As the June 30th deadline for the “part one” of the Client Focused Reforms passes us in the rear-view window and we go and enjoy our long weekend, we wanted to highlight some high-level considerations for “part two”. This “part two” mainly deals with the KYC/KYP and suitability requirements and changes to comply with the requirements must be made by December 31, 2021. The following are some high-level points/reminders for you to consider as we work towards that December deadline.
- Don’t Wait Until the Fall
Depending on your business model, “part two” may require some thoughtful planning and advance work. The earlier you start in mapping out how your firm will deal with the KYC/KYP and suitability requirements, the less stress you and your team may feel when the leaves start to change colour.
- Know Your Product – Documentation is King
At a high level, there will be an expectation that prior to investing in any position on behalf of a client, your firm will have completed documented due diligence on that investment. This due diligence documentation should include relevant structure, features, risks, initial and ongoing costs. The level of detail of your due diligence may vary depending on the nature of the product and your business model. Your firm will also have to monitor each investment product for significant changes. When significant changes in the investment product do occur, your firm may need to update your due diligence record. Your firm should be exploring or developing tools to ensure a due diligence standard is followed across your company.
- KYC – Knowing (more about) Your Client
You will need to have an updated KYC document ready for December 31, 2021. Each KYC document can be tailored based on the business model of your firm. You will also need to be able to evidence that your client has agreed that the collected KYC information is accurate (e.g. through the client signing the KYC form or a registered individual’s notes capturing the client interaction). Some items that may be changing on your KYC form include:
- Outside Investment Information:
Certain business models may need to start asking clients about investments the client holds outside of your firm to create a better understanding of a client’s financial circumstances. This outside investment information gathering could be expected to be heightened for discretionary investment managers. Additionally, it could be expected where your firm may need to assess whether a proposed investment would lead to over-concentration in a security or sector.
- Risk Capacity:
In addition to asking what your client’s risk tolerance is, as your firm likely has been doing for years, your firm will now be expected to professionally assess the client’s risk capacity. Put another way, risk tolerance speaks to the client’s preference for risk. Risk capacity is your firm’s assessment of how much risk a client should take on. Where there is a mismatch between a client’s risk tolerance and your firm’s risk capacity assessment, the client’s preference can prevail but only after you have a detailed and documented conversation with the client explaining your thought process and exploring alternative investment approaches.
- KYC Updates:
The new rules specify minimum intervals when a client’s KYC information must be reviewed:
- 12 months for managed accounts;
- 12 months before making a trade or recommendation for exempt market dealers; and
- 36 months for other cases.
- Suitability – Documentation is King (Part 2):
Prior to taking any investment action on behalf of a client, your firm will need to document that this action is suitable for the client. In determining suitability, you will need to consider and assess the client’s KYC information, a reasonable range of alternatives available through your firm and the potential impact the investment action will have on the client. Please note that the inclusion of the language “of a reasonable range of alternatives available through your firm” dovetails with the need to have a standardized due diligence process throughout your firm as each registered individual will need to understand all products on your firm’s “shelf”.
Our experience thus far is that there are practical approaches and tailored solutions for each of the new “part 2” requirements. If you have any questions, please feel free to reach out to your usual lawyer at AUM Law.
June 30, 2021