Financial Services Alert - Update on new margin lending laws

In brief

In this Update we discuss recent developments in the new margin lending laws contained in the Corporations Legislation Amendment (Financial Services Modernisation) Bill 2009 (the Bill). Under the Bill, margin lending facilities will be financial products for the purposes of Chapter 7, with the result that providers of financial services relating to margin loans will be subject to the licensing, conduct and disclosure requirements in Chapter 7. For an overview of the key aspects of the new laws, please see our Financial Services Alert from May 2009.

These developments are:

• the release of ASIC’s draft policy on financial requirements, dispute resolution and training;
• the release of draft regulations and an example product disclosure statement (PDS).

Draft ASIC policy

In July, ASIC released three consultation papers:

• Consultation Paper 108 Margin lending: training of financial advisers;
• Consultation Paper 109 Financial requirements;
• Consultation Paper 112 Dispute resolution requirements for consumer credit and margin lending.

Training of financial advisers

ASIC proposes that margin lending facilities will be a Tier 1 product under Regulatory Guide 146. Advisers on Tier 1 products (which currently include market-linked products such as securities, derivatives and interests in managed investment schemes) must undertake training in generic knowledge of the environment in which the products operate, plus specialist knowledge training on the financial products on which advice is provided.

ASIC proposes that advisers be required to complete the training requirements for margin lending facilities within 12 months of the new laws commencing.

Financial requirements

ASIC proposes that:

• all AFS licensees that provide margin lending financial services (ie dealing in or advising on margin lending facilities) must satisfy the base level financial requirements in Section B of Regulatory Guide 166 (these include solvency and cash flow requirements);
•  an AFS licensee that issues margin lending facilities must hold:
  
  
  • NTA of 0.5% of the value of secured property subject to a minimum requirement of $50,000 and a maximum requirement of $5 million; and
  • at least $5 million NTA at all times that the licensee holds secured property under a margin lending facility, or the secured property is held by another person and that person has less than $5 million NTA (unless the person is an eligible custodian);
• an AFS licensee that issues margin lending facilities will generally be required to hold at least $50,000 in surplus liquid funds;
• an AFS licensee that issues non-standard margin lending facilities (and thereby incurs liabilities or contingent liabilities to its clients) will be required to maintain adjusted surplus liquid funds of:
  
  
  • $50,000; plus
  • 5% of adjusted liabilities between $1 million and $100 million; plus
  • 0.5% of adjusted liabilities over $100 million.

Dispute resolution requirements

Like other AFS licensees that provide financial services to retail clients, licensees that provide margin lending financial services will need to have an internal dispute resolution system that complies with standards approved by ASIC, and be a member of an approved external dispute resolution scheme (currently the Financial Services Ombudsman and the Credit Ombudsman Service Limited).

Draft regulations and example product disclosure statement

In August the Government released draft regulations for the Bill. Matters covered by the regulations include the following:

• unsuitability assessments under the responsible lending requirements will not constitute financial product advice;
• a person will be a wholesale client in respect of a margin lending facility (and hence need not be given a PDS for the facility) if the value of the equity contributed by the person in establishing the facility is $500,000 or more. (Curiously, the draft regulation does not specify that amounts lent to the borrower by the issuer of the facility or its associates are to be disregarded in calculating the equity amount - compare regulation 7.1.18(4) in relation to investment-based financial products. This is particularly puzzling having regard to the focus of the Bill on double lending);
• a Statement of Advice given by an AFS licensee or an authorised representative must include information on whether the client has taken out a loan to fund its equity contribution, whether the security for such a loan includes residential property, whether there is a guarantor and if so whether the guarantor has been advised on risks , and the amount of the client’s other debts;
• an AFS licensee must make inquiries about the matters referred to in the previous bullet point;
• details to be included in periodic statements for margin lending facilities are prescribed.

In September the Government released further draft regulations concerning PDSs for margin lending facilities, and an example PDS. Matters covered by the regulations include the following:

• the length of a PDS must not exceed 4 pages (if printed on A4 – there are other length limits for other types of paper) and there are minimum font size requirements;
• a PDS must contain 7 specified sections, and the regulations prescribe in considerable detail what each of these sections must contain. The sections are :

1. What is margin lending?
2. How you can benefit from margin lending
3. How margin lending works
4. What is a margin call
5. The risk of losing money
6. The costs
7. How to apply

• some matters can be incorporated by reference into a PDS, provided the PDS includes a reference to the incorporated matter that is sufficiently clear to enable a reader to easily identify the matter and make an informed choice about whether they need to refer to the matter. The matters that can be incorporated are:
  
  
  • benefits available to the borrower for a margin loan (other than key benefits which must be included in the PDS);
  • Approved Product Lists (being the securities and other property approved by the issuer for security purposes);
  • information about risks of margin lending (other than the specific prescribed information about risks which must be included in the PDS);
  • a statement about the interest rate for the margin loan, and details of any “minor fee” that will be charged by the margin loan provider (a minor fee is less than $10 and does not relate to the ordinary acquisition, operation or closure of the margin loan).

Timing and transition

The Bill is still before the parliament. If it passes in the October sittings and commences on 1 November 2009:

• margin lending financial service providers will have to apply for their AFSL or variations to their AFSL between 1 December 2009 and 30 April 2010;
• ASIC will process the applications and issue the AFSLs and variations during May to October 2010; and
• the new laws will apply to margin lending financial services provided on and from 1 November 2010.