Financial Advisors: Reducing Your Exposure to Potential Liability

The legal obligations of financial advisors in Canada are governed by a myriad of overlapping statutes, regulatory sources and duties in contract, tort and as a fiduciary. As an advisor, it is important that you take active steps to ensure your client management practices are compliant under the law to reduce your exposure to liability.

What are my duties to my clients under provincial and federal regulatory standards?

Every financial advisor in British Columbia is subject to regulation by the British Columbia Securities Commission and either the Mutual Fund Dealers Association of Canada or the Investment Industry Regulatory Organization of Canada. Your obligations to your clients prescribed by these regulations continue throughout the professional relationship, and include obligations to:

  • deal fairly, honestly and in good faith with your client and observe a high standard of ethics;
  • undertake adequate due diligence to enable you to understand a client’s investment objectives;
  • understand the nature of an investment to be made on behalf of a client; and
  • monitor and ensure that investments in a client portfolio are suitable for the particular client in their circumstances.

It is important to note that Courts consistently look to these regulations for guidance when deciding whether a financial advisor has met their legal obligations to their client.

What are my professional obligations to my client?

All financial advisors owe legal duties to clients. As a professional you owe a duty of care to your clients to exercise all reasonable care and skill. You must ensure that at all times you are acting in your client’s best interests.

“Know Your Client”(KYC)

Your obligation to comply with “know your client” procedures is one of the most fundamental obligations you owe to your clients. You are required to take reasonable steps to establish the identity of a client, and to ensure that you have sufficient information to meet your suitability obligation. The KYC information forms the basis for determining whether trades in securities are suitable for a client. It includes:

  • an ongoing assessment of your client’s investment needs and objectives including time horizon;
  • an understanding of your client’s financial circumstances (including net worth, income, investment holdings and employment); and
  • an appreciation of your client’s tolerance for risk.

You are required to maintain detailed client information (including an accurate and comprehensive New Account Application Form). You must be diligent and document any changes in instructions or client investment objectives.

“Know Your Product”

Advisors must understand the structure and features of each investment product they recommend. This includes costs, risks and eligibility requirements. You must understand and be able to determine whether a proposed purchase or sale is suitable for your client. You should analyse the attributes and associated risks of the products you are recommending to clients, which will include: the basis for return on investment, use of leverage, overall complexity, liquidity risks, conflicts of interest and embedded costs.

Financial advisors often expose themselves to liability for failing to properly assess a client’s suitability for an investment. It is important to note that complaints made against advisors are often made by parties external to the professional relationship (relatives, accountants, powers of attorney) who look critically at a client’s portfolio without the benefit of hindsight. As advisors you should be alert to conflating things such as high net worth with an ability to tolerate complicated or high risk investments.

What are some red flags I should watch out for?

Early recognition of potential issues with your clients will ensure you are in the best position to proactively address concerns and avoid problems in the future. Signs there may be issues include:

  • reluctance to discuss other investments held or net worth;
  • reluctance to review and complete client documentation;
  • a lack of a basic understanding of monthly statements including nature of investments and risk;
  • unsolicited trade orders that deviate from the client’s existing objectives; or
  • signs of undue influence in vulnerable clients by their family members, including unusual requests or withdrawals.

Best Practices

As an advisor, you need to ensure that your business is conducted with regard to the procedures and compliance regimes in place at your dealer firm. Compliance with these will also be the best way to safeguard you from client complaints. Some best business practices include:

  1. undertaking the appropriate due diligence to ensure your KYC obligations are met at the outset;
  2. periodic re-assessment of a client’s objectives and risk tolerance and updates to documentation as necessary;
  3. documentation of your discussions with your client regarding investments, particularly where there is a change in their instructions;
  1. communication with your client on an ongoing basis; and
  1. seeking advice from the appropriate compliance personnel at your firm at the outset of any issue with the client.

 

For more information contact our Securities Risk Management and Compliance Practice Group.

 

Tags: Securities Risk Management and Compliance; Heather Craig; Roshni Veerapen; Article