Content of the regulations
‘Incentive’ is defined in the legislation
11. ‘Incentive’ is defined in section 446M of the Financial Markets Conduct Act 2013 (FMC Act), inserted by section 12 of the CoFI Act. Incentive means a commission, benefit or other incentive (whether monetary or non-monetary and whether direct or indirect):
a. that is offered or given to a recipient in connection with the recipient being directly or indirectly involved in the provision of the service or the products
b. that is determined or calculated by reference to the volume or value of the services or products.
12. Under section 446M(2) of the FMC Act, the definition of ‘incentive’ applies regardless of whether a person’s entitlement, or the nature or value, is also determined or calculated by reference to one or more matters unrelated to the volume of value of the services or products involved. For example, if the recipient is only entitled to a bonus if performance indicator relating to customer satisfaction is also satisfied, this factor does not prevent the bonus from being an incentive.
13. Section 446M(3) of the FMC Act provides some non-exhaustive examples of determining or calculating a matter by reference to the volume or value of the services or products.
The draft regulations prohibit incentives determined or calculated by reference to a target or other threshold
14. Cabinet decided to prohibit sales incentives that are based on volume or value targets as these types of incentives create a strong conflict between the interests of consumers and the interest of the person eligible to receive the incentive, which increases as the persons nears the target.
15. The draft regulations define ‘prohibited incentive’ as an incentive where a person’s entitlement to the incentive, or the nature or value of the incentive, is determined or calculated in any way by reference (directly or indirectly) to a target or other threshold that relates to the volume or value of the services or products.
16. The draft regulations set out examples of a prohibited incentive and a non-prohibited incentive. Incentives on a linear basis (a per product or per service basis) do not fall within the prohibition as they are not determined or calculated in any way by reference to a target or threshold.
17. In order to give effect to Cabinet’s policy decision, the prohibition is intended to apply in all circumstances involving a volume or value sales target or other threshold, even where a person’s entitlement to the incentive is also determined or calculated by reference to other matters (consistently with section 446M(2) of the FMC Act). For example, incentives based on volume or value sales targets which form part of a balanced scorecard approach fall within the scope of the prohibition.[1] These types of incentives create a strong conflict even if other non-sales metrics are also used to assess a person’s performance. Excluding these from the prohibition would undermine Cabinet’s policy decision by enabling financial institutions to continue to offer incentives based on volume or value targets.
18. However, only the volume or value sales target-based portion of the balanced scorecard is subject to the prohibition. Balanced scorecards can continue to be used provided they do not contain metrics based on volume or value sales targets.
Questions
- Do you consider that the draft regulations give effect to Cabinet’s decision to prohibit sales incentives based on volume or value targets? If not, why not?
- Do you have any comments on the examples chosen of a prohibited incentive and a non-prohibited incentive?
- Do you have any other comments on the way the draft regulations define prohibited incentives?
The draft regulations provide that the prohibition applies to financial institutions and intermediaries who offer or give incentives to a ‘relevant person’
19. The prohibition in the draft regulations applies to financial institutions and intermediaries who offer or give prohibited incentives to a ‘relevant person’. The proposed definition of ‘relevant person’ in relation to financial institutions and intermediaries is consistent with Cabinet’s policy decision that the prohibition will apply to a financial institution or an intermediary’s employees (except senior managers and executives), agents and intermediaries.
20. The definition of incentives in section 446M(1) of the FMC Act is also relevant to the scope of the regulations. This definition defines incentive as something that is given to a person in connection with the person (directly or indirectly) being involved in the provision of the financial institution’s services or products.
21. ‘Involved’ is defined in section 446Q(3) of the FMC Act as a person who does either or both of the following:
a. arranges a contract for the service or for the acquisition of the product [2] or
b. gives regulated financial advice in relation to the product.
22. An example of a person being ‘involved’ is provided in section 446M(1) of the FMC Act. A person who is a manager of a team of people who sell life policies is ‘involved’. This means that, if the manager is entitled to a paid holiday if the team sells a certain number of life policies, the paid holiday will be an incentive.
23. In practice, the legislative requirement that the recipient of an incentive be directly or indirectly involved in the provision of the service or the products means that the prohibition will not apply if a commission or benefit is offered to a person who is not directly or indirectly involved, even if they are a ‘relevant person’ within the meaning of the draft regulations.
Question
4. Do you have any comments on the definition of ‘relevant person’ in relation to a financial institution or an intermediary?
Exclusion of senior managers and executives from the incentive prohibition
24. Cabinet decided to exclude senior managers and executives from the incentives prohibition. As explained in the Cabinet paper supporting this decision, this was because the greatest conflict of interest is likely to occur at the mid-to-lower levels of an organisation where individuals are more directly involved in the chain of distribution. It is less common for senior managers and executives (particularly in large organisations) to receive sales incentives based on volume or value targets (although they may receive incentives designed to grow the business, such as incentives based on increases in market share).
Financial Markets (Conduct of Financial Institutions) Amendment Bill: Further Policy decisions and regulations [PDF 130KB]
25. This approach is aligned with the FMA’s expectations for banks and insurers following the conduct and culture reviews in relation to the removal of sales incentives for frontline staff and their managers. It allows for incentives to be offered as part of reasonable remuneration at more senior levels where they are less likely to drive strong conflicts of interest at the point of sale.
26. As the Minister has since advised Cabinet, the draft regulations do not explicitly exempt senior managers and executives from the prohibition. This is because the definition of ‘incentive’ under section 446M(1) of the FMC Act only captures a person who is (directly or indirectly) involved in the provision of the service or the products. As explained above, ‘involved’ has a specific definition in the FMC Act and means either arranging the contract or giving regulated financial advice.
27. To the extent that senior managers and executives are not ‘involved’ in the provision of the service or the products, they would not be captured by the prohibition. To the extent that a senior manager or executive is ‘involved’ (e.g. in a small financial institution or financial advice company where one person is the sole director and manager) then we consider it is appropriate that the prohibition applies to them.
Questions
5. Do you have any comments on the application of the draft regulations to senior managers and executives?
6. Do you have any other additional general comments on the exposure draft regulations?
For example, do you see any unintended consequences arising from the draft regulations in relation to any other matters? Are there any areas where the application of the draft regulations is unclear and could benefit from additional examples or guidance?