The question of whether financial advisors should be able to incorporate is one of those odd problems that have just never been resolved. The Province of Alberta is now the latest to take a stab at the issue.

Late last year, Alberta’s Ministry of Finance and Enterprise released a consultation paper — ostensibly, the fruit of a working group of provincial government officials — that seeks public input on the question of whether the reps of registered dealers and other financial advisors should be allowed to incorporate. And, if so, it proposes three possible models for allowing advisors to use these sorts of personal corporations. (See sidebar.)

It remains to be seen if this exercise will finally resolve what has been an exceptionally long-running song and dance — even by regulatory standards. Indeed, the subject has bedevilled regulators for more than a decade.

The difficulty arose in the late 1990s, when securities regulators decided that mutual fund dealers should belong to a self-regulatory organization. In creating that new regulatory regime for mutual fund dealers, it became evident that there were some key differences in oversight between firms that were already under SRO supervision (investment dealers) and the mutual fund dealers, which were under the direct oversight of the securities commissions at the time.

KEY DIFFERENCES

One of those key differences was that mutual fund dealer reps had been allowed to incorporate, whereas reps at investment dealers weren’t allowed to do so. Incorporation is appealing because there can be a basic tax advantage to operating as a corporate entity as opposed to as an individual — such as paying taxes at the lower corporate rate rather than at the personal rate, and possibly enjoying greater deductions — along with other administrative and operational benefits that such a structure can provide.

This became a problem when setting up the SRO for mutual fund dealers, the Mutual Fund Dealers Association of Canada, because its rules were supposed to mirror the rules for investment dealers, and put regulators in a tough spot. Either they could outlaw personal incorporation, thereby forcing many mutual fund dealer reps to restructure their businesses, or, if there is no good regulatory reason to deny reps the use of these sorts of structures, the regulators could allow personal corporations for mutual fund advisors to remain, thereby enshrining an unlevel playing field between mutual fund dealers and investment dealers.

Essentially, the regulators have had it both ways. When the MFDA first started up, the SRO proposed a rule that would effectively do away with personal corporations for mutual fund dealers, requiring them to collect their commissions directly. But this rule was initially suspended for three years to give regulators time to come up with an alternative that wouldn’t be so disruptive to existing business models. Then, the problem kept getting kicked further and further down the road as regulators kept extending the rule suspension in the hope that some sort of universally acceptable resolution could be achieved.

Finally, last year it appeared that the issue would be at least partly resolved in most provinces. Regulators in Ontario, British Columbia, Saskatchewan, Manitoba, Nova Scotia and New Brunswick agreed to a revised MFDA rule, which would allow mutual fund dealer reps to flow commissions through unregistered corporations.

However, this solution is far from universal. For one thing, Alberta was not onside with it, so this regime doesn’t apply in that jurisdiction. And investment dealer reps are still unable to utilize personal corporations in their businesses in any province.@page_break@Indeed, several years ago, the Investment Dealers Association of Canada (now known as the Investment Industry Regulatory Organization of Canada) had broached the idea of changing its rules to allow the use of personal corporations by investment dealer reps as well. But the provincial securities commissions didn’t allow those changes to proceed (although they did allow the introduction of principal/agent business models, which had previously been a feature of the mutual fund dealer world), citing investor protection concerns.

Among other concerns, the main regulatory objection to the use of these corporations is the worry that they could be used to shield dealers from liability for their reps’ actions, or that they could disrupt regulators’ ability to oversee reps and dealers. Nevertheless, the Alberta consultation paper indicates that the provincial securities regulators don’t object to the idea of personal incorporation in principle, as long as their regulatory and accountability concerns are addressed.

The paper notes that regulators want to ensure that the use of such structures doesn’t disrupt the flow of liability between individual reps and clients, and between firms and clients; that reps are properly supervised by their dealers; that regulatory oversight is not compromised; and that the practice is justified on a cost/benefit basis.

CONCERNS ARE RESOLVABLE

Given that these personal corporate structures have existed for so long in the mutual fund dealer world without causing a problem, it seems these concerns should be able to be resolved. Yet, in practice, that has proven easier said than done. Even when the country’s regulators undertook a sweeping revision of the registration regime several years ago — which would have been the ideal time to answer this long-standing question once and for all — they opted not to deal with the issue.

Now, Alberta’s Finance Depart-ment is contemplating three possible ways of tackling the problem. The paper doesn’t commit to any one of the three proposals, and indicates that securities regulators haven’t signed off on any particular alternative, either.

Two of the three proposals would allow a corporation to undertake activities that would ordinarily require registration, such as trading or providing advisory services, without registering. The third approach would extend the MFDA solution to IIROC dealers.

Although the third option appears to be the simplest one — it would build off the work that the MFDA has done to get the provincial regulators comfortable with incorporation and finally put mutual fund dealers and investment dealers on a more level playing field in this area — it may not give reps the full benefits of incorporation, which could be realized in a regime that would allow the corporations themselves to provide registerable services.

Although, even then, the paper warns that the tax benefits of personal incorporation are not entirely clear. It points out that most of the tax advantages are likely to be lost if the rep is essentially an employee of the corporation rather than an independent contractor. This determination is made on a case-by-case basis and is a frequently litigated tax issue, it notes: “Accordingly, it is not clear that there would be tax benefits associated with allowing the incorporation of registered sales representatives or allowing a broader range of registered sales representatives to redirect commissions to their non-registered corporations.” Tax treatment, the paper continues, would depend on individual facts and circumstances. IE