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Commission disclosure: take the bull by its horns

Vijay Venkatram, Managing Director, Wealth Forum

21st January 2016

In a nutshell

AMFI's Board may, as expected, attempt to push back on the regulator's desire to have commissions disclosed in account statements. But that may not be the last word in the matter.

We need to address the root cause rather than attempt some band aid solutions. Merely pushing back is not going to get us anywhere. The root cause is our industry's tardy implementation of 6 year old regulations on commission disclosure.

There are possible ways we can adhere to the letter and spirit of the disclosure regulations without fearing about investor reaction to this disclosure. One solution is suggested in this article. It is clearly time for distributors to take the commission disclosure bull by its horns now.

We have a choice to make: the industry needs to either act quickly and convince the regulator about effective implementation of existing regulations, or wait for a fatwa on a new kind of disclosure requirement that is even more uncomfortable for most. Looks like time has run out on being cheeky on disclosure - the end game is now upon us.


AMFI will push back - but that's not the end of it

AMFI is now dealing with another salvo from SEBI on commission disclosures - this time, a suggestion that distribution commissions should be disclosed in investor account statements. We understand that AMFI's Board which met today, has as expected, decided to communicate to the regulator its reluctance to go ahead with this suggestion. But, is this going to be the last word on the matter? I guess not.

There is a regulation in force since 2009 that requires distributors to disclose commissions each time they sell a product - not just the commission on the product being sold, but also commissions on comparable products - to enable an investor to discern whether commissions are influencing the sale. Most large distributors have put up all this information on their websites. Many small distributors who don't have websites, are supposed to communicate this information in any other manner, such that investors are indeed made aware. The trouble is that implementation where done has been more in letter than spirit in most cases, and in other places, perhaps not done at all. SEBI clearly believes that this information is not being made readily available to investors, as was envisaged in the regulation. And, they may well have a point.

How long are we going to run away from disclosure?

There is really no point in debating the need for disclosure of commissions - I have flagged this issue years ago - in an article way back in 2010 : Disclosure: there's no running away from it. When you have RBI, SEBI and IRDA regulations which explicitly mandate commission disclosure at the point of sale, when you have disclosure as the foremost concern of regulators globally, one must indeed be brave to assume that one can somehow wish away disclosure. Being cheeky does not help - in the long run. Understanding the way the wind is blowing and aligning with the direction ensures you have tailwinds supporting you rather than forever battling headwinds.

Time to "fall in line"

So what next now? SEBI is unhappy with the implementation of its disclosure regulations. Distributors sign a self declaration each year, but doubts persist. SEBI asks AMCs to scrupulously implement the upfront commission caps, AMCs confirm they are doing so, but doubts persist. Somewhere there is a clear belief in the regulator's office that all is not well in terms of adherence to commission rules - and they are obviously not happy about it. What do they do? They come up with another form of disclosure - this time bypassing the distributor and communicating directly to the investor in his account statement - to ensure that at least on a post-facto basis, he is made aware of the commissions that were paid out to distributors on his investments. Our industry may try to persuade the regulator to back off from this one. It may or may not succeed. But the point is, we will continue to have more "innovative" ideas coming our way from the regulator on commission disclosure, until such time that we are able to convince the regulator that we have "fallen in line".

Give a viable alternative to SEBI

So, if AMFI wants to communicate to SEBI its reluctance to implement the idea of commission disclosure in account statements, it is imperative that it first acknowledges SEBI's concern and puts on the table its own suggestions on how it will drive compliance of existing regulations. AMFI can't hope to simply buy time by trying to kick the can down the road - that's a short term solution, which will finally end in a "fatwa" from SEBI on commission disclosure in account statements, which then has to be implemented.

There is a choice that the industry - fund houses and distributors need to make, and do so quickly. We can either try and buy time and run a risk of a fatwa coming our way eventually, or we can put our heads together and come up with a viable alternative that addresses SEBI's core concern - which is that investors are not being made aware of commissions in a simple and straight forward manner.

Time for distributors to take the bull by its horns

From a distributor's standpoint, if you haven't really been disclosing commissions as regulations require you to, well its time that you begin. Its better that your clients get a communication from you rather from an account statement. But there are ways of doing this, which can put the right context to the whole disclosure. What is required is for you to disclose commissions. Nobody told you that you cannot share more information. So, why not have a disclosure statement that reads something like this:

Important Note

We believe in transparency. We believe in offering excellent service and being remunerated fairly for it. SEBI regulations prescribe the total amount that you can be charged per annum on the mutual fund investment you make. All expenses of fund management, distribution and client servicing are supposed to be met within this regulated expense.

For the equity fund that we have recommended, the total expenses that will be charged annually will be 2.25%. This will be deducted by the mutual fund and the NAV that you will see is net of all charges. Out of this 2.25%, we will receive 1% p.a. as our commission, so long as you remain invested in this fund. In all equity funds we recommend, we receive between 0.9% - 1.2% as annual commission. All our expenses relating to guiding and serving you on an ongoing basis, will be met by us out of this commission. We believe this is a fair remuneration for our ongoing services to you - which will continue regardless of whether you remain invested in this fund or not. We therefore do not seek any fees from you for the services we render to you.

Think about it: would you rather have something like this going out from you to your clients or would you like your client to receive an account statement from CAMS that informs your client that you are being paid x% as upfront commission, y% as trail commission and that the total commission paid to you on account of his portfolio during a financial year was Rs. ABC?

If you have the conviction that your services are worth the commissions you are being paid, well, now is the time to say so clearly to your clients, if you are not doing this already. And, if you believe that clients won't see value, maybe its time that you ask yourself what more you need to do to deliver value, and put yourself in a position where you can make this kind of a "disclosure" confidently. For years, we have been a little cheeky on commission disclosures. I suspect the end game is fast approaching on disclosures - we either get our act together quickly and convince the regulator about it, or wait for the day when a fatwa will come on disclosures in a manner that is distinctly uncomfortable to most. Time for distributors to take the commission disclosure bull by its horns.


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