Uncomfortable legal precedent for planners

A technical issue which prompted collapsed dealer group Australian Financial Services (AFS) not to establish a trust account via which it could remunerate authorised representatives (ARs) has ended up denying those ARs their share of the nearly $2 million held in the so-called “brokerage account”.  

This is because as a strict matter of legal interpretation rather than the acknowledged practice of the dealer group, the account was not a 'trust account’ holding moneys on trust for the authorised representatives but, rather, an asset of AFS.  

This means that the National Australia Bank as the primary secured creditor of AFS will have first call on the money held in the account, with the authorised representatives being treated as unsecured creditors.  

This was the upshot of a Federal Court judgement earlier this month dealing with the status of the AFS brokerage account, with the lawyers representing the authorised representatives making clear that as a point of law, the judgement is not capable of challenge.  

However, the outcome has prompted the Association of Financial Advisers (AFA) and others to argue that all authorised representatives should now ask their dealer groups to review the status of their 'brokerage’ accounts to ensure they will not be similarly affected.  

Evidence presented to the Federal Court as part of the argument around the status of the brokerage account revealed that “a formal trust account was not opened because, when Australian Financial Services originally obtained its AFS licence, opening a trust account would have caused some problem under the AFS licence”.  

The legal advice obtained by the authorised representatives in the wake of the Federal Court decision was that as the account had not been formally set up as a trust account and was not called a trust account, it had been necessary for the former advisers to establish that, despite this, it was always intended to operate as a trust account.  

Noting that the court had to decide matters on the evidence before it, the legal analysis said there were a number of affidavits where advisers and former officers of the company had signed depositions that they believed “the account was like a trust account”.  

But it noted that there was evidence that was inconsistent with the money being held on trust. In particular:  

* Most of the money paid into the account came from product providers. The agreements between the product providers and AFS typically said that the money was income of AFS for distribution services;  

* The funds in the brokerage account were mixed with other funds;  

* The amount in the account was included in the AFS balance sheet as an asset;  

* AFS paid income tax on the money and the amounts paid out to advisers were treated as a tax deduction; and  

* The authorised representative agreements were ambiguous about the income that was payable to AFS by the authorised representatives.  

The analysis said this had prompted Federal Court Judge, Justice Dodds-Streeton, to interpret the agreement as being consistent with a debtor creditor relationship, and not a trust relationship.