The due diligence dilemma for law firms
Good business practice dictates that solicitors referring a client to a third party to provide financial services must act in their clients’ best interests and ensure that ‘clients are in a position to make informed decisions about how to pursue their matter’.
The SRA Code of Conduct 2011 sets out, for example, that ‘any referral to a third party that can only offer products from one source is made only after the client has been informed of this limitation’.
In the spring 2018 edition of The Law (issue 20), I asked ‘Are you prepared for the new SRA rules for IFA referrals?’. In this article, I outlined the proposed changes to the SRA Code of Conduct, which included:
- All agreements relating to referrals must be in writing
- Agreements between the firm and the third party adviser should set out the terms of the agreement which governs the flow of referrals
- Your client must be informed of any financial interest
- Referring law firms must have a better understanding of the organisation to which it refers, eg is the firm FCA-regulated (it certainly should be) and what activities is it authorised to perform?
- Referrals must be based on a measured approach which aims to benefit the client
- The client needs to consent to being referred
- Referrals must be in the best interests of the client – this is a key requirement in principle 7 of the new SRA Principles
- Research and reasoning of the advisory firm must be laid out in the written agreement
- Code of Conduct 5.1 applies.
Many solicitors who contacted me to discuss this were keen to establish how they could achieve this, whilst simultaneously embracing the wider scope of the proposals, namely, to ensure that clients’ best interests could be met and how they could demonstrate they had ensured this.
Recent amendments to the SRA Code of Conduct (which will come into force on 25 November 2019 as part of the new SRA Standards and Regulations) confirm that written agreements are required where there is a fee-sharing arrangement in place.
In addition, solicitors and law firms will need their clients’ informed consent if referring to a separate business. In practice, though, all referrals will need to be based on the informed consent of the individual client to make sure that client confidentiality is protected. The new Code of Conduct is principles-based and firms must decide for themselves how best to achieve positive outcomes and protect clients’ best interests.
How you make sure the referral is in the client’s best interests will depend on the due diligence you conduct before suggesting that a referral is made. The law firm should be able to demonstrate why one referee is regarded as superior to another and that the client’s interests are better served by using that provider.
The new Code of Conduct removes the obligation to have a written referral agreement, but has it changed the principle of the original draft principles? Many would argue no, but whilst the written obligation has been removed, the moral obligation has been heightened. Whenever a referral is being considered, the assessment has to be on a case-by-case basis.
As with many regulated professions, the SRA is placing the obligation on the firm and the individual, the implication being that doing the correct thing is the bare minimum expected of a professional upholding the principles of their profession.
In my experience, the law firms and solicitors I interact with already adhere to these principles as a matter of course and would almost certainly consider any other behaviour as beyond the values of their firm. Nonetheless, it is considerably easier to say you’ve demonstrated how you have achieved positive outcomes and protected your clients’ best interests than to physically prove it.
With this in mind, it is my view that the financial services industry perhaps needs to meet legal connections halfway, to ensure clients’ best interests are always put first and foremost.
This should include an understanding of the culture and values of the financial services firm, the areas of the firm’s authorisation, its fees and costs, the level of training and support afforded to staff and a clear understanding of the firm’s advice process.
To help achieve this, financial services firms could provide law firms with a written due diligence document to demonstrate their suitability, culture and expertise to the potential referrer. This will help the case-by-case assessment of whether a referral should be made and who to. This is something Armstrong Watson Financial Planning has decided to do, and we will be pleased to provide all law firms with which we engage a copy of our own document. It may be wise to contact the third-party businesses you deal with to ask for theirs.
We should not be afraid to set the bar high and agreeing in writing standards between legal and financial services firms would be an excellent way of demonstrating this.