The Canadian Securities Administrators (CSA) have released the proposals promised in June, when they introduced numerous client-focused reforms and announced plans to ban deferred sales charges (DSC), including low-load options, and limit the use of trailing commissions.
The release came on the same day Ontario’s Progressive Conservative government indicated it doesn’t support the reforms.
The regulator, which published a consultation on discontinuing embedded commissions in early 2017 and followed that with its June 21 announcement, has been consulting on mutual fund fees since 2012.
In its Sept. 13 notice and request for comment, CSA gives details on how it proposes to implement the DSC ban and prohibit trailers to dealers that do not make suitability assessments, such as order execution only dealers.
CSA would repeal section 3.1 of NI 81-105, which would prohibit fund organizations from paying upfront sales commissions to participating dealers. That is meant to not only “discontinue all forms of the DSC option” but also cause a shift in sales compensation for dealers, it says.
Timelines and transition
CSA will not require existing DSC funds to be converted to other sales charge options. “The redemption schedules on those existing DSC holdings as at the effective date would be allowed to run their course until their scheduled expiry,” says the proposal.
The documents also propose a one-year transition period for fund companies.
The regulator recognizes that without DSC, dealers would have to “find alternative ways of maintaining their revenue stream.” That could mean increasing use of the front-end load option, transaction fees or direct-pay arrangements.
The proposed rules, says CSA, “would not preclude [fund organizations] from facilitating the payment of a sales commission negotiated and agreed to exclusively between the dealer and the mutual fund investor.”
Ontario government not on board
Ontario Finance Minister Vic Fedeli said Thursday that the government doesn’t support the changes to NI 81-105.
“The CSA and OSC’s proposed amendments result from a process initiated under the previous government and, if implemented, will discontinue a payment option for purchasing mutual funds that has enabled Ontario families and investors to save towards retirement and other financial goals,” Fedeli said in a statement.
“Our government does not agree with this proposal as currently drafted.”
The government will work with stakeholders and other provinces to develop alternatives, he said.
In an emailed statement to Advisor.ca, the Ontario Securities Commission said the minister’s support “is critically important to the OSC, and we are respectful of our government’s authority to decide whether any rules published for comment ultimately come into effect.”
The Independent Financial Brokers of Canada applauded the government’s move. The DSC ban would reduce investment choices suitable to some consumers, it said in a statement.
Trailing commission changes
With respect to trailing commissions, CSA proposes that dealers only be able to receive these from fund organizations if they are subject to “the obligation to make a suitability determination under section 13.3 of NI 31-103 or under the corresponding rules of the self-regulatory organizations.”
This means dealers would have to “provide investors with advice arising from the suitability requirements in order to qualify for the receipt of trailing commission payments.”
That step doesn’t occur if a dealer is “acting on behalf of a ‘permitted client’ that has waived the suitability requirements,” which is why order-execution-only firms and other similar dealers would have to charge investors directly. CSA says this would lead to the increased use of more transparent fees.
For fund organizations, CSA details two potential ramifications:
- They’d have to “establish a process under which a participating dealer is required to confirm to the member that it has made a suitability determination for a client as a prerequisite to the receipt of trailing commission payments.”
- For dealers that can’t do this, “a class or series of securities of a mutual fund that does not pay trailing commissions” would need to be available.
CSA notes that trailing commissions are not currently defined in National Instrument 81-105. It wants to “broadly define ‘trailing commission’ to mean any payment that is part of a continuing series of payments related to the ownership of securities of a mutual fund by a client of a participating dealer.”
That definition captures payments for all client services connected to their ownership of mutual funds, the CSA says, and isn’t restricted to payments to compensate dealers and their representatives for advice.
Complements June proposals
The regulator’s client-focused reforms announced in June—which touch on KYC, KYP, suitability, conflicts of interest and relationship disclosure information requirements—complement this proposal, CSA says in the current notice.
“Specifically, proposed amendments to the relationship disclosure obligations propose to require dealer firms to make publicly available information that a reasonable investor would consider important in deciding whether to become a client of the firm […],” it says, including what products, services and charges are on offer.
The DSC and trailing commissions proposals are out for comment until Dec. 13.
The CSA’s June proposals, amending National Instrument 31-103 regarding KYC, KYP, suitability, conflicts of interest and relationship disclosure information, are out for comment until Oct. 19, 2018.