Commonwealth Numbered Regulations - Explanatory Statements

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CORPORATIONS AMENDMENT REGULATIONS 2003 (NO. 4) 2003 NO. 126

Statutory Rules 2003 No. 126

Issued by the Parliamentary Secretary to the Treasurer

Corporations Act 2001

Corporations Amendment Regulations 2003 (No. 4)

Section 1364 of the Corporations Act 2001 (the Act) provides that the Governor-General may make regulations prescribing matters required or permitted by the Act to be prescribed by regulations or necessary or convenient to be prescribed by such regulations for carrying out or giving effect to the Act.

The Financial Services Reform Act 2001 (FSRA) commenced on 11 March 2002. It amended the Corporations Act 2001 to introduce a uniform licensing, conduct and disclosure regime for financial service providers.

Under the FSRA, a two-year transition period was established to allow time for existing industry participants to enter the new regime.

The purpose of these regulations is to clarify and/or correct, where necessary, various provisions introduced by the FSRA, to promote certainty and facilitate transition to the new licensing, conduct and disclosure arrangements.

The regulations will support the reforms to the regulation of the financial services industry, which were included in the FSRA and associated legislation. For example, the regulations specify certain conduct that will not constitute "dealing" in a financial product, or the provision of a "custodial or depository service", and therefore will not constitute the provision of a financial service which will require the provider to be licensed. The regulations will also provide exemptions from licensing for global custodians and financial product issuers in certain circumstances.

Details of the regulations are set out in the Attachment.

The regulations commence upon gazettal.

ATTACHMENT

SCHEDULE 1- AMENDMENTS COMMENCING ON GAZETTAL

Items 1 and 2 - Definition of Derivatives - amendment to regulation 7.1.04.

The amendment to regulation 7.1.04 removes the term 'spot foreign exchange contract' from the definition of derivative. The intent behind this amendment is to provide certainty and consistent regulation of products involving foreign exchange which have derivative characteristics and to ensure that there is no regulatory gap, as some products involving foreign exchange may have otherwise fallen outside of the definition of 'financial product'.

Item 3 - Clarification of potential inconsistency - amendment to paragraph 7.1.33B(1)(c).

Regulation 7.1.33B currently applies when advice is 'given'. However, the regulation relies upon section 766A of the Corporations Act 2001 (the Act), which does not contain this term but instead uses the word 'provide'. This amendment replaces 'given' with 'provided' to ensure consistency with the Act and reduce potential uncertainty.

Item 4 - Conduct that does not constitute dealing in a financial product - regulation 7.1.35.

Regulation 7.1.35 provides for exceptions from the meaning of dealing in a financial product under section 766C of the Act, where the conduct that would otherwise constitute dealing relates to conduct that is taken not to constitute the provision of a custodial or depository service by virtue of the new regulation 7.1.40 (see item 5).

In particular, subregulation 7.1.35(1) provides that conduct will not be taken to be dealing in a financial product where the conduct is carried out by a person in relation to a financial product that the person holds on trust for, or on behalf of, another person, and the holding of that financial product is covered by paragraphs 7.1.40 (a) to (d).

This exception does not apply to underwriting. Nor does it apply to issuing a financial product, unless it is the issuing of a beneficial interest in a financial product that arises from conduct covered by regulation 7.1.40.

An example of how the exception may apply is as follows - where a custodian holds shares on behalf of a client as security for the obligations under a credit facility (and so satisfies paragraph 7.1.40(1)(d)), the client receives a beneficial interest in those shares. A beneficial interest in a share is a security (see the definition of security in section 761A of the Act) and therefore a financial product. The custodian will be taken to issue the financial product to the client (and thus to have dealt in the product). The exception provided in subregulation 7.1.35(1) will mean that the issuing of the beneficial interest in the shares by the custodian in these circumstances will not constitute dealing in a financial product.

Subregulation 7.1.35(2) limits the application of subregulation 7.1.35(1), such that the exception from dealing in a financial product does not apply if the conduct is carried out in relation to a custodial arrangement under section 10121A of the Act, unless the person holding the product and the person on whose behalf the product is held are associates, or the product is held as part of the arrangements for securing obligations under a credit facility or debenture, as referred to in paragraph 7.1.40(d).

Item 5 - Conduct that does not constitute the provision of a custodial or depository service -regulation 7.1.40.

Regulation 7.1.40 provides that certain conduct will not constitute the provision of a custodial or depository service under subsection 766E(1) of the Act. Specifically, conduct that would otherwise constitute a custodial or depository service will not do so if:

•       the financial product held by the provider is a basic deposit product or an account established by a licensee for clients' money under subsection 981B(1) of the Act; or

•       the client is an associate of the provider; or

•       the provider and its associates have, in aggregate, no more than 20 clients to whom they provide custodial or depository services; or

•       the financial product is held as part of the arrangements for securing obligations under a credit facility or a debenture that is held as trustee under a trust deed entered into under section 283AA of the Act, or equivalent former provisions of the Corporations Law of a State or Territory; or

•       the provider participates in a licensed market and the financial product held is a derivative acquired on the market by the provider for the client; or

•       the provider participates in a licensed clearing and settlement facility and the financial product held is a derivative registered on the facility by the provider for the client; or

•       the financial product is held under an order of the Court.

The exception for financial products held under an order of the Court recognises that a Court order is not considered to be an arrangement to which subsection 766E(1) applies, and the Court will not be a client of the entity holding the financial products pursuant to the order. The exception will apply, for example, where a Court appoints a trustee to hold financial products on behalf of beneficiaries who do not have legal capacity.

More generally, whether or not a person is a client for the purposes of subsection 766E(1) will depend on the particular circumstances. For example, beneficiaries of a trust may, but will not necessarily, be clients under subsection 766E(1). In order to be a client for the purposes of the subsection, the person must have an arrangement with a provider, or must have an arrangement with another person, who in turn has an arrangement with the provider. Where a person is not a party to such an arrangement, then that person is not a client, and hence no custodial or depository service is provided to that person under subsection 766E(1).

This is likely to be the case where a beneficiary under a trust cannot be identified, as an unidentified beneficiary cannot be a party to an arrangement as contemplated by subsection 766E(1). Similarly, beneficiaries who lack legal capacity may not be clients under subsection 766E(1). However, the definition of arrangement in section 761A of the Act includes arrangements that are not legally enforceable. Thus, it is theoretically possible that a beneficiary lacking legal capacity may nevertheless be capable of being a party to an arrangement referred to in subsection 766E(1).

In order for subsection 766E(1) to apply, it is also necessary that financial products be held by the provider. Where participants on the Australian Stock Exchange 'sponsor' their client's holdings in the Clearing House Electronic Sub-register System, the sponsor does not hold financial products as contemplated by subsection 766E(1), and thus no custodial or depository service is provided.

Item 6 - Licensing exemption - paragraph 7.6.01(1)(fa).

Paragraph 7.6.01(1)(fa) provides an exemption from the requirement to hold an Australian Financial Services Licence (AFSL) where a person (person 1) who is outside Australia enters into an arrangement with an AFSL holder to provide a custodial or depository service to another person (person 2) and person 1 believes on reasonable grounds that person 2 is also outside Australia.

This licensing exemption will apply, for example, where an overseas global custodian enters into an arrangement under which a sub-custodian that is an AFSL holder provides safe custody of Australian assets that are financial products for overseas clients of the global custodian.

Items 7 and 8 - Exemption from the requirement to obtain an AFSL: general advice by issuers to licensees - paragraph 7.6.01(1)(s).

Many financial product issuers (such as general insurers) manage the distribution of their products only through intermediaries (such as insurance brokers). Therefore, the product issuer will have no direct contact with retail clients but will deal through a licensed intermediary.

A product issuer giving information to the licensed intermediary is likely to make recommendations that will constitute general advice. Under regulation 7.1.33B, this communication is not a financial service where advice is prepared by the product issuer and given to a licensee to pass on. However, normal practice is that the intermediary will not pass on information verbatim given by the product issuer (particularly where provided orally) to its client. More likely, the intermediary will merely take the information into account in dealing with the ultimate client.

It is not intended that providing general advice to a licensee in these circumstances will require licensing. That said, merely providing general advice to a licensee is not in itself a reason for a licensing exemption. Therefore, the general advice that a licensee receives from a product issuer must be advice that they as a licensee are also authorised to provide.

This regulation complements regulation 7.1.33B as it covers situations where the advice received from the issuer is not passed on to the licensee's client. There is no reduction in consumer protection as the information ultimately provided to a retail client will be through a licensed person.

Item 9 - Removal requirement to lodge notice of appointment of auditor - subregulation 7.8.15(lA).

Subsection 990B(6) of the Act requires a licensee to notify ASIC within 14 days of appointing an auditor. The form for lodging the notice with ASIC (FS06) attracts a fee of $30.

Auditor details may also be included in the initial licence application form to ASIC.

The subregulation removes the requirement to lodge an FS06 if the licensee has already provided auditor details in its original license application.

Item 10 - Obligation to give a Financial Services Guide for a custodial or depository service - regulation 10.2.48A.

Regulation 10.2.48A provides that a Financial Services Guide (FSG) does not have to be given by a person to a client in relation to a financial service provided under an arrangement entered into prior to FSR commencement, where that service would, following commencement of the FSR, constitute either: (i) a custodial or depository service; (ii) dealing in a financial product held under that custodial or depository service; or (iii) issuing to the client a financial product that is a beneficial interest in a financial product held under that custodial or depository service.

In order for this exception to the requirement to provide a FSG to apply, the arrangement under which the custodial or depository service is provided must continue unaltered after the person providing the service becomes subject to the FSG requirements in Part 7.7 of the Act.

An arrangement will be considered to be unaltered even if financial products are acquired or disposed of under the arrangement after Part 7.7 of the Act applies to the service provider, unless that acquisition or disposal is on the instruction of the client.

However, in the situation where the financial service constitutes dealing in a financial product held under the custodial or depository service, any issue of a financial product to a person other than the client will not receive the benefit of the exception.

The exception in regulation 10.2.48A may apply, for example, to trustees of trusts established pre-FSR. Provided the criteria set out in the regulation are met, such trustees will not need to give clients a FSG when the provisions of Part 7.7 of the Act begin to apply. In such cases, providing FSGs to existing clients would be of little benefit, as the trust arrangements have already been established.