On September 17, the Canadian Securities Administrators (CSA) published final rule amendments (Amendments) to National Instrument 81-105 Mutual Fund Sales Practices (NI 81-105) and certain other instruments to prohibit:
- The payment of trailing commissions by members of the organization of any publicly offered mutual fund (Fund Organizations) to participating dealers who do not make a suitability determination in connection with the client’s purchase and ownership of prospectus-qualified mutual fund securities (Payment Ban); and
- The solicitation or acceptance of trailing commissions by participating dealers from Fund Organizations in connection with the securities of a mutual fund held in the account of a client of a participating dealer if that dealer wasn’t required to make a suitability determination in respect of that client for those securities (Dealer Ban and, collectively with the Payment Ban, the Trailing Commission Bans).
The Trailing Commission Bans are expected to take effect on June 1, 2022 (Effective Date), which is also when the ban on deferred sales charges (DSCs) for investment funds (DSC Ban) is expected to take effect in all Canadian jurisdictions except Ontario (Participating Jurisdictions). Unlike the DSC Ban, which will apply only in the Participating Jurisdictions, the Trailing Commission Ban will take effect across Canada.
Changes to the Final Rules: In response to comments received on its September 2018 proposals (2018 Proposals), the CSA made a number of changes that it considers “non-material” to the final rule amendments, including the following:
- What’s a Suitability Determination? A definition of “suitability determination” has been added to NI 81-105 to specify where a suitability determination is required under securities legislation and/or the rules and policies of self-regulatory organizations (SROs).
- Ban on Dealers Clarified: In the 2018 Proposals, the prohibition on participating dealers accepting or soliciting certain types of trailing commissions came about indirectly through existing subsection 2.2(2) of NI 81-105, which permits a participating dealer to solicit and accept certain payments, benefits and reimbursements from a mutual fund organization if that organization is permitted to provide the payments or benefits. The Amendments make this prohibition explicit in new subsection 2.2(3).
- Knowledge Qualifier Added to Payment Ban: In response to the 2018 Proposals, some Fund Organizations stated that they sometimes do not know whether a suitability determination is required to be made in connection with a mutual fund purchase, for example because they use the same dealer code for multiple affiliated dealers, including full-service and order execution only (OEO) dealers. To address this situation, the Payment Ban in subsection 3.2(4) of NI 81-105 has been amended to clarify that it applies only if the Fund Organization knows or ought reasonably to know that the participating dealer is not required to make a suitability determination.
- Exemptions from Fund Facts and ETF Facts Delivery Requirements Added: National Instrument 41-101 Prospectus Requirements has been amended to exempt switches from a trailing commission-paying series or class of a mutual fund to a no-trailing commission series or class of the same fund in client accounts administered by dealers who are not required to make a suitability determination (Switch Exemptions).
Transitional Impacts: The notice accompanying the Amendments summarizes the potential impacts of the Trailing Commission Bans and outlines options for Fund Organizations and affected dealers to consider.
- DSC Holdings: As of the Effective Date, dealers who are not required to make a suitability determination may not accept trailing commissions for mutual fund securities purchased under the DSC option (DSC Holdings).
- As of the Effective Date, mutual fund securities subject to trailing commissions and not purchased under the DSC option must be switched to a no-trailing commission series or class of the same mutual fund, if the dealer who administers the client account was not required to make a suitability determination. If, however, the mutual fund does not have a no-trailing commission series or class, then other alternatives should be considered, such as transferring the holdings to a dealer required to make a suitability determination.
- Pre-authorized purchase plans that provide for the purchase of mutual fund securities subject to trailing commissions payable to dealers not required to make a suitability determination will have to be amended to switch over to the purchase of no-trailing commission mutual funds.
- Transfers from full-service to OEO accounts: The CSA expects OEO dealers to inform investors at or before the time of a proposed transfer of accounts that they cannot accept transfers of trailing commission-paying mutual fund securities, including DSC Holdings, into OEO accounts. The CSA also noted that DSC Holdings, which pay trailing fees and are subject to early redemption fees, should not be transferred to OEO dealers after the Effective Date.
Deadlines: The CSA expects the definition of “suitability determination” and the Switch Exemptions to take effect on December 31, 2020. The Trailing Commission Bans and other amendments are expected to take effect on June 1, 2022.
September 30, 2020