FMA indicates greater enforcement ahead for 2023; a reminder of recent FMA warnings and guidance in the “eligible investor” space
Keynote speeches from the recent Financial Services Council Outlook, 25 January 2023 from the FMA make an interesting read. Of particular interest to some are the themes for the FMA’s enforcement and regulatory response for the year ahead. The FMA notes that it is business as usual with its enforcement regime: that is, it continues to be outcomes focussed and take a balanced approach. What will be changing is a focus on more effective, efficient intervention. In the enforcement space, this means the FMA is willing to take enforcement action, even in cases where the FMA may not “win”. Instead of a win or a lose focus, the FMA is willing to take regulatory action and be challenged, as the outcome may still be of value. Enforcement decisions result in clarification of the law for the FMA and market participants, enforcement can highlight issues and have ripple-effect benefits – leading to changes in consumer behaviour, changes in industry practice and increasing public dialogue and knowledge. Our take on the speech is that the market should expect a more active regulatory response and a greater willingness to take enforcement action than in the past. All businesses offering investment products should ensure that they are fully compliant with their legal obligations. If in doubt on an issue, we recommend you seek early advice. A full copy of the speech can be found here: Paul Gregory, speaks at the Financial Services Council Outlook 2023 on January 25 | Financial Markets Authority (fma.govt.nz).
FMA Review and Guidance on Eligible Investors: Issues to Watch
In recent years, there has been an increase in businesses raising capital from wholesale investors, particularly from wholesale “eligible investors”. Investment companies have widely advertised wholesale offers with high rates of return, reaching a wide market using channels including social media. The Financial Markets Authority (FMA) has been concerned about this sector for some time, and undertook a review of wholesale offers, particularly in property syndication, which focussed on the use of the eligible investor category. In October 2022 the FMA published its findings and issued guidance on wholesale investment offers. This is an important read for investment companies and professional advisors who are asked to confirm eligible investor certificates (see: Thematic review of use of the wholesale investor exclusion | Financial Markets Authority (fma.govt.nz)).
What is an eligible investor?
An eligible investor is a sub-category of wholesale investor under the Financial Markets Conduct Act (FMCA). Offers of financial products to wholesale investors do not need to comply with the significant disclosure requirements under the FMCA. The rationale for the exception is that wholesale investors have sufficient investment experience so do not need the FMCA protections that retail investors need.
To qualify as an eligible investor, a person must self certify in writing that they have previous experience in acquiring and disposing of financial products which allows them to assess the merits of the investment on offer, and state the grounds for their certification. Additionally, an accountant, financial advisor or lawyer must sign a written confirmation of the investor’s certification.
FMA findings and guidance
The FMA found a number of undesirable practices in this industry, including around advertising and defective eligible investor certificates and issued formal warnings to several property investment companies. Now that it has issued guidance, the FMA expects a higher level of compliance in this space.
Obligations on the offeror
The eligible investor exemption is a self-certification regime which requires the investor to provide grounds that support the investor’s certification. The grounds must show a connection between the investor’s prior experience and the investment on offer.
One of the concerns raised by the FMA is that this aspect is overlooked. For example, offerors have accepted certificates that list investing in shares or real estate, sale of farms, owning rental properties, investing in term deposits/KiwiSaver as grounds for certification.
These grounds will usually be insufficient, as they do not enable the investor to assess the merits of the investment on offer (which is likely to involve a different financial product, with a different risk profile).
FMA has confirmed that the onus is on the offeror to ensure the experience the investor has disclosed in its certification is relevant to the investment on offer. Where the stated experience is not relevant, the certification is ineligible. The FMA now expects the offeror’s documentation to allow investors to describe the grounds for their certification themselves, rather than relying on pre-populated forms with tick box options, for example.
Where an offeror relies on an ineligible investor certificate, there will be an offer of financial products to a retail investor without the required disclosures under Part 3 of the FMCA. Civil or criminal liability can arise.
Obligations on professional advisors confirming eligible investor certifications
Lawyers, accountants or financial advisors must not confirm an eligible investor certificate where the investor’s certification does not contain relevant or otherwise sufficient grounds of experience. Where insufficient or irrelevant grounds are included, the professional advisor will need to further investigate the investor’s previous experience.
The FMA has reminded advisors that non compliance with this obligation can incur civil liability, and stated that if it becomes aware of a professional advisor confirming a certificate without sufficient grounds, the FMA will consider referring this to the relevant professional body or investigating this itself (in the case of financial advisors).
The FMA has flagged concerns about how wholesale investment opportunities are advertised. In recent years, advertising has been targeted outside of the traditional wholesale investor market. One of the main drivers of this has been capital raising by property developers. The growth of this market has seen advertising platforms such as Facebook, Instagram, YouTube, LinkedIn, newspapers (print and online), billboards and radio, commonly advertising 10% returns, implying little risk. This contrasts with the traditional advertising methods, such as direct approaches to institutional investors, high-net-worth individuals and individuals with existing relationships with market participants.
The FMA’s guidance is for offerors to ensure that the overall impression of advertising is not misleading or deceptive. Extra care is required to ensure this when using mainstream advertising channels. Additionally, advertising should make it clear the offer is only open to “wholesale investors” and the term “eligible investor” should not be used. It can create confusion, suggesting this is a different class of investor to the FMCA wholesale investor category.
Given the FMA has issued seven warnings to property investment firms using non-compliant eligible investor certificates, everyone in this sector should be on notice that the FMA is actively monitoring this area. All offerors in this space, regardless of whether they are property developers, should review their systems to ensure compliance with FMA expectations. Seeking legal advice on the processes around accepting wholesale investors could highlight any risks and allow offerors to mitigate them before they become subject to FMA action.
If you would like advice on whether you meet the eligible investor category, or whether your organisation is complying with its FMCA obligations, please get in touch with one of the team here at Tavendale and Partners for a discussion around the rules.