Offering third-party referrals to clients is generous and helps bolster your value. It also means you aren’t taking on tasks or services outside your area of expertise and registration.
But what if a referral doesn’t pan out, or a third-party expert or company turns out to be less qualified than they appear?
To prevent this, do more than follow the rules, especially if compensation for you—direct or indirect—might be involved. Before referring experts to clients, review regulators’ referral arrangement rules and your firm’s guidelines, and establish best practices (see “Regulatory restrictions”).
There’s no excuse for failing to comply, given “these rules have been in place for a while,” says Bernard Pinsky, partner at Clark Wilson in Vancouver. Further, the rules for both IIROC and MFDA advisors “are almost identical, and something everyone has to comply with.”
Referral best practices
Dave Lee, senior wealth advisor at Scotia Wealth Management in White Rock, B.C., takes precautions before, during and after he offers referrals to clients. These arrangements are always informal, meaning he doesn’t collect fees, and he keeps detailed notes.
Before connecting clients and experts, he does his research. Says Lee: “Making a referral that doesn’t go well is not only negative for the client but also reflects badly on me.” He often chooses experts with whom other clients have already worked and positively reviewed.
Lee then asks the expert whether or not they have the capability and capacity to work with his client the whole time. This avoids a subsequent referral by that expert, which “could be to a less experienced person” or to someone who isn’t as diligent. You don’t want a client to deal with subpar service, he adds.
When a referral is set up, Lee summarizes a client’s relevant situation for the external professional, whether that’s an accountant, a lawyer or another firm or advisor. He’ll offer information on the client’s “background, any relevant numbers, and goals.” Usually, he’ll participate in meetings or conference calls with both the expert and client to facilitate the process.
When a referral is complete, he reviews the end result with clients.
Don’t forget to document
“If a referred-to person is qualified to do the job they’re supposed to do but [they] don’t do it properly, you’re covered as long as you’ve done your due diligence,” says Pinsky—even if a client lodges an official complaint. Advisors can’t be expected to predict when another expert might make a mistake, he adds.
These defences also stand if the expert or firm to which you refer a client passes them on to another expert, either due to time constraints or because they can’t offer the right service, says Pinsky.
To protect yourself, Pinsky suggests keeping copies of all correspondence during the referral process for at least six years and taking detailed notes, particularly when verifying the background of the firm or approved person to whom you’re referring clients.
If you can’t vouch for a professional’s credentials and process, says Lee, then be clear about that with clients. And, if you let them know where they may be able to find an expert, tell them the vetting process is their responsibility—and keep a record of that conversation.
Both National Instrument 31-103 (and its companion policy) and MFDA Rule 2.4.2 define a referral arrangement as “any arrangement in which a registrant [or, for MFDA, a member or approved person] agrees to pay or receive a referral fee.” The same rules must be followed for both current and prospective clients.
Before setting up a referral, advisors must set out the terms in writing, record all fees and disclose them to clients. Section 13.10 of NI 31-103 lists all the information clients must receive.
Section 13.9 broadly mentions “referral” and “refer,” as opposed to a formal “referral arrangement.” Under both sets of rules, direct and indirect compensation are captured.
Here are more tips.
- Regulators and SROs are zeroing in on potential conflicts of interest across the industry. In 2017, MFDA said such arrangements must be reviewed during internal audits, and that was followed by both IIROC and OSC revisiting current rules in notices and reports.
- In its 2017 annual report, OSC listed “inadequate disclosure or lack of agreements” as a common referral arrangement deficiency. And, in an emailed response, OSC said it will “continue to analyze information gathered from compensation and incentive practices” and look at “whether amendments to existing rules may be necessary.”
- MFDA, in an email, warned against structuring product sales as referral arrangements, leading to approved persons avoiding obligations such as KYC and suitability reviews.