (ie the market service of acting as a financial institution) are as follows:
Financial institutions must continue to satisfy licence conditions at all times and (where relevant) maintain appropriate supervision over each authorised body.
Notification of material changes
In addition to existing notification obligations under the FMCA, financial institutions must notify the FMA within ten working days of implementing a material change to the nature of its financial institution service (eg changing the form of business from a licensed NBDT to a registered bank might be considered a 'material change').
In addition to existing reporting obligations under the FMCA, financial institutions must provide certain information to the FMA for monitoring purposes on a periodic or ongoing basis (for example, on the implementation/maintenance of the fair conduct programme or factual information such as the number of customers).
The FMA plans to consult with the industry on the requirements for regulatory returns in the future.
Financial institutions must be satisfied that services provided by an outsource provider are to the standard required by the relevant conditions of the financial institution's licence. The standard licence conditions set out the factors that financial institutions should consider when deciding to outsource a process/system needed to provide their financial institution service (eg the experience of the outsource provider) and when negotiating outsourcing arrangements (eg access to provider's records).
Business continuity and technology systems
Financial institutions must maintain and regularly test a business continuity plan that is appropriate for the scale and scope of their operations, supports their fair conduct programme and encompasses any outsource arrangements.
There are additional notification obligations under this condition (eg notification must be made within 72 hours after discovery of a technology event that has a material adverse impact on critical technology systems). Critical technology systems are those systems which support any activity, function, process or service, whose loss would materially impact the provision of services or the financial institution's ability to comply with licence obligations.
Financial institutions must have systems and processes to maintain relevant records in relation to the provision of financial institution services. Financial institutions must have policies to allow the FMA to inspect these records when required.
A financial institution's records should include the following:
- A copy of the financial institution's fair conduct programme
- A record of how the financial institution established, implemented and maintained that fair conduct programme
- A record of how the financial institution has taken all reasonable steps to comply with that fair conduct programme
- A record of how the financial institution reviews that fair conduct programme and identifies any deficiencies.
Consultation - Amendment Regulations
On 28 September 2022, MBIE released an exposure draft of proposed regulations ("Draft Regulations") supporting the Amendment Act along with an accompanying consultation paper. MBIE sought public submissions on this exposure draft, which closed on 9 November 2022.
The consultation paper notes that the majority of submissions to the April 2021 consultation on regulations (discussed above) preferred a "specific prohibition on volume or value targets instead of a principles based prohibition, which would prohibit any incentives reasonably expected to influence choices offered to consumers or financial advice". In February 2022, following this feedback, Cabinet agreed, among other things, to prohibit financial institutions from offering sales incentives based on volume or value targets to their employees (aside from senior managers and executives).
On 6 June 2023, the Amendment Regulations were published. The Amendment Regulations come into force on 31 March 2025 and, among other things, prohibit certain forms of incentives from being offered by financial institutions and their intermediaries.
The Amendment Regulations:
- Amend the Financial Markets Conduct Regulations 2014 and, primarily, prohibit financial institutions and intermediaries from offering or giving a "relevant person" (such as an employee or agent) a "prohibited incentive"
- Set out that an incentive is prohibited if the entitlement to the incentive, or the nature/value of the incentive is calculated by a direct reference to a target that relates to the volume or value of services provided
- Provide examples of prohibited incentives and non-prohibited incentives.
There have been a number of changes between the Draft Regulations and the Amendment Regulations to make the prohibition on certain forms of incentives being offered by financial institutions less restrictive. These changes include:
- Clarifying that an incentive is not prohibited, even if it is determined or calculated by direct reference to a target or other threshold that relates to the volume or value of services provided, if the incentive relates only to the services provided to wholesale clients
- Providing for a narrow situation where a certain form of incentive, which otherwise would be a prohibited incentive, is provided by an intermediary who is also a financial advice provider to a relevant employee
- Making it so that only incentives that are determined or calculated by a direct (versus indirect as well) reference to a target that relates to the volume or value of services provided are prohibited. Additionally, the Amendment Regulations clarify what a direct reference to targets or other thresholds means.
The Amendment Regulations provide for a small number of additional matters to the Draft Regulations. These include:
- Extending the definition of "financial product", for the purposes of Part 2 of the FMCA, to include a contract of insurance
- Confirming that a relevant service does not include a service where the only retail clients that will receive the service are wholly controlled by one or more wholesale clients
- A number of additional provisions relevant only to Lloyd's underwriters.
Consultation - Licensing fees
On 28 September 2022, MBIE released a discussion paper on licensing fees under the new regime. This consultation closed on 26 October 2022.
The paper set out that obtaining a licence will be a 'one off process' and that licences won't have an expiry date. The purpose of the licence application is for the FMA to "assess whether the applicant is capable of effectively performing the service of acting as a financial institution" and gather information about sector level conduct risks and maturity to inform its monitoring and supervision functions.
The paper estimates that approximately 100 financial institutions will require a licence and that the fees will help the FMA recover costs associated with the new regime.
The paper proposes an application fee of $1,024.93 for all applicants, with the ability for the FMA to invoice an applicant an additional $178.25/hour for complex applications where the assessment time exceeds 6.75 hours. The paper also proposes an additional fee of $115 plus $178.25/hour for applications to vary licence conditions.
On 6 June 2023, the Amendment Fees Regulations were finalised and confirmed the licence application fees. The licence application fees are the same as the fees consulted on. The Amendment Fees Regulations also confirm that a fee of $614.95 will be payable for each authorised body that is proposed to be included on the financial institution licence. These fees are also available on the FMA website.
Fair conduct programmes
The fair conduct programme information sheet sets out what the FMA considers to be "good practice" in relation to establishing, implementing and maintaining a fair conduct programme. This includes specific guidance as to the different aspects that a financial institution needs to consider when establishing, implementing and maintaining its fair conduct programme.
The information sheet also includes a range of examples for how financial institutions can satisfy the requirements of the FMCA. The FMA makes it clear that these examples are non-exhaustive and simply illustrative. The examples do not impose any further requirements on financial institutions.
The application guide for financial institution licences sets out the FMA's expectations of a financial institution's policies and procedures in order for financial institutions to be eligible to apply for a financial institution licence.
The application guide for financial institution licences includes a range of questions, in relation to both the financial institution's compliance with the Amendment Act and the financial institution's directors and senior managers being fit and proper, which the FMA may ask throughout the licence application process, as well as additional guidance as to how financial institutions can best provide the required information to the FMA.
On 20 February 2023 the FMA released the Draft Intermediated Distribution Guidance as well as a supporting consultation document. Submissions closed on 14 April 2023. This guidance is relevant for when financial institutions are distributing financial products or services through intermediaries. Intermediaries mean "all third parties that are involved in the sale and distribution of financial institutions' products and services" ie, mortgage or insurance advisers.
This guidance outlines the FMA expectations of what an effective fair conduct programme would look like in relation to distribution of financial products and services through an intermediary, which is required to be included in a financial institution's fair conduct programme under sections 446J(1)(b)(i)-(iii) of the FMCA. The FMA sets out their expectation of how distribution of financial products and services through intermediaries fits within the broader fair conduct principle. This includes guidance in relation to determining likely customers, appropriate methods of distribution and determining roles and responsibilities of both the financial institution and the intermediary in the distribution process.
The FMA further outlines their expectations on how the review process for distribution methods, through an intermediary, should occur and how identified deficiencies should be remedied. This includes importantly guidance on what the FMA does not expect. The FMA does not expect constant surveillance of intermediaries, monitoring individual instances and financial institutions to supervise legal compliance by intermediaries. The FMA has added that they do not believe any external auditing of intermediaries is necessary for financial institutions to comply with their own requirements. With regard to remediation, the FMA notes that deficiencies can range greatly, and it is not necessary to have any specific guidance on remedies.
The Amendment Act and Amendment Regulations will fully come into force on 31 March 2025. The relevant sections of the Amendment Act which allow for licence applications will come into force on 25 July 2023.
The FMA is currently considering the submissions on the Draft Intermediated Distributions Guidance and will subsequently publish the finalised guidance on their website.
We regularly publish updates on developments relating to the new conduct of financial institutions regime. Please subscribe to receive these updates.
If you would like advice on any aspect of the new regime please contact a member of our financial services regulation team.