Expats living in Japan are faced with many challenges, not the least of which is the question of how to manage their personal finances. Many turn to independent financial advisers, or IFAs, for guidance.
This would seem like a perfectly sensible thing to do — if you need advice, ask an expert and trust them to use their information advantage for your benefit — but applied to the unregulated world of expat finance, a person approaching an IFA with money to invest could be considered akin to the proverbial duck innocently waddling up to a nabe party with a bundle of leeks slung over his shoulder.
First encounters with an independent financial adviser usually come in response to a strategically placed advert, a meeting with a person handing out flyers from a booth at a conference or other event, or an unsolicited phone call from someone politely inquiring about your financial situation and kindly offering to help.
The first thing to understand about the term IFA is that, unlike other abbreviations you may see printed on a business card after a person’s name, it is no guarantee of any level of expertise, competence or integrity. No rigorous examination or demanding course of study is required for a person to become an IFA, nor does it denote affiliation to a professional body with a stringent code of ethics.
One of the most common products these advisers sell is the investment-linked life assurance plan, or ILAS, also known as a portable pension plan, unit-linked life insurance plan, offshore pension plan or by any number of other similar names. They are sold by insurance companies via IFAs and take the form of a savings or investment plan with an insurance component. A regular premium is invested over a period of five to 30 years in a range of funds selected by the investor.
This category of investment has come in for some severe criticism due to the plans’ very expensive and extremely complex fee structures, the apparently high undisclosed commission payments to advisers who sell the policies, and steep penalties for missing payments and early withdrawal. Public attention was drawn to many common criticisms of these plans when a wealthy Hong Kong-based expat, Jeremy Hobbins, sued his adviser in 2012 after finding out how much commission the adviser had been paid by the insurance company he opened an ILAS plan with. For any foreign resident living in Japan and thinking about their financial future, a few common-sense rules of thumb could help you avoid serious financial pitfalls.
First of all, understand how much commission your adviser is being paid and how the commission payments are structured. ILAS plans typically pay advisers very high front-loaded commissions. It is unclear exactly how much commission advisers earn — neither the IFAs nor the insurance company I contacted would disclose details to me — but an “introducer agreement” revealed in the South China Morning Post showed that one company’s advisers receive a lump sum equivalent to a minimum of 3 percent of the first year’s premium multiplied by the number of years in the plan that was sold. So, if a client begins a 25-year plan, investing ¥1 million a year, the adviser is paid ¥750,000 up front. Not bad for a day’s work! (On top of this, extra fees known as “override commission” can increase commission payments significantly.)
The practice of paying advisers a large, undisclosed upfront commission creates a huge conflict of interest. Many IFAs work on a 100-percent commission basis, and the so-called advice they give is often more like a sales pitch delivered in the guise of guidance to a trusting and sometimes naive client. Rather than IFA, the abbreviation ICS — “incentivized, commission-earning salesperson” —would be a far more honest descriptor. After the commission is paid up front, there is little incentive for the adviser to maintain any kind of relationship with the client at all, except perhaps in the hope of selling the client another financial product.
It might be unfair to suggest that all IFAs only ever act in their own interests, as there are no doubt some decent people with honor and integrity who give honest advice regardless of the consequences for their personal commission earnings. However, if you believe this, it logically follows that there must also be plenty of ruthless mountebanks who would tell you anything to earn a dollar. How can a person be sure where along this moral spectrum an adviser exists? It is impossible to know for certain, but at the very least, you should be clear about how your adviser’s incentives work, and if you think they are unreasonable or if your adviser is unwilling to disclose them fully in writing, consider walking away.
Secondly, understand the fees. How are companies able to pay such high commissions to advisers? Most likely by charging huge fees, often hidden within highly complex fee structures. Harry Marcopolos, the fraud investigator who uncovered Bernie Madoff’s $17.5 billion scam, had this to say on the subject of complex fee structures: “If your money manager refuses to answer questions, or gives you overly complex answers, assume deception. If you don’t understand the strategy, even after a manager explains it, don’t assume you’re stupid; assume your manager is trying to pull one over on you.”
Why would a financial institution structure their fees in such a complex way if not to obscure their true scale? The rosy glow of security, value, flexibility and simplicity painted in the marketing material belies the complex fee structure and willful obscurantism a client may find upon delving into the murky terms and conditions.
Experienced financial experts create the fee structures for these plans, and fees are often expressed in units the layperson is entirely unfamiliar with. Rather than simple arithmetic percentages, ILAS plans usually regularly use “reduction in yield” percentages, which in real terms are far higher.
Demand that fees are expressed clearly in terms that you understand. The burden should be on the financial institution to present fees in a way that the client can easily grasp, rather than on the client to understand a highly complex fee structure, which, in my experience, many advisers themselves do not fully understand.
Finally, know your regulatory environment. Most plans of this kind are based offshore in places such as the British dependencies of Guernsey, Jersey and the Isle of Man. While a person may be understandably reluctant to invest their money in North Korea for fear of corruption, the British Isles might seem like a safe place. Surely the Brits wouldn’t allow any dubious financial practices in their territory, and if anything underhand was going on, then one might expect the Financial Ombudsman Service or the British Financial Services Authority (FSA) to offer support to the vulnerable consumer.
That would be true if the plan was based on the British mainland, but offshore, it’s a different story. The Channel Island of Guernsey, for example, does not fall under the jurisdiction of the British FSA. Instead, financial institutions located there are regulated by the Guernsey Financial Services Commission, which does not have ombudsman powers.
Without a robust regulatory authority, the Balliwick of Guernsey is like the Wild West without a sheriff. The only option left for an unhappy consumer is to hire a lawyer and pursue the company through the courts. In Guernsey, lawyers are forbidden from accepting “no win, no fee” arrangements. They are paid by the hour and require a significant upfront retainer. With no guarantee of success, and with far less money to hire lawyers than the company itself, this is a fairly risky and unappealing option.
ILAS plans are some of the least efficient expat investment plans out there, yet because of the high commission payments paid to advisers, they are one of the most commonly sold. Unfortunately, there are industries in the world whose enterprise is based upon exploiting the ignorant. To avoid being the quarry of some unprincipled huckster, be well-informed and seek advice from multiple impartial sources, and be clear that you completely and unambiguously understand incentives, fees and regulation.
Nobody cares as much about your money as you, and there is no substitute for personal research and financial education. Be very careful what you take on faith. In today’s interconnected world, with endless opportunities for consumers to share stories and offer honest advice to one another free from the influence of fat commission payments, ignorance ought to be on the decline, along with unscrupulous advisers and the highly dubious plans they peddle.
If anyone would like to contact Daniel Brooks, who fell victim to an ILAS scheme, they can do so via his personal protest against the practice of insurance companies paying large upfront commission payments to advisers to sell their ILAS plans, at chn.ge/1aV6qJv. Foreign Agenda offers a forum for opinion on Thursdays. Send your comments and ideas to firstname.lastname@example.org.