2019 Litigation Forecast - Culture and conduct core focus for financial service sector
Culture and conduct have been key themes of 2018, as regulators in the Financial Services sector were active across a range of focus areas. We predict continuing high levels of activity through 2019, with an emphasis on banking and insurance conduct and culture issues, responsible lending requirements, anti-money laundering enforcement and anti-bribery and corruption efforts.
Focus on banks’ and insurers’ conduct and culture
Intense scrutiny across the Tasman through the Australian Royal Commission into misconduct in the banking, superannuation and financial services industry, was echoed in New Zealand by the Financial Markets Authority (FMA) and Reserve Bank of New Zealand (RBNZ) review of the major banks and life insurers’ conduct and culture.
The misconduct that came to light in the Australian Royal Commission’s hearings, together with the Sedgwick report and the APRA Prudential Inquiry into the Commonwealth Bank of Australia, has already seen New Zealand banks and insurers introduce proactive changes to their sales targets, performance frameworks and incentives for front-line staff.
Key issues emerging
With the FMA and RBNZ having reported in early November 2018 on banks, and in January 2019 on life insurers, we expect banks and insurers to continue assessing their practices, ensuring they are aligned with emerging guidance from the Australian and New Zealand reviews – that is the need to place customer interests at the centre of business.
Increased proactive action from regulators
Heightened scrutiny by the regulators of conduct and culture issues through 2019 is expected, with proceedings taken when breaches are identified. The Australian Royal Commission was particularly critical of the absence of enforcement action by some Australian regulators, and their failure to prevent widespread breaches of existing laws. The likelihood of enforcement action, rather than ‘softer’ responses, has therefore increased – we expect New Zealand regulators will wish to avoid being tarred with the same brush.
Potential changes to regulatory frameworks
There is the prospect of changes to the regulatory framework in light of the regulators’ view that there is a gap in their mandates to regulate overall bank and insurer conduct – a number of options have been laid out by the FMA/RBNZ's Conduct and Culture Report for consideration by the Government. The government has indicated it is planning to release a consultation paper on proposed changes for the financial services sector by May, and introduce legislation in 2019.
“…we [the FMA/RBNZ] will be expecting to see much deeper accountability of boards, executives and senior managers. We will be looking for progress and clear evidence of change, and want to see this become part of the ethos of all banks in New Zealand.”
Disclosure of breaches will also remain a hot topic for banks. In particular, the Reserve Bank has been consulting on a new “Dashboard” approach to quarterly disclosure for locally incorporated banks. The Dashboard requires quarterly reporting in addition to the full year and half year disclosure statements. It is proposed that any breaches of conditions of registration will be published on the Dashboard. This is different to equivalent international jurisdictions. Concerns have been raised that this approach could create issues with the continuous disclosure rules for listed banks under the NZX Listing Rules and could over-simplify the information provided to customers.
The New Zealand Commerce Commission (NZCC) will continue its focus on responsible lending and the credit sector in 2019. In 2018, there were four warning letters and one judgment issued in consumer credit matters. The NZCC also began High Court proceedings against payday lender Ferratum New Zealand Limited under the Credit Contracts and Consumer Finance Act (CCCFA) over alleged breaches of responsible lending principles.
- In 2018, the Ministry of Business, Innovation and Employment (MBIE) sought public feedback on a review of New Zealand’s consumer credit regulation. As a result of this, changes to the CCCFA have been proposed to better protect vulnerable consumers from irresponsible lending. These include:
- an interest rate cap on high-cost loans, to stop debt spirals;
- more accountability for mobile traders;
- easier enforcement to ensure fees are reasonable;
- greater transparency and access to redress during debt collection;
- clear responsible lending requirements, to increase compliance; and
- tougher enforcement for breaking the law.
Also in 2018, Cabinet confirmed an amendment to section 99(1A) of the CCCFA, which currently provides that where lenders fail to disclose required information, borrowers are not liable to pay the cost of borrowing (interest and fees) for the period until compliant disclosure is made. The proposed amendment will give lenders the right (for a specified time following discovery of the breach) to seek relief from the courts from the presumption of forfeiture of 100 per cent of the cost of borrowing for the period between the date the amendment comes into force and the date the breach is discovered (and remedial disclosure provided). New legislation will be drafted to reflect the above proposals. MBIE has also signalled additional guidance on the Responsible Lending Code. We anticipate these changes will come into force in 2020 and the NZCC will continue to come down hard on lenders seen to take advantage of vulnerable consumers.
Greater enforcement of anti-money laundering
Considerable focus has been directed over the past year by the Department of Internal Affairs (DIA) as supervisor of the implementation of Phase 2 of the Anti-Money Laundering and Countering Financing of Terrorism Act 2009 (AML/CFT Act). This extended the compliance obligations to lawyers, conveyancers and accountants during 2018, with real estate agents, the NZ Racing Board and high value dealers to come under regulation in 2019. The message from DIA for these newly covered sectors is during the early ‘bedding in’ days, it will be focussed on a cooperative relationship with an “educative and proportionate approach” to compliance obligations. But there are signs of what will follow if these “Phase 2 entities” do not get their houses in order as expected in good time. Some of the first civil proceedings brought under the AML/CFT Act were in 2018, for entities in Phase 1.
“Conduct regulation is no longer a new concept in New Zealand’s financial services sector. All market participants should be fully aware of their licence conditions and/or other obligations under the legislation we oversee.”
|Civil proceedings brought under the AML/CFT Act|
The first defended hearing occurred under the AML/CFT Act, in relation to the sentencing of Qian DuoDuo Limited (QDD). The Court imposed a civil pecuniary penalty of $356,000 for the admitted breaches of compliance obligations by QDD, an Auckland business which specialised in foreign currency transactions and international money transfers. The breaches were in failing to properly undertake customer due diligence, account monitoring, record keeping and risk assessment. Notably, the DIA had sought a stiff penalty of $2.5m, out of a maximum available of $7m.
2018 saw the dismissal of a challenge to the September 2017 judgment against and penalties imposed on Ping An Finance and its director Xiaolan Xiao for breaches of compliance obligations including failures to conduct customer due diligence, keep records, and report suspicious transactions (which saw the company fined $5.3m). Mr Xiao was bankrupted by the DIA in relation to the unpaid costs award from the case.
The DIA’s prosecution of money remitter Jin Yuan Finance Limited for compliance breaches, filed in December 2017, is continuing through the court system at the date of writing. This follows a formal warning that had previously been issued to Jin Yuan.
IE Money Limited, an Auckland money-remitter and forex service provider, was issued a formal warning by the DIA for compliance failures. In commenting, the DIA noted that businesses are required to have robust processes in place to prevent money-laundering and that “when a financial institution continues to fail in meeting their obligations under the AML/CFT Act the Department can and will take action.”
As a sign of things to come, the DIA’s resource to undertake action is expanding, with its AML/CFT team planned to increase from 17 staff based in Wellington and Auckland as at June 2018 to a target of 56 full-time staff with a broader geographical focus.
The FMA has also signalled AML/CFT is one of five areas where it is expecting significant investigation and enforcement activity in 2019.
It is clear that Phase 1 entities are now expected to be fully compliant with their AML/CFT obligations, and warnings and prosecutions (particularly if remedial action is not taken where required) are likely to follow where they are found lacking.
The Chief Executive of the FMA stated in the FMA’s Annual Corporate Plan for 2018/19 that “we are becoming less tolerant of a lack of attention by firms and individuals” now that key parts of the regime have become more embedded. This is unsurprising given the forthcoming evaluation of New Zealand’s AML/CFT policies and practices by the Financial Action Task Force in 2019-20.
Expect AML/CFT compliance to be a continued high priority for each of the supervisors in the coming year.
Anti-bribery and corruption
The last year continued to see action by the Serious Fraud Office (SFO) and others regarding bribery and corruption offences. The SFO reports that the number of bribery and corruption-related complaints and investigations has risen over the last decade, evidenced in 2018 by enforcement activity which included:
- The prosecution of a bank employee for facilitating bank loans for bribes (as part of a wider fraud) – resulting in a prison sentence of 4 years and 9 months for the bank employee, and 6 years prison for a solicitor who facilitated the bribe payments. The person who made the payment pleaded guilty and was sentenced to 9 months prison for a breach of the Secret Commissions Act.
- The prosecution of an asset manager who had obtained secret kickbacks for sending a disability trust’s motor vehicle repairs business to a supplier, and for withdrawing public submissions lodged on behalf of his employer at another trust (without his employer’s knowledge) – resulting in home detention and reparation orders for both the asset manager and supplier.
- Charges brought against several people by Police following a joint investigation with the New Zealand Transport Agency in relation to bribes being paid for drivers’ licences. One man was sentenced to 11 months home detention.
Expect the focus on corruption to continue. The SFO’s view is that “the risk of corruption is increasing and may be more pervasive than is generally acknowledged”, even if comparatively New Zealand has low numbers of reported corruption cases. To prevent and deter corruption, key government agencies including the SFO and Ministry of Justice have established an Anti-Corruption Work Programme (ACWP), with the objectives of:
- understanding New Zealand’s corruption landscape and vulnerabilities;
- understanding New Zealand’s corruption landscape and vulnerabilities;
- proactively detecting, disrupting and enforcing laws against corrupt conduct; and
- reforming New Zealand’s corruption offence framework.
With the ACWP endorsed by Cabinet, we predict continuing prosecutions for private and public sector corruption, and the prospect of revision of the somewhat archaic Secret Commissions Act 1910 offences (used primarily for private sector corruption) and/or Crimes Act 1961 public sector corruption offences. The question will be whether there are further ‘tweaks’ made to the Crimes Act (as occurred in 2017), or a more substantial overhaul of the private and public sector corruption offences.