Show me the money

Show me the money

The Financial Services and Markets Bill is currently making its way through Parliament.

Soon, law firms may be regulated by the Financial Services Authority, and the prospect of firms having to separate their investment business from other areas looms.

We take a look at the changes taking place

Solicitors who offer financial services are optimistic about the future of their work, as Bibi Berki discoversIt has a fan base of hundreds.

Its advocates style themselves as pioneers and it is spoken about with nothing less than a burning passion.We are talking solicitor-based financial and investment services, and its followers make up perhaps the most enthusiastic arm of the legal profession.Even with the shadow of regulation by the Financial Services Authority (FSA) looming over them, solicitors involved in financial and investment advice are buoyant.

And this despite the fact that they make up only 3% of the entire legalprofession in England and Wales.'It's a hell of a lot more fun than law,' Ian Muirhead, managing director of Solicitors for Independent Financial Advice (SIFA), offers as an explanation for his and his colleagues' zeal.

'It involves making money for the client and following through the benefits of the legal advice given by the firm.'For such a small slice of the legal cake, solicitor financial advice and investment management is complicated and compartmentalised.SIFA, which has 229 members, oversees solicitor independent financial advisers (IFAs) who advise clients on financial packages, such as unit trusts and pensions.

Then there is the Association of Solicitor Investment Managers (ASIM), whose 77 members handle securities for clients asin-house stock brokers.

In addition, Solicitors Financial Services, a subsidiary of the Law Society, enables solicitors to refer financial advice to authorised non-solicitors.In the not-too-distant future, probably 2002, both SIFA and ASIM members will no longer be regulated by the Law Society but by the FSA, along with other professionals who give financial advice or handle financial affairs.

Although some experts in the field predict that the new regime will put prospective investment managers and solicitor IFAs off, the truth remains that few law firms have got involved in the field anyway.Mr Muirhead says this is down to the fact that the Law Society has only recently supported this line of work and because 'English solicitors are pretty reactionary.

They are not receptive to new ideas.

They are slow off the mark'.

Those that do venture into the arena are handsomely rewarded with additional income flow (around 130,000 a year per solicitor IFA) and a long-term tie-in with the client, he says.That is not to say that numbers are not growing.

Mr Muirhead started SIFA eight years ago with 30 members.

He sees the future as one of great opportunity for his members.

Trusts work, pension splitting and structured settlements are just three areas where he sees solicitor IFAs flourishing.

He also considers the Financial Services and Markets Bill, which ushers in FSA regulation, to be a bonus, as it opens the way for non-solicitor IFAs to join law firms - provided that multi-disciplinary practices are eventually allowed.Talk of the Financial Services and Markets Bill somewhat takes the edge off the enthusiasm of ASIM members, however.

For them, FSA regulation could bring with it several serious problems.

Tim Thornton Jones set up the investmentmanagement department at City firm Lawrence Graham, where he is a tax partner, six years ago and is currently vice-chairman of ASIM and a member of the Law Society's financial services working party.He says firms wanting to create an investment arm during the transitional period between Law Society and FSA regulation could have to wait six months until they can begin their business.

The main problem, however, would be with capital adequacy.

IFAs selling life policies, pensions and so on would have to have 13 weeks' worth ofoverheads sitting in a bank account, so that the sum could be used as a security in case thepractice went under.Mr Thornton Jones says for law firms, this 13 weeks of overheads would be based on their entire turnover, not just the financial services department's.

'There's huge pressure on us to separate our investment business off into aseparate company,' he says.

Most accountants have already got to grips with this issue bycreating subsidiaries, he adds.Law firms will be hit the worst, Mr Thornton Jones predicts.

'They have large problems as far as the clients of firms such as ours are concerned.

They like the one-stop approach.

They like the fact that they can have their wills and trusts and investments done under one roof.

The costs of having to separate your investment business off into a separate company are particularly colossal.'I hope at the end of the day we will have a smooth transition from one system to another.

But what I think it will end up doing is costing the clients more because there are going to be increased overheads simply because the costs of compliance are going to be hugely increased.'Lawrence Graham is one of ASIM's largest members, managing funds of around 150 million.

The biggest is Thesis Asset Management, which is wholly owned by the partners of south east firm Thomas Eggar Church Adams and whose managed funds are worth 486 million.

In total, ASIM members manage 3 billion on behalf of their clients.Many solicitors say they turned to investment management because they were unhappy with the level of service provided by independent stock brokers.

ASIM stresses that its members have no rivals when it comes to protecting their clients.

It says that while stockbrokers are nudging towards charging fees, this method of charging is nothing new to solicitors and most of them will charge a fee rather than get a commission.David Lough, a director of ASIM, says solicitors have been 'going at it seriously' in the investment management arena for more than ten years.

He says: 'Where it's worked out, it's had a positive impact on firms, not just as part of the practice; it has rebounded back to strengthen the firm.'What we have discovered is that there is a real demand in the market for this integrated offer of combined legal and investment services,' adds Mr Lough, who set up the investment arm of Cripps Harries Hall in Tunbridge Wells in 1988.

It now has around 50 people working there and handles funds of 350 million.

'Unfortunately, the regulators don't see it that way and are making it much more difficult to offer an integrated service because they are putting up barriers.'He says ASIM has spent the past two years putting its side to the FSA about the imminent changes.

'We have always had a very courteous hearing from the FSA.

Where we failed to get our points across has been at the Treasury level.'Whatever the prognosis for the future of solicitor IFAs and investment managers, the present is, according to them, perfectly healthy.

But not everyone sees it that way.

This time last year, Gareth Fatchett, a partner in the tax and financial services practice Armstrong Neal, bemoaned the fact that most solicitors who were qualified to give financial services advice were in their 40s and 50s.

Writing in the Gazette, he said that only nine people younger than 30 held qualified person status, and only one person under 30 was qualified to give advice on corporate pensions and advanced schemes.

The figures showed, he said, that 'lawyers are not equipped to grasp an area of work which should naturally sit comfortably with the profession'.Outside the small world of solicitor financial and investment matters, there are many professionals who say things should be left to them.

Independent financial adviser Thomson's Financial Planning is targeting the legal profession with a series of seminars about the newregulations regime.Douglas Gardner, chief executive of Thomson's, says capital adequacy requirements mean that those in the financial advice and investment field will need to have a healthy balance sheet.

'Most lawyers and accountants work on overdrafts,' he points out.

'It's the standard way.

In the financial services market, you can't do that.

You have to have the money up front.'The answer? Unsurprisingly, Mr Gardner says solicitors should outsource their financialservices requirements to the independentcompanies.

'We'll take on the risks,' he says, adding that he sees no point in law firms setting up financial services arms at all.

Try telling this to a firm, like Thrings & Long in Bath, which has just gone to the trouble ofsetting up an investment operation and is ready to expand it further.'At the end of the day, it's the client's choice.

All we're doing is offering another option for a client.

Sure they can go to an independent financial adviser, but some clients don't want to do that.

They are happy to have it all under one roof,' says Adrian Cantwell, senior investment manager at Thrings & Long.Mr Cantwell, who managed funds in Hong Kong for subsidiaries of Gartmore, Barings and ABN Amro before returning to the UK toconcentrate on private client work, describes his role in the law firm as an 'unusual beast within the partnership'.'In some respects, that's very good.

You are the expert,' notes Mr Cantwell.

'But in other respects, it does mean there is an element of having to build up trust.

My hardest clients are my own partners.

I've got to persuade them to introduce me to their clients.'As for the future and a new regulator, he predicts that the smaller practitioners handling financial work may be the losers.

Under the new regime, a smaller practitioner may not be qualified to give information and advice, he says.'Therefore, he would have to turn that client away completely.

That client walks down the road to somebody who does have a qualified person who does have the service to offer,' he says.

Where one loses out, the other benefits.

In the end, solicitor financial advisers and investment managers know they are on to a good thing.

It seems that their toughest test is still persuading their fellow lawyers of just how good a thing it is.Financial Services Authority regulation will soon cover law firms' investment work.

Jon Robins asks whether hiving off will resultThis month, two leading law firms in the world of financial services - Maidstone-based Brachers and Wilsons in Salisbury - took the plunge and announced that they will set up their owninvestment management company called Ashcourt Asset Management.They are the first firms to have separated their investment business from the rest of their work in direct anticipation of life under the new regulatory regime of the Financial Services Authority (FSA).

Firms doingmainstream investment work - formerly known as discrete investment business - fear that the new watchdog will call for heavy capital requirements, as well as holding all partners liable for any regulatory slip-ups.

Consequently, partners will be looking at their financial servicecolleagues and asking if they are really worth it.It is an anxious time for solicitor financial advisers at the 300-odd firms offering mainstream advice and, no doubt, they will be trying to figure out whether the two firms are blazing a trail or jumping too soon.

Unsurprisingly, John Morton, the chief executive of Ashcourt and chair of the Association of Solicitor Investment Managers (ASIM), has no doubts.

He predicts that many firms will be following their 'ground-breaking move'.'The formation of Ashcourt is a significant development for both the legal profession and the investment management industry,' he claims.

The new company has more than 150 million of funds under management and employs 23 people.Last month, the Law Society Council ruled that it would grant temporary waivers to the Solicitors Separate Business Code in an initiative to make life easier for those firms wanting to hive off.

Alison Crawley, the Society's head of professional ethics, wants to be clear about the move though.

She stresses that the Society is in no way encouraging firms to hive off.

'Firms have got to take their own individual view on that,' she says.Examples of the type of conditions that a practice might relax include the requirement that firms have to make a 'distinct separation' between the legal and finance work, which can mean costly renovations or even moving to a new building.

It might also relax the ban on newbusinesses using a name connected with the law firm.

There is to be no 'standard waiver' and firms are invited to request what they consider to be appropriate.

However, waivers only last until the Societycompletes a review of its rules.

Ms Crawley points out that the view is that the temporary waiver rule will be formalised.There is still considerable doubt as to the nature of life under the FSA, not least as to the nature of the investment activities that will fall under its ambit.

'It's ridiculous,' Ms Crawley says.

'A lot of firms are waiting and keeping theirfingers crossed that they can always take a view later.'When John Morton spoke to the Gazette six months ago, it seemed that nothing could befurther from his mind than hiving off (see [1999] Gazette, 3 November, 34).

It was not only'wholly and fundamentally wrong' but also a'disservice to the client', he said.Priorities have changed over the last few months.

He explains that the decision to hive off was a logical progression once the firms decided that it was 'politically not possible' to merge the investment departments of the two firms.

That decided, he reckons that there was 'little choice but to go the whole hog' and set up under the Investment Management Regulatory Organisation (IMRO), which will be taken over by the FSA when it comes into being.'One of the thoughts behind hiving off now was that, with the best will in the world, the newregulation is more likely to be akin to IMRO than the Law Society,' he says.

'So we might as well start learning to live under the regime now to make the transition easier when it comes.'But he also warns that the process was far from easy.

It was time-consuming, expensive and put a lot of pressure on all those involved.

'I don't think it is the right thing for every firm to do, but I do think big firms with substantial funds under management do need to give it very seriousconsideration,' he says.

ASIM estimates that the cost of regulation could be as high as 75,000 a year for some of its members.

Mr Morton says that the Law Society's waiver is a 'major leap forward' and adds that it is 'virtually everything we could have asked for'.As the deadline for the introduction of the super-regulator looms ever closer, there has been a greater acceptance of change whether the firms like it or not.

Six months ago, John Eaton, a partner at Leeds firms Lupton Fawcett, was just as vociferous as Mr Morton in his opposition to hiving off.

'Extremely retrograde' and of no help to anyone, was his view.Over the last six months his apprehension about the future has only grown.

He says that the rationale which underpins the Financial Services and Markets Bill runs against the grain of current government thinking which favours competition and a level regulatory field.But the client loses out as well, he argues.

'The whole advantage of solicitors giving financial advice is a recognition of the synergy of legal and financial work,' he says.

And clients appreciate that solicitors are able to deal with all their needs under one roof.

He would only sign up to a hive off as a last choice.'Don't panic' is the advice of Ian Muirhead, managing director of the Solicitors for Independent Financial Advice (SIFA).

The FSA will hit those firms with securities businesses far harder than it will typical SIFA firms dealing in packaged products.He argues that the majority of SIFA members will not have to comply with the expected capital adequacy rules - requiring a minimum level of cash to be held by a firm - but no such comfort has been offered to firms with securities business.

He also reckons that the burden of compliance for most members will be nothing like the 75,000 estimated by ASIM.

'If it's a quarter of that, I would be surprised,' he says.According to Mr Muirhead, the FSA has quite rightly identified investment management work as high risk.

Most financial advisers in a law firm sit with a solicitor, for example, advising the divorcing client what to do about their policies.

By contrast, someone involved in portfoliomanagement is doing the work of a stock broker.According to Mr Muirhead, talk of hiving off is somewhat premature, as the FSA has yet to give its definitive word on the rules.

But he cites Edinburgh-based private client law firm Murray Beith Murray as an example of the way firms might go.

That firm has hived off its securities business but kept its package products workin-house.Far from being subdued, he is optimistic about the future of solicitor financial advisers.

He says the combination of the Law Society's approval last year for the principle of multi-disciplinary partnerships and the prospect of firms being allowed to specialise solely in financial services under the FSA is good news for SIFA's members.But Mr Muirhead is also an advocate for keeping financial and legal advice together under the one roof.

'What makes sense from a businessperspective makes sense from a client's perspective,' he says.

'And from the client's perspective, the overriding importance is to be able to provide complementary advice as an integral basis [of the firm]'.

His message is blunt.

Any 'artificial separation' of activities in the law firm is bad for the client.

'The ideal business situation iscomplete integration,' he maintains.The Financial Services and Markets Bill means firms must consider their position.

Alison Crawley looks into the issuesThe Financial Services and Markets Bill is slowly making its way through Parliament.

Once theprimary legislation is made, there is much detail to be settled in secondary legislation.

The Financial Services Authority (FSA) has now issued nearly 50 consultation papers on different aspects of the future regulatory framework for financial services.

A clearer picture of the future for solicitors' firms is gradually emerging, although there is still much uncertainty.

The Act will come into force on a date referred to as 'N2'.

At present, it seems that N2 might be in the early part of 2001, but it is too early topredict with certainty.Even given current uncertainties, now is a good time to begin to consider what life might be like under the future regime and whether firms need to make adjustments in the way they work.The good news for non-discrete investment business (non-DIB) firms is that since the government announced that the FSA will be the single regulator for financial services (as a result of which the Law Society will cease to be a recognised professional body), the Society'spolicy has been clear.

The vast majority ofsolicitors' firms provide only non-discrete investment business and such firms should not beregulated by the FSA.

Dual regulation of these firms would be unnecessary and disproportionate, given that Law Society regulation provides sufficient (and, in some cases, better) clientprotection.

Dual regulation would only increase costs and cause confusion.After lobbying by the Society and other professions, the Treasury said it would provide an exemption for certain incidental activities undertaken by professional firms (now clauses 320 to 328 of the Bill).

The intention, broadly, is to allow professional firms to continue to provide essentially what are now non-DIB services without having to be authorised by the Financial Services Authority.

However, life under the new regime will not be exactly the same as it is now.

In future, it will be essential for all firms to know what they can safely do within the security of the exemption.

Stepping outside that security in the future could lead to criminal liability and the possible unenforceability of transactions.Broad outlineThe legislation is likely to follow the basic tests that firms should already be familiar with.

In order to assess whether a particular service is affected by the current financial services framework, solicitors who are now authorised to conduct investment business should ask the following questions:X Is this an investment under the legislation?X What am I doing with this investment? Is it an activity which is regulated by legislation? X If the answers to the first two questions are yes, is there any exclusion available, meaning that the activity is not regulated at all?X If no exclusion is available, is this discrete investment business (in which case, I cannot do it unless I have the proper qualifications) or is it non-DIB (in which case I can do it)?In future, the first three questions will still be relevant, but depend on the provisions of secondary legislation, the regulated activities order (RAO).

A first draft of this order was published in February 1999, but the next draft is unlikely to be available until after the Bill has completed its passage through Parliament.

This means there is still much uncertainty about what firms will be able to do without FSA authorisation.However, it is unlikely that the exclusions in the RAO alone will allow firms to provide a proper service to clients and avoid FSA authorisation, which is why the new exemption is so important.The future regime gives two options.

First, if firms want to do mainstream discrete investment business (DIB) in future, they will have to be regulated directly by the FSA, as well as by the Law Society.

Such firms should find out more about how the FSA is proposing to regulate.

Secondly, firms can ensure they remain outside FSA regulation by avoiding providing any services that will bring them into FSA regulation.

In some areas of legal work, this will mean paying close attention to only providingservices which are excluded from the ambit of regulation, and/or to stay safely within the boundaries of the new exemption.The new exemptionIf firms currently only offer non-DIB services and want to avoid regulation by the FSA in the future, they will want to be able to take advantage of this new exemption.

It is a helpful development but there is a sting in the tail.Stepping outside the terms of the exemption, as currently drafted, will mean that firms will have provided a regulated activity without authorisation - both a criminal offence and something which might make any transaction entered into unenforceable.

Under thecurrent regime, stepping outside non-DIB amounts to a rule breach, but is not a crime.The conditions of the exemption are:X The Law Society will have to become a designated professional body (by order of the Treasury and subject to oversight by the FSA);X Solicitors who comply with the following conditions will be providing exempt regulated activities, and will not have to be authorised by the FSA:X they will not be able to receive and keep any commission from a third party (this will not prevent them passing such commission to the client or setting the commission off against their bill);X the service must be incidental to the provision of professional services (mirrors current requirements for non-DIB);X they must not carry on or hold themselves out as carrying on any other regulated activity;X the activities must not include activities specified in an order by the Treasury (likely toidentify certain high-risk products such as life policies); andX the exempt regulated activity must be the only regulated activity which is carried on by the solicitor.As a further limitation on the exemption, the Law Society, as a designated professional body, will have to comply with a statutory duty to have rules which are 'designed to secure that in providing a particular professional service to a particular client, the member carries on only regulated activities which arise out of, or are complementary to, the provision by him of that service to the client' (Clause 323).Again, by and large, this reflects current non-DIB requirements.

But firms and their staff must understand which services are safe to provide within the exemption and which are not.

The key difference for the new regime is the sting in the tail referred to earlier.

The Law Society has a clear responsibility here to draft this 'scope' rule with clarity and give guidance to ensure that firms can stay on the right side of the line.

The Society is likely to consider basing the rules on current rules which define non-DIB.Other limits can be made by Treasury order.

The Treasury is concerned that even incidental advice in relation to certain high-risk products such as life assurance should be excluded from the ambit of the exemption.

There is a particular difficulty here for family lawyers who often have to dispose of life policies.

It will be possible to do this through an authorised third party, although the Law Society is aware that in some cases, particularly legal aid cases, it is difficult in practice to find an authorised third party who is willing to assist without payment.

It is not always possible to have the expenditure authorised by the Legal Services Commission.

The Law Society will bediscussing these issues with family law specialists, as they in particular may be affected by the new regime.There is still much more work to be done before solicitors will know how much they might have to change the way they provide some services to clients.

However, timescales are tight, and although the Law Society will consult as much as possible with practitioner groups, it may bedifficult to give much time for consultation.

Solicitors with any particular areas of concern in the future, should write to Jackie Corcoran at the Law Society.Alison Crawley is head of professional ethics at the Law Society

Filling A gap in the market

It is an old adage that if you want a successful business, find a gap in the market, writes Sue Allen.

Armstrong Neal, which set up a year ago to specialise in financial services and tax, seems to have taken the adage and turned it to its advantage.The firm was founded by tax specialist Alan Neal, who left Worcestershire-based law firm Morton Fisher after 21 years as a partner and head of its tax department, and Gareth Fatchett, an associate and head of financial services at the same firm.According to Mr Neal, the decision to leave his old firm was based on his belief that a niche financial services and tax planning practice could be expanded and made profitable: 'My firm was not prepared to take the risks or put in the resources, and I was not prepared to stay stuck in a rut.'Over the last 12 months, the firm has expanded its client base from around 250 clients to more than 500, it is taking on new staff and has managed to place more than 10 million off-shore.

The firm is also a hot-bed of ideas that are vigorously marketed.

Barely a week goes by when Mr Fatchett does not pop up in one financial services trade magazine or another.According to Mr Fatchett, the firm's marketing strategy document was almost the same size as its business plan.

Most firms spend about 1% of turnover on marketing, but Armstrong Neal spends around 10% to 15%.

'When we set out a marketing strategy, it was to develop a brand to make sure that when people thought about financial services, they thought about Armstrong Neal, not the other way round,' he says.He adds that one of the advantages of being a niche practice is that the firm can also market itself to other law firms and accountants 'because we are not going to poach their clients'.

Around 50% to 60% of the firm's work now comes from other professional firms, he says.The firm's new and innovative business ideas are used not just to make money, but to build the firm's profile and make its own news, says Mr Fatchett.

The firm has already launched the profile-raising ProAct, a training company for solicitor independent financial advisers (IFAs) and other financial advisers.The firm also hit the financial services press again when it took on the might of one of the biggest IFA networks and won when it secured abetter deal for the network's 300 member firms.This month, Armstrong Neal is planning the launch of an on-line estate agency service (see [2000] Gazette, 16 March,1).

It is also in the process of developing a second on-line service to help family solicitors deal withpension-splitting, which will become possible late this year.Although many general practice firms with financial services departments might find themselves having to hive off when the Financial Services Authority takes over regulation from the Law Society, Armstrong Neal will be fine because it is effectively already hived off, Mr Fatchett says.

'What really satisfies me is that in one year we have put over 10 million off-shore for clients and are now instructed on off-shore work in the Cayman Islands, which means we are out there every four months or so,' Mr Fatchett says.

'Not bad for a small firm from Halesowen.'