ALRC says financial services laws are ripe for reform

By John Bassilios and Max Ding

What do you need to know?

• The Australian Law Reform Commission’s (ALRC’s) final report on Australia’s financial services regulations found the legislation governing Australia’s financial services industry is not fit for purpose and is ripe for reform.
• The Report recommends that the definitions of ‘financial product’ and ‘financial service’ be amended to have a single, simplified definition.
• A key proposal to address the coherence, design, and hierarchy of financial services laws is a reformed legislative framework consisting of three elements: Financial Services Law, scoping order, and rulebooks.
• The Report recommends restructuring and reframing the existing financial services provisions into a single location in the Corporations Act through four regulatory themes: consumer protection, disclosure, financial advice, and general regulatory obligations.
• The Government is now ‘carefully considering the report and recommendations’.

In January, the ALRC released its final report of a three-stage review of Australia’s financial services regulations (Report).

The Report found that the legislation governing Australia’s financial services industry is no longer fit for purpose and ripe for reform due to its unnecessary complexity and difficulty in navigation, noting judges have described the laws as being like ‘porridge’, ‘obscure and convoluted’ and needing to be ‘deciphered’, not merely interpreted. The Report also notes that the complexity of the current laws generates unnecessary costs that are borne by stakeholders, including both businesses and consumers.

The ALRC’s Report follows on from the Hayne Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, and the Government’s commitment in response to simplify financial service legislation. The Report largely does not contain specific policy reforms to financial services regulation but recommends numerous technical and structural reforms to streamline and simplify the existing laws.

In this Fundamental article, we outline the key problems with existing financial services legislation identified by the Report and provide an overview of the ALRC’s key recommended solutions.

Key problems with financial services legislation

The key problems the ALRC identified as contributing to the unnecessary complexity and difficulty of current financial services legislation relates to the sheer volume of primary legislation, delegated legislation and legislative instruments relating to financial services laws, and the incoherent structure of these laws.

The Report found that the Corporations Act 2001 (Cth), which is central to the financial services legislative framework, is unique in the extent to which it uses notional amendments.  Notional amendments are modifications made through legislative instruments which do not appear in the primary body of the Corporations Act, but which change the legal effect of provisions in the Corporations Act without changing the text of that provision. Notional amendments therefore create uncertainty for readers who cannot assume that the text of the provision reflects the law as it is applied. The Report identified more than 1,200 distinct notional amendments in force across more than 95 legislative instruments, affecting more than 600 provisions in the Corporations Act and its related regulations.

The Report also found that financial services legislation lacks a coherent hierarchy and consistency in the way it is structured, meaning that laws are inconsistently and unpredictably located in primary legislation, delegated legislation, and notional amendments. A failure to prioritise key messages and to provide guidance to users in navigating a ‘legislative maze’ of hundreds of regulations and other legislative instruments that must be read alongside primary legislation also means ‘anything could be anywhere, meaning users of the legislation need to look everywhere’.

These issues were both symptomatic of, and caused problems with, law-making processes and legislative maintenance, resulting in legislation with redundant provisions, errors, and design flaws.

An example illustrating these problems is discussed in our other article in this issue of Fundamental: When does the single-sided reporting exemption apply? 

Solutions and recommendations

The Report makes 58 recommendations to simplify existing financial services laws. We outline some of the key recommendations below.

Recommendations already implemented

23 of the ALRC’s recommendations are not new to the final Report and were made in three interim reports previously released by the ALRC. These recommendations concerned low hanging fruits that could be more easily and immediately implemented to streamline financial services legislation, as they were ‘issues of technical simplification that do not have significant policy implications and were not subject to divergent views among stakeholders’. 13 of these recommendations have already been partially or fully implemented and include matters such as repealing definitions that are not used as defined terms in the Corporations Act, amending the Corporations Act to include a single glossary of defined terms, repealing redundant provisions, and addressing unclear and incorrect provisions.

Simplifying the definition of ‘financial product’ and ‘financial service’

In line with recommendations that seek to address the use of definitions in the Corporations Act, the final Report also recommends that each of the definitions of ‘financial product’ and ‘financial service’ be amended to have a single, simplified definition. These definitions are foundational to financial services regulation because the financial services laws are only applied to those things that meet the definition of ‘financial product’ or ‘financial service’. The Report found that currently, different definitions of these terms are used in different legislation to adjust the scope of regulation in different areas. Therefore, the Report recommends these terms have a single, simplified definition in the Corporations Act, including specific inclusions. Other legislation, such as the ASIC Act, which currently adopts different, broader definitions of these terms, should adopt the same definition by reference to the Corporations Act. Moreover, the Report recommends that exclusions and exemptions from the definition should be limited to the application of the definitions to specific products, services, persons, and circumstances and be housed in a single legislative instrument.

The Report states that its recommendations would improve navigability by enabling users to look in one place to determine the definition of ‘financial product’ and ‘financial service’ and to identify specific exclusions and inclusions from those definitions.

A reformed legislative framework

A key proposal in the Report to address the coherence, design, and hierarchy of financial services laws is a reformed legislative framework consisting of three elements:

1. Financial Services Law: the enactment of a dedicated group of provisions, to be contained within a new schedule of the Corporations Act, which sets out the core obligations, offence provisions, right, remedies, and definitions of financial services regulation.
2. Scoping Order: a single legislative instrument which contains provisions that adjust the scope of the regulatory regime, including exemptions and exclusions. For example, it is envisaged that the specific exclusions and exemptions relating to the definition of ‘financial product’ and ‘financial services’ discussed above would be housed within the Scoping Order.
3. Rulebooks: thematic rulebooks of consolidated legislative instruments, which contain rules prescribing matters expressly authorised by the Corporations Act to tailor the regulatory regime for particular products, services, persons, or circumstances. This would include retaining ASIC’s current power to provide ‘individual relief’ in relation to specific persons. Rulebooks are proposed to replace the use of conditional exemptions and notional amendments currently set out across numerous provisions in primary legislation, regulations, and legislative instruments.

The Report states that implementing this model would ‘reduce the number of places users need to look to find relevant law’ and eliminate ‘the need for notional amendments and complex conditional exemptions, while maintaining regulatory flexibility to clarify technical detail and address atypical or unforeseen circumstances’.

Reframing and restructuring Financial Services Law

As discussed above, the Report recommends that the new Financial Services Law be implemented by restructuring and reframing the existing financial services provisions into a single location in the Corporations Act. The Report sets out numerous recommendations concerning how this would be achieved through four regulatory themes:

1. Consumer protection: consolidating and grouping existing consumer protection provisions, including those concerning misleading or deceptive conduct and unconscionable conduct.
2. Disclosure: consolidating and grouping existing provisions relating to disclosures that must be made to consumers of financial products and services, which are currently ‘among the most complex and least coherent in the Corporations Act’. The Report also recommends that disclosure obligations should be guided by the need to promote consumer understanding.
3. Financial advice: consolidating and grouping existing provisions relating to financial advice.
4. General regulatory obligations: consolidating and grouping existing provisions relating to the general regulatory obligations of financial services providers by ‘prioritising more important obligations separately from related detail, thereby making it easier to identify the overarching context and purpose of those provisions’ and ‘accommodating prescriptive detail that appropriately belongs in primary legislation, without obscuring other more important provisions’. The Report also makes recommendations to consolidate offence and penalty provisions, ‘making those provisions more visible to users of the legislation and making the consequences of breach clear on the face of the legislation’.

Implementation and maintenance into the future

Other key recommendations in the Report relate to the practical implementation and maintenance of the proposed legislative framework discussed above. The Report sets out a ‘reform roadmap’, which includes six ‘pillars’ or stages of implementation, with each pillar having a regulatory theme. The first four pillars mirror the themes of consumer protection, disclosure, financial advice, and general regulatory obligations set out above. Pillar five seeks to cover miscellaneous provisions that are not covered by the first four pillars. Pillar six concerns policy evolving provisions and is proposed to proceed in parallel with the other five pillars, to be implemented when substantive policy reforms to financial services laws are adopted. This would ensure that the recommendations of the Report, which are largely concerned with the technical and structural presentation and navigability of financial services laws, are compatible and considered alongside substantive policy reforms to financial services laws.

The ALRC’s roadmap is designed so that each pillar could be implemented within a single term of Parliament, and the Report also recommends the establishment of a government taskforce dedicated to implementing the reforms.