Federal Supreme Court (BGH): Reversal of open-ended investment funds with hidden commissions ! Can investors now always simply part with bad fund investments?

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It’s not enough to have a chance, you have to take it ! (Michael Douglas)

The Federal High Court has created by the current judgement of 19.12.2006 (Az. XI ZR 56/05) for investors a “new” possibility of giving bad Investments back to loads of credit institutes and Finanzvertrieben. The core of the case is a lack of transparency, as investors are regularly kept in the dark about commission payments made by investment fund companies to their intermediaries: In the case decided, a credit institution acted as an intermediary.

There are investments with an interest yield without risk. Such a risk-free interest rate is offered, for example, by government securities with the best credit rating. If the investor is aiming for a higher return, this is also associated with a higher risk. If the investment goes wrong later, for example if the value of stock market securities falls, investors like to look for ways out – for example for reasons of compensation or reversal. Reversal effectively means that the investor can pass on his investment risk to someone else. The case is well-known for example that with switching of a closed participation was not informed about critical negative reports in the technical literature. Or the soft costs (e.g. commissions) are inaccurately represented in the folder, so that the investor does not recognize at all exactly, which part of its investment sum is really invested (BGH judgement of 06.02.2006, Az. II ZR 329/04). Additional clearing-up obligations can result with “internal commissions” at the latest starting from a height of 15%, in particular with switching of closed participation. Another variant, known since the 1990s, is the reversal due to “hidden commissions, kick-back payments, retrocessions” etc.: In essence, this is about the fact that the investor was not told what an asset manager or the house bank receives in commissions from business partners. The hitch here is the lack of transparency, because the investor cannot see who is earning how much and through which channels.

Liability of banks in the case of remuneration sharing with asset managers:

Already in its ruling of 19.12.2000 (Ref. XI ZR 349/99), the Federal Court of Justice decided that credit institutions owe their customers compensation (reversal and compensation for all investor losses) if they pay an asset manager part of the commission or custody account fees charged by it without informing the customer. The Bank’s obligation to provide information is based on the fact that it has endangered the interests of its customers by means of hidden commission payments. Exceptionally, a limited legal protective purpose may exist, so that only such damages are to be compensated whose occurrence was to be prevented (BGHZ 116, 206; NJW 92, 555). In the case of capital investments, however, the bank’s duty of disclosure relates to the overall success: the bank is therefore liable for all losses associated with the investment decision if it has breached a duty even in a single point. This will result in a reversal of the entire investment, including all investment losses and lost interest.

Liability of banks in the event of remuneration sharing with the client’s authorised representative:

A decision of the OLG Stuttgart of 16.02.2005 (file no. 9 U 171/03), in which the commission sharing was described as a serious breach of trust on the part of the bank, was also along the same lines. The credit institution had made payments to a company associated with a customer’s agent.

Liability of tax advisors in the case of remuneration sharing with financial service providers:

Under 12.11.2005 titelte the Gerlach direct investor protection: Commission-cashing tax counsels before court – at least 20% of the tax counsels (StB) can be greased. StBs also easily get into liability if they receive a commission behind the back of their clients (BGH judgement 20.05.1987, Az. IVa ZR 36/86): Here, too, the investor – even if the StB has not otherwise made a mistake – can completely part with the investment at the expense of his advisor, i.e. unwind it. This is also popular in the areas of private and company pension schemes.

Criminal convictions (Germany, Switzerland): Asset managers with no sense of wrongdoing:

Not only the BGH had repeatedly dealt with concealed commission payments under criminal law (e.g. decision of 11.11.2004, ref. 5 StR 299/03). The Swiss Federal Supreme Court sentenced asset managers to tens of millions in damages and to imprisonment for commercial fraud (Ref. 6P.144/2005 and 6S.464/2005, judgement of 15 June 2006). The BGH reversal ruling of 19.12.2000 is not an isolated case. Also the OLG Cologne (Az. 13 U 28/01, of 20.02.2002) condemned a bank to the back completion because of hidden commission payment to an asset manager. Delicate is in this connection that the boss of a German asset manager federation communicated in the specialized press under 31.07.2006 that there were no supreme court decisions over the disclosure of commissions.

Liability of banks/financial intermediaries in case of remuneration sharing with investment company:

In its decision of 19.12.2006, the Federal Court of Justice (BGH) stated that a bank must inform the customer of the amount of reimbursement it receives from “issue premiums [Abschlussprovisionen] and annual management fees” from a fund company. Some banking organisations believe that it is now sufficient to give the customer ‘a range’, because it is difficult to calculate the different variants of a rebate in each individual case and to disclose them in concrete terms. This new BGH decision can also be applied to fee-based advisors and their sales organisations: here, too, “independent advisors and their advisory associations” regularly finance themselves through “overheads, super commissions, etc.” – more often in addition to additionally accruing fees for the advice. Here, too, the core issue is an obligation to provide information so that the investor can recognise and understand what the bank’s revenue interest is in the investment recommendation: in other words, it is a question of endangering the customer’s interests through refunds: In order to ensure “investor- and object-oriented advice” in accordance with the so-called BOND ruling of the BGH, it does not matter whether the sales-related refunds are allocated to a specific transaction from the bank’s point of view, or whether the refunds are paid at certain intervals. According to the BGH, the fact that the customer was credited with part of the issue surcharge or the acquisition commission, as it were, as a discount does not change the duty to inform.

Liability of the bank/financial services provider when offering “independent advice”:

moreover, a credit institution must also provide objectively correct and complete advice on investment products of competing banks if it offers “independent advice”. The deliberate concealment of commissions by employees must be attributed to credit institutions and financial product distributors. Errors will be the exception. Because already the bank apprentice learns that commissions flow to the bank – later as a customer advisor the amount is also reflected in the payment and the promotion chances: “Of course we prefer to sell the XX investment shares, because there is the highest commission for the bank, and for me a share through the salary”, it is then said in the professional training. The Federal Court of Justice, on the other hand, wants to ensure investor-friendly advice by means of information and transparency with regard to a risk to the customer’s interests in the case of refunds or commissions.

Also independent financial service providers in the duty of disclosure?

“The BGH forces financial advisors to inform their customers in the future about the commission payments directly and subsequently associated with the transaction before the contract is concluded. That is the law!” a renowned distributor of open-ended investment funds warns its intermediaries. In contrast, one could object that the case decided by the BGH only applies to financial services institutions, § 31 para. 1 No. 2 WpHG. Those who act as fee-based advisors to their clients will have to disclose additional commissions in any case. However, independent agents and consultants will have to live with the fact that the transparency requirement of Section 307 of the German Civil Code will also apply to their activities. To argue that “internal commissions” are generally only to be disclosed from 15% is too short-sighted, because this rule concerns the area of closed investments – and not the brokerage of open investment funds.

The VSH coverage can be decisive !

It is also not enough to think that it is sufficient for the agent and advisor if the customer knows or suspects that some commission will already flow. Rather, it will be decisive that the “broker and consultant” obtains binding information from his VSH insurer, ideally via his VSH broker, as to whether such a “claim” would be covered – or whether, as a “knowing breach of duty”, the broker alone would have to pay for it at his own expense in the event of an emergency. Because sometime the first customer of the “free mediator or advisor” stands before the door, and refers to the new BGH judgement, in order to pass its investment losses on to it. Those who do not want to take the conceivable risks of litigation will disclose the commissions.


by Dr. Johannes Fiala


courtesy of

from www.experten.de (published on 03.07.2007)

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Dr. Johannes Fiala Dr. Johannes Fiala

Dr. Johannes Fiala has been working for more than 25 years as a lawyer and attorney with his own law firm in Munich. He is intensively involved in real estate, financial law, tax and insurance law. The numerous stages of his professional career enable him to provide his clients with comprehensive advice and to act as a lawyer in the event of disputes.
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