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RBI moots tighter rules for wealth management

RBI draft proposes banks offer wealth management services through separate subsidiary or division
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First Published: Sat, Jun 29 2013. 12 40 AM IST
RBI has noted that the mis-selling of products has raised serious consumer protection issues. Photo: Pradeep Gaur/Mint
RBI has noted that the mis-selling of products has raised serious consumer protection issues. Photo: Pradeep Gaur/Mint
Mumbai: The Reserve Bank of India (RBI) on Friday issued draft guidelines aimed at tightening rules on wealth management services offered by commercial banks in the wake of allegations regarding the violation of money laundering and know-your-customer (KYC) norms.
The draft proposes that banks offer such services only through a separate subsidiary or through a “separately identifiable department or division” (SIDD) set up for the purpose, essentially to avoid conflict of interest and ring-fence the main business from any possible risk posed by such activities.
Also, banks need the prior approval of RBI before undertaking wealth management services whether through a subsidiary or an SIDD.
The central bank noted that the mis-selling of products has raised serious consumer protection issues in the banking sector and exposed banks to reputational risks.
According to experts, if accepted in their entirety, the draft rules may impact the wealth management operations of some banks. Many of them offer such services through branches and not subsidiaries.
“The draft guidelines signal RBI’s intention to ring-fence activities or transactions that are beyond RBI’s jurisdiction. These services will now be more tightly monitored and regulated,” said A.S.V. Krishnan, an analyst at Ambit Capital Pvt. Ltd. “Obviously, this is likely to impact wealth management services being offered by many banks that will now have to follow a tighter form of the Kotak Mahindra Bank model (of offering such services through subsidiaries). Given that employees undertaking marketing or distribution services within a bank cannot be entrusted with approval/transactional process within the bank, the banks’ operating expenses are likely to inch up.”
RBI has sought comment and feedback on the draft guidelines till 31 July.
The proposals assume significance in the backdrop of recent allegations by online investigative magazine Cobrapost.com on the violation of norms by employees at various public and private banks related to moneylaundering and KYC norms.
In March, Cobrapost had named several banks, including country’s largest lender State Bank of India, largest private lender ICICI Bank Ltd, Axis Bank Ltd and HDFC Bank Ltd, among others, whose employees had allegedly facilitated moneylaundering and flouted important KYC norms.
Following this, an RBI investigation into three private lenders—ICICI Bank, HDFC Bank and Axis Bank—revealed that they may not have been involved in moneylaundering “in the strictest sense”, but there could be instances of tax evasion. Besides, the RBI probe also found a nexus between lenders and cooperative banks on large-value cash transactions and the violation of norms on the sale of gold and other investment products.
Subsequently, in June, the apex bank penalized Axis Bank, HDFC Bank and ICICI Bank. Axis Bank was fined Rs.5 crore, HDFC Bank Rs.4.5 crore and ICICI Bank Rs.1 crore.

Stricter rules in offing

In its draft rules on Friday, RBI said banks can conduct all wealth management activities such as referrals, investment advisory services and portfolio management services either from a separate subsidiary or a SIDD set up for the purpose.
“Conflict of interest arises mainly from the juxtaposition of the marketing/distribution function and the advisory or funds management function,” RBI said.
Such subsidiaries would require to be registered with the capital market regulator, the Securities and Exchange Board of India (Sebi), and comply with its guidelines regarding provision of these services, including code of conduct if any prescribed, RBI said. It emphasized that banks should maintain “an arm’s length relationship between the bank and the subsidiary if wealth management services (are) being undertaken through the subsidiary”.
Further, banks can only undertake marketing and distribution of financial products. Such transactions can be undertaken only with a board-
approved policy, RBI said, adding that a third-party product issuer should be a regulated financial entity in India.
In the past, there have been instances of serious violations regarding wealth management services offered by banks. For instance, in July, 2011, RBI imposed a penalty of Rs.25 lakh on US-based Citibank for not following account opening and anti-moneylaundering norms at its Gurgaon branch, which witnessed a fraud of Rs.461 crore in 2010. Several depositors and high-net-worth individuals (HNIs) were duped in the fraud, engineered by Citibank global wealth manager Shivraj Puri, who was working at the Gurgaon branch of the bank.
Further, the draft guidelines said any transactions above Rs.50,000 should mandatorily be accepted through debit to the customer’s account with the bank, and not in cash or cheques of other banks. “There should be no evasion of these regulations by accepting several amounts for lower values from the same client to avoid the stated threshold,” it said.
To prevent mis-selling, the draft guidelines said no incentive, either in cash or non-cash, from selling such a third-party product should be linked to the income of the staff selling such product. In addition, the staff of the bank selling third-party products should not get such rewards from the third-party issuer.
Banks will also have to disclose in their balance sheets details of fees and remuneration they receive.
“Yes, if agents do not get commission, they will not be interested in selling the third-party products, but then, every employee has targets to meet. If you don’t meet those targets, your job will go. The incentive in this scenario could be the job itself. By removing other incentives, it will ensure that mis-selling is checked,” said Ashvin Parekh, a partner at Ernst and Young.
“The underlying principle is it should be customers and not the employees that bank should be more bothered about. The way the financial services industry is progressing, it will be good for the entire financial services industry in the medium to long term,” he said.
Banks are currently not allowed to offer “discretionary portfolio management services”, but will be able to do so through a subsidiary. These are investment plans tailored to the client, who makes the decisions. In non-discretionary management services, the wealth manager takes the investment decisions.
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First Published: Sat, Jun 29 2013. 12 40 AM IST