Rebuilding trust in financial intermediaries

Rebuilding trust in financial intermediaries

Contributed by Gárdos Füredi Mosonyi Tomori

May 07 2010

The financial crisis created an opportunity to stabilize and restructure Hungary's regulations on financial intermediaries, which has long been an aim of the Financial Supervisory Authority (FSA). Following a period in which public confidence in the financial services industry and all levels of the banking system was badly shaken, the FSA sought to strengthen consumer protection and rebuild trust in financial markets and intermediaries. In December 2009 Parliament passed an act that, among other things, significantly amended the Financial Institutions Act by introducing new regulations for financial agents.

In 2008 the FSA initiated an overview of the financial system, including the ever-growing financial intermediary sector. The analysis showed that inadequate regulation of intermediary activity posed a high risk for the stability of the financial sector - a consequence of the rapid growth of the intermediary sub-sector and complex, nontransparent financial products.

The new system divides intermediaries into four groups: special intermediaries, agents, payment intermediaries and brokers. The most significant change is the extension of the classification of broker, well known in the insurance sector, to other areas of finance. Unlike other intermediaries, brokers perform their activity under a contract concluded with a client intending to use a financial service, not with the bank or other financial institution providing the service. Apart from the newly implemented broker category, the other intermediary activities remain essentially unaffected by the legislation.

In order to unify the intermediary system, another classification of intermediary already used in the insurance sector was extended to other areas. Financial intermediaries (ie, all intermediary categories except brokers) provide services based on a contract concluded with a bank or other financial institution. The system distinguishes between intermediaries offering the competing financial services of several financial institutions as independent intermediaries, and those that provide non-competing services for one or more institutions.

In order to protect consumer interests, stricter rules have been introduced for the latter classification. All independent intermediaries, irrespective of the type of service that they provide, must operate under an operational licence from the FSA. In addition, they must have professional liability insurance and their managers must meet special personal and professional requirements. In addition, an independent intermediary can be held liable for losses to consumers in connection with the intermediary's activities or those of persons acting for the intermediary. In contrast, a financial institution generally remains liable for the failings of its non-independent intermediary.

The modification sets out certain general requirements for all types of financial intermediary. Intermediaries that may operate without an operating licence must register with the FSA. All financial intermediaries must (i) comply with stricter personal and professional requirements, and (ii) provide prior information to the client about their status and the party on whose behalf they are performing their activity. In order to ensure transparency and avoid conflicts of interest, intermediaries may accept commission only from their principal.

The prohibition on intermediary chains has been relaxed, allowing an intermediary to mandate other intermediaries as intermediary subcontractors. However, such chains are limited and the subcontractor cannot further delegate its activity to other intermediaries.

Further changes to the intermediary system are expected to follow. The FSA has declared the rebuilding of trust in financial markets and intermediaries to be one of its main aims for 2010, and has recently adopted a stricter penalty policy. The size of fine that the FSA can impose is based on the potential impact of the infringement of financial market rules and the effect on consumers.

For further information on this topic please contact Veronika Papp at Gárdos, Füredi, Mosonyi, Tomori by telephone (+36 1 327 7560), fax (+36 1 327 7561) or email (papp.veronika@gfmt.hu)

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