Limiting OBAs

In June, the ICBC had cancelled the licence of an insurance agent for five years because she had sold to her former mutual fund clients securities in a business venture that was much too risky for their investor profiles. This is the first time the ICBC has disciplined an insurance advisor for activities unrelated to insurance.

And IIROC will amend its OBA rules later this year, following four cases it has had to deal with in 2012 involving representatives who had failed to disclose their OBAs. The changes are subject to the approval of the Canadian Securities Administrators, which had issued new guidance on OBAs in May 2011.

In the ICBC case, Roberta Merlin McIntosh of Nanaimo, B.C., formerly a licenced mutual fund representative for 20 years, had allowed her mutual fund licence to expire in 2003. At the same time, she had maintained her life insurance licence and continued to sell life and health insurance through a managing general agency.

From 2003 to 2007, McIntosh sold to her former mutual fund clients shares in Dexior Financial Inc., a private-equity firm based in British Columbia, and paid any redemption fees those clients incurred to liquidate the assets needed to support their investments.

In total, McIntosh had raised $3 million from her former mutual fund clients. When Dexior went belly up in 2008, investors – mostly seniors who had invested their life savings – ended up with nothing.

Although McIntosh’s activities regarding the Dexior venture did not involve her insurance clients or insurance products, her actions caused the ICBC to question her trustworthiness as a life agent, says Gerry Matier, executive director of the ICBC. The regulator ultimately concluded that McIntosh was a “risk to the public.”

“The main message to insurance advisors,” says Matier, “is that if you are going to hold an insurance licence, anything you do, even if it’s not insurance-related, may affect your suitability to hold a licence. It’s the ‘widest’ perspective on outside business activities we have taken so far.”

As for IIROC, Paul Riccardi, IIROC’s senior vice president, enforcement, policy and registration, says: “We want to amend our rules so there is no confusion on the Street [for advisors] about how to disclose OBAs.”

Under the original Rule 18.14, advisors can have another “gainful occupation,” if the dealer firms have policies and procedures in place to address any conflicts of interests with clients that may arise. The amendments to the rule will expand the firm’s responsibility to not just approve and oversee gainful employment, but address any OBA.

IIROC defines OBAs as “any business activity conducted outside of the dealer member by an approved person, for which direct or indirect payment of compensation is received or expected, as well as any other activity by which a potential conflict of interest or client confusion may arise.”

The amendments will also codify IIROC’s expectations with respect to advisors disclosing outside activities to their firms and obtaining approval for them, as well as the firms’ responsibility to disclose these activities to IIROC and report them in the National Registration Database, a web-based database, about that individual registrant’s activities.

Trouble with clients can arise when advisors sell them exempt securities that they think the firm provides, says Riccardi. “Clients may think they are dealing with a dealer or member, but they are really dealing with an individual … firms are expected to consider if a proposed OBA is confusing for clients, and if that’s the case, then the OBA should not be approved.

Advisors also should ensure that their disclosure forms are in plain language and not in legal jargon, Matier says: “The terms of the investment need to be defined in a way that the average person can understand.”

Matier also suggests advisors ask their clients to get a second opinion on any OBA investment: “This gives clients a chance to have a more objective party explain the risk involved with these investments. [And] it’s another way for advisors dealing in OBAs to take precautions.”

The broader perspective of a regulator also can be seen in an action taken by the Mutual Fund Dealers Association of Canada (MFDA) against Gabriele Gentile, a branch supervisor in Halifax with Desjardins Financial Security.

The MFDA alleges that between March 2007 and October 2008, Gentile had failed to inform head office that an insurance agent affiliated with the branch was borrowing money from clients.

In April, a panel of the MFDA’s Atlantic regional council heard Gentile’s motion to have his case dismissed on the grounds that the MFDA rules do not currently require branch supervisors to supervise the activities of third parties who are not “approved persons.” Gentile’s position is that it wasn’t a part of his duty to report the activities of the insurance agent to his head office.

The panel had denied Gentile’s motion in May and noted the difference between “failing to supervise” and failing to bring activities to the attention of a firm’s compliance staff.

The panel said that Gentile in his capacity as branch manager, failed to report to his head office potential financial harm to clients from the activity of an unregistered individual operating within the branch.

Says Karen McGuinness, the MFDA’s vice president of compliance: “Regardless of the rep’s licensing, if you are a supervisor and someone in your branch is conducting business that could be harmful to the firm’s clients, you cannot be willfully blind.”

© 2012 Investment Executive. All rights reserved.