FIDLEG SOLUTION - News 12/2018

Rules for retrocessions under the Financial Services Act (FinSA)

This issue of FIDLEG SOLUTION - News 12/2018 brings closer to you the provisions of FinSA on retrocessions and compares them with the provisions of MiFID II / MIFIR as presented in the last issue of FIDLEG SOLUTION - News 11/2018. It also takes a look at the civil law provisions, the case law and the self-regulation currently in force.

WHAT ARE RETROCESSIONS AND WHAT IS THE PROBLEM WITH THEM?

As under MiFID II / MIFIR, the term "retrocession" is not used in the FinSA or in the draft ordinance on Financial Services (FinSO). Both FinSA and draft FinSO use the term "third party compensation". And as with the inducements under MiFID II / MiFIR, it means any monetary and non-monetary benefit received by a person because he or she provides a financial service to a third party, such as managing that third party's assets, offering it a financial product or advising it on financial matters. This includes in particular brokerage fees, commissions, kick-backs, discounts or other pecuniary benefits. The understanding is very broad.

The understanding of retrocessions is narrower in the so-called transparency directive issued by SFAMA (Guidelines on Duties Regarding the Charging and Use of Fees and Costs of 22 May 2014). According to N 16 thereof, retrocessions "are deemed to be payments and other soft commissions paid by fund management companies, SICAVs and SICAFs and their agents for distribution activities in respect of fund units". However, this understanding, which is reduced to the sale of fund units alone, cannot be applied to FinSA, as by definition FinSA has a wider scope of application than just the sale of fund units.

A typical feature of retrocessions is that they are not paid to the recipient of the financial service but to the provider of the financial service. This illustrates the problem of retrocessions: they can make the recipient, who owes his client the best possible execution (art. 18 FinSA), to focus his action on obtaining retrocessions rather than on the interests of the client.

DEALING WITH RETROCESSIONS ACCORDING TO FINSA

The scope of retrocessions is governed by art. 26 FinSA and art. 27 draft FinSO. These provisions stipulate that financial service providers may accept compensation from third parties in connection with the provision of financial services only if (i) they have expressly informed the customer in advance of the compensation and the customer has waived it, or (ii) they pass on the compensation in full to the customer.

This means that the financial service provider has two options:

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  • Either he informs the client in advance of the retrocessions and can retain them if the client waives the surrender on the basis of this information.
  • Or the financial services provider may pass on the retrocessions, in which case it does not have to inform the customer of the retrocessions in advance.

The customer must be informed of the nature and extent of the compensation and must be provided before the financial service is performed.

Retrocessions are not known in advance, particularly in the case of continuing obligations such as asset management agreements or investment advisory agreements with a long-term focus. In this case, the client must be informed about the calculation parameters and the bandwidths before concluding the contract. This information must be so detailed that, if the client does not know exactly how high the retrocessions are, he has at least the parameters to calculate the amount. Because the waiver of retrocessions is only valid if the customer knows or can know what he waives.

Retrocessions that cannot be released must be disclosed to the client as a conflict of interest (art. 29 draft FinSO). This also includes non-monetary gifts such as invitations to opera performances or to luxury seminars.

The original intention of the Federal Council thus became law. In its message on FinSA / FinIA, the Federal Council stated that it had decided on the following direction: "Full transparency with regard to all advantages received from third parties, but no general or partial ban on compensation such as retrocessions, brokerage fees, etc". (point 1.2 of the Message).

COMPARISON WITH OTHER SWISS LAWS

This regulation according to art. 26 FinSA and 29 draft FinIA is by no means revolutionary.

It corresponds to the civil law applicable under art. 400 Swiss Code of Obligations, as the Federal Supreme Court has recently confirmed several times (see above all BGE 138 III 755, 137 III 393, 132 III 460 etc.). This is to be welcomed and is therefore in line with civil law and supervisory law.

The Collective Investment Schemes Act (CISA) goes one step further. Pursuant to art. 21 paragraph 2, licensees under CISA (i.e. in particular fund management companies and asset managers) may not retain remunerations received in connection with the acquisition and sale of assets and rights, but must credit them to the fund. This is necessary because the fund itself cannot waive the release of retrocessions, since the only person acting on its behalf is the fund management company, which is actually receiving the retrocession. See also paragraphs 23 - 26 Code of Conduct of SFAMA.

Like the CISA, the Swiss Federal Act on Occupational Pensions and its second implementing ordinance (OPO 2) go one step further than the FinSA. Art. 48k OPO rules that persons entrusted with the management, administration or asset management of a pension fund must "compulsorily" (!) surrender to the institution all pecuniary benefits that they receive in excess of the agreed compensation. The pension fund cannot, therefore, waives the right for the release of retrocessions.

WHAT SHOULD THE FINANCIAL SERVICES PROVIDER DO?

This raises the question of what the financial services provider under FinSA should do with regard to retrocessions.

If the financial services provider manages the assets of pension funds or collective investment schemes, it must credit retrocessions to the institution or the fund. A deviation from this is not permitted.

If someone provides a financial service to a third party other than a pension fund or a collective investment scheme, he must choose between the following options:

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  • ­The financial service provider may pass on the retrocessions in full to its customers. This may be arithmetically complex, but it is in any case in compliance with the law.
  • If the financial services provider wants to retain the retrocessions, it needs the customer to waive the obligation to surrender them. This means that the customer either knows the exact amount of the retrocessions or knows the parameters according to which the retrocessions are calculated.
  • ­­If, on the other hand, the financial services provider works for a pension fund or a collective investment scheme, retrocessions must be issued.
THERE IS MORE TO COME…

The next issue of FIDLEG SOLUTION – News will deal with the criminal consequences of retrocessions not being treated in accordance with the law.

Your FIDLEG SOLUTION Team
www.fidlegsolution.ch


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