Explanatory Memorandum(Circulated by authority of the Minister for Revenue and Assistant Treasurer, Senator the Hon Helen Coonan)
3 - Regulation Impact Statement and Financial Impact Statement
3.1 The superannuation industry has continued its considerable growth, with total superannuation assets rising from $231 billion in assets in September 1995, to over $517 billion in assets in December 2002, over 250,000 superannuation entities (which includes superannuation funds, approved deposit funds and pooled superannuation trusts) and over 88 per cent of workers covered. Superannuation is the second largest household asset after the family home. Maintaining public confidence in the superannuation system is critical to ensuring that private saving for retirement continues to play a key role as part of the Government's policy to address the long-term consequences of the ageing population.
3.2 In October 2001, in response to public concerns about the prudential framework governing superannuation, the Government established the Superannuation Working Group (SWG) to undertake industry consultation on the proposals contained in the Issues Paper 'Options for Improving the Safety of Superannuation'. The SWG received over 50 submissions, held two rounds of public consultations, released a background paper and draft recommendations, and reported to the Government with recommendations for change on 28 March 2002.
3.3 On 28 October 2002, the Government responded to the SWG's recommendations, agreeing to the majority of their proposals to reform the prudential framework, to make it more modern and responsive to risk.
3.4 This Regulatory Impact Statement outlines the regulatory impact of the proposed amendments contained in the Superannuation Safety Amendment Bill 2003, which implements the reform package agreed to in the Government's response to the SWG.
3.5 The superannuation regulatory framework is primarily contained in the Superannuation Industry (Supervision) Act 1993 (SIS Act). It contains retirement income, prudential and some investor protection requirements (most conduct and disclosure requirements are now contained in the Corporations Act 2001 (Corporations Act) following reforms introduced by the Financial Services Reform Act 2001 (FSRA)).
3.6 Regulatory responsibility for superannuation is divided between three regulators:
- the Australian Securities and Investments Commission (ASIC) oversees consumer protection provisions (including disclosure and advice);
- the Australian Taxation Office (ATO) supervises compliance with retirement income policies for around 245,000 self managed superannuation funds (or SMSFs, which are funds with fewer than five members, all of whom must be trustees); and
- the Australian Prudential Regulation Authority (APRA), which prudentially supervises the balance of superannuation entities (over 10,000), with the exception of exempt public sector schemes, the majority of which are run by State and Territory governments.
3.7 As noted above, APRA regulates superannuation funds, approved deposit funds and pooled superannuation trusts. References in this Regulation Impact Statement to superannuation entities refer to those superannuation funds, approved deposit funds and pooled superannuation trusts supervised by APRA, unless indicated otherwise.
3.8 Superannuation operates through a trust structure - trustees must act in the best interests of beneficiaries, and must comply with trustee duties derived from equity, the trust instrument and governing rules, the SIS Act and other legislation. Trustees have primary responsibility for ensuring that superannuation savings are prudently invested and managed, fund members are given adequate information on which to base member investment choice decisions, and are kept informed of the nature and performance of the fund's investments.
3.9 Superannuation is essentially a managed investment with special characteristics including compulsion, preservation rules that restrict access until retirement, taxation advantages and limited choice and portability. These characteristics necessitate more intense Government oversight in the form of prudential regulation. Prudential regulation does not guarantee against fund failure, but rather aims to minimise the chance of loss to fund members through failure, by ensuring trustees have appropriate expertise and risk management strategies in place. In the case of loss through fraudulent conduct or theft, Part 23 of the SIS Act provides a mechanism to compensate members for their loss, subject to certain conditions.
3.10 The prudential framework is supported by the consumer protection regime overseen by ASIC. Reforms in the FSRA require people intending to advise on superannuation matters to obtain an Australian Financial Services Licence (AFSL) from ASIC. Public-offer trustees are also required to obtain an AFSL to deal in superannuation interests, as well as obtain 'approved trustee' status from APRA. Non-public offer trustees (of which there are almost 2,000) are exempt from the requirement to obtain an AFSL to deal in superannuation interests, although the Government accepted the SWG's recommendation that this exemption be reviewed.
3.11 The prudential framework is under increased scrutiny after a number of recent high profile collapses, including HIH and Commercial Nominees of Australia Limited. While trustees remain primarily responsible for the effective management of the superannuation entity under their trusteeship, under a prudential regulatory framework it is imperative that a well equipped regulator with effective powers monitors superannuation savings to ensure they are prudently invested and managed. Measures to improve trustee quality, governance, accountability and transparency of fund performance are given added impetus in an era of low or negative investment returns. Following the receipt of additional resources for superannuation enforcement in 2001 (as part of an election commitment), APRA has increased its activity in this area as outlined in Table 1 below.
|Refer to police/ASIC/Director of Public Prosecutions||8||8|
|Refer to ATO||5||8|
|Show cause letter issued||3||16|
|Follow-up delayed contributions||11||50|
|Disqualify auditor/ refer to industry body||2||0|
Source: APRA Annual Report 2002
* Includes actions such as notices issued, directions made to institutions and undertakings obtained from institutions.
3.12 The size and diversity of the industry and the increase in products being offered, many of which have differing risk profiles and characteristics, make superannuation a complex sector to supervise. Attachment A provides an overview of the superannuation industry as at December 2002.
3.13 Given the industry structure and the number of trustees that APRA is required to supervise, concerns have been raised about APRA's capacity to adequately supervise the sector without key improvements to the regulatory framework.
3.14 Recent experience has also highlighted that there is a substantial gap between the community's expectations about what prudential supervision should achieve and APRA's capacity to deliver on those expectations.
3.15 The level of past loss as a result of fraudulent conduct or theft has been low. Since the inception of the SIS Act in 1993, the Government has paid out approximately $33 million in grants of financial assistance under Part 23 of the Act for losses resulting from fraud or theft. This represents less than 0.00006 per cent of current superannuation assets. However, past experience is not always a good predictor of future behaviour. There is also no data on how poor management has diminished member benefits, for example through poor investment decisions.
3.16 The Government's 2001 Issues Paper canvassed two key issues:
- whether the prudential and legislative framework was outdated, inhibiting APRA's ability to identify and respond quickly and effectively to perceived difficulties in superannuation entities; and
- the adequacy of governance, particularly trustee competence, risk management systems and disclosure.
3.17 The SIS Act was designed when compulsory superannuation was in its infancy, reflecting the Corporations Law at the time. As the industry has developed, the SIS Act has maintained a largely 'one size fits all' approach. Since the introduction of the SIS Act, the industry has also experienced generally quite strong investment returns, with the exception of financial years 2001-02 and 2002-03. More recent experience has suggested that the prudential and legislative framework for superannuation could be updated to reflect the changes that have occurred to other prudential regimes, including the managed investments regime governed by the Corporations Act 2001, with which the superannuation regime shares a number of common traits.
3.18 In its response to the SWG's report, the Government noted that superannuation is the only product regulated by APRA for which it is not necessary to obtain a licence to operate (with the exception of trustees intending to engage in public offer superannuation). It noted that a trustee can establish a fund and start managing other peoples' money without demonstrating the necessary skills or competence to do so, although APRA has powers to remove disqualified persons from certain roles in relation to a superannuation entity. Also, funds are not required to be registered with APRA prior to accepting member contributions. This is in contrast to requirements in the managed investments regime, where all schemes must be registered, and must be operated by a licensed responsible entity. The licensing of superannuation trustees and the registration of entities with APRA would provide the supervisor with a range of additional tools to enable it to intervene pro-actively to minimise the risk of failure, and to ensure improved governance standards.. Without the ability to control who enters the market, APRA can only act to protect member interests when it suspects that the entity is in difficulty, rather than undertake preventative action, by, for example, ensuring trustees are competent and have appropriate systems to operate an entity.
3.19 It has also been argued that the SIS Act is not sufficiently flexible to cope with market developments.
3.20 Operational risk is the key risk faced by superannuation entities, as investment risk is either borne by the employer-sponsor or members, depending upon whether the fund is a defined benefit fund or an accumulation fund. Key factors in addressing operational risk include governance arrangements, the probity and competence of trustees, risk management more broadly and fraud control. APRA has identified concerns with inadequate governance systems in relation to many trustees, but in particular with corporate entity trustees with less than $5 million under management. APRA's concerns with trustees include a lack of:
- experience and knowledge of the legislation governing superannuation;
- monitoring of the funds' operations; and
- internal controls to ensure compliance with the SIS Act and the funds' governing rules.
3.21 In turn, this may have led to inappropriate investment strategies, putting members' benefits at greater risk.
3.22 The SWG and other reviews, including the Productivity Commission's national competition policy review of certain superannuation legislation, found that the superannuation regulatory regime is generally effective, but in need of preventative maintenance to reflect modern prudential practices. These include providing the supervisor with a range of tools to enable it to intervene pro-actively to minimise the risk of failure, and to ensure improved governance standards. Key recommendations for reform from these reviews have included licensing of all superannuation trustees, and enhancements to current governance and disclosure requirements.
3.23 Prudential supervision aims to minimise loss to members through institutional failure by putting in place mechanisms to minimise the risk of failure. It is imperative that the prudential regulator has appropriate tools to do this effectively. The objectives of the proposed reforms are to enhance the current prudential supervisory framework to:
- reflect up to date supervisory practices and developments in other relevant regulatory regimes (for example, the managed investments regime);
- enable APRA to take a more pro-active and preventative supervisory approach which is more responsive to the risk of trustees;
- improve trustee competence and entity governance;
- provide for the orderly exit of trustees that are unwilling or unable to meet the new licensing requirements; and
- ensure that APRA is provided with sufficient information about the particular risks associated with defined benefit funds, and provide APRA with tools to address those risks in a timely manner.
3.24 On 28 October 2002 and 30 May 2003, the Government announced a range of reforms to amend the prudential framework, designed to modernise the regime and make it more responsive to risk. The reforms would require all APRA regulated trustees to be licensed by APRA, to prepare a risk management strategy for themselves and a risk management plan for each entity that they operate, to comply with the strategies and plans set out in those documents, and to register all entities with APRA. The reforms would also enable the orderly exit of trustees that are unable or unwilling to meet the new licensing requirements at the end of the transition period. The Government also proposes to introduce other amendments beyond trustee licensing to improve the safety of superannuation, including mandating the provision of information by auditors and actuaries to the Regulator at the same time such information must be provided to the trustee, and requiring other amendments specific to the safety of defined benefit funds.
3.25 All APRA regulated trustees will be required to obtain a licence from APRA to operate a superannuation entity. Both corporations and groups of individual trustees will be able to apply for a trustee licence. Where groups of individual trustees apply for a licence as a group, they will be able to apply as a single 'entity' for one licence, rather than as individual trustees operating under a number of licences. This will enable the group as a whole to demonstrate the required skills to attain a class of licence collectively, rather than each individual having to meet the requirements of the conditions of the class of licence. The licence will specify the class of activity permitted, which will depend on the type of superannuation entity that the trustee seeks to operate. The proposed reforms will create two classes of licence, public offer entity licence class and non-public offer entity licence class, and will enable sub-classes of licence to be prescribed under regulations. Trustees will need to meet conditions relevant to all trustees, conditions relevant to particular classes of licence that may be specified in the SIS Act or in regulations, and conditions set by APRA in relation to individual licence holders. Capital requirements for public offer entity licence holders will be set out in the legislation, and other class-specific conditions will be prescribed in regulations.
3.26 Trustees will be required to prepare and maintain a risk management strategy (RMS) as a condition of licence. In the RMS the trustee will be required to set out reasonable measures and procedures to identify, monitor and manage risks that arise in relation to the trustee's activities relevant to its class of licence. The trustee will be expected to keep the RMS up to date and review it at least once a year.
3.27 A licensed trustee must register with APRA any entities that the trustee intends to operate under its class of licence. The trustee will have to prepare and submit to APRA a risk management plan (RMP) for the superannuation entity, in which the trustee will be required to set out reasonable measures and procedures that the trustee is to apply to identify, manage and control the risks arising from operating the entity. In particular, the RMP will be required to address risks to the entity relating to the entity's investment strategy, its financial position, and any outsourcing arrangements. Like the RMS, the trustee will be required to keep the RMP up to date and ensure that it is reviewed at least once a year.
3.28 The reforms will enable the orderly exit of trustees that are unable or unwilling to meet the new licensing requirements at the end of a transition period. In addition to existing powers in the SIS Act, APRA will be empowered to remove a trustee that has not gained a licence by the end of the transition period. APRA will also be able to approve arrangements to transfer all of the members' benefits in an entity to another entity under certain conditions. This will prevent members from being penalised by losing their complying fund status if their trustee is unable or unwilling to fulfil the requirements of the new framework.
3.29 Auditors and actuaries will be required to notify the Regulator at the same time they notify the trustee that an entity has breached legislative requirements or is in an unsatisfactory financial position. A mechanism will also enable such persons to provide information to the Regulator if they consider it will assist the Regulator to perform its functions under the SIS Act or the Financial Sector (Collection of Data) Act 2001. Persons who provide information to the Regulator in good faith will not be subject to any action, claim or demand by, or any liability to, any other person in respect of the information. These amendments reflect arrangements operating in other prudentially regulated sectors, and in particular under 2001 amendments made to the Insurance Act 1973 by the General Insurance Reform Act 2001. In addition, actuaries will be required to report to the Regulator where a trustee or employer-sponsor fails to implement specified actuarial recommendations.
3.30 This option will provide that the legislation be brought forward, enacting the reforms that the Government agreed to in its response to the SWG's report.
3.31 Under this option, no new measures would be introduced. Superannuation trustees would continue to be subject to the existing legislative provisions. APRA would continue to undertake its legislative responsibilities and work with industry to increase trustee competence and compliance under the existing regime. In accordance with additional funding provided to APRA in 2001-02, APRA would also undertake increased prudential supervision of superannuation.
3.32 The main groups likely to be affected by the proposed new prudential framework include:
- superannuation entity trustees;
- superannuation entity members;
- associated professionals in the superannuation industry (including auditors and actuaries); and
- the Government.
3.33 Because of the complexity and fluid nature of the superannuation industry it is difficult to accurately measure the number of trustees, members, employer-sponsors and associated professionals involved in the industry. There are currently around 2,200 superannuation entity trustees, 8 million members, and 2,000 employer-sponsors of stand-alone corporate funds. It is not possible to estimate the number of associated professionals with any accuracy.
3.34 Option 1 would improve the superannuation prudential framework by updating it to reflect modern supervisory techniques and practice in similar sectors. Licensing will set new minimum entry requirements for all APRA-regulated trustees, and will enable APRA to better monitor its regulated population. Under these arrangements, APRA will be able to take preventative action to address circumstances that put members' benefits at risk, as APRA will be able to set conditions on the licence, and may revoke a trustee's licence under certain circumstances. It will also be an offence to be, or perform the duties of, a trustee without an appropriate class of licence issued by APRA. Trustees will need to comply with licence conditions in relation to competency and governance. Improvements in these areas will ensure that member benefits are better managed and protected. Reforms enabling the orderly exit of non-complying trustees are necessary to ensure an effective framework for the ongoing management of funds. The reforms in relation to auditors and actuaries and in respect of defined benefit schemes will ensure that the Regulator is informed early of prudential issues in relation to particular entities, and are consistent with developments in other prudential frameworks.
3.35 The reforms would ensure that the prudential framework was updated to reflect reforms in the managed investments regime. Trustees are responsible for the prudent operation of superannuation entities, and need to exercise rigour in making their own internal assessments to ensure they have appropriate risk management strategies in place to reduce the risk of failure.
3.36 Option 1 will lead to increased compliance costs associated with the reforms. This will include additional licensing fees for various classes of licence (the cost of which is to be established in regulations and the subject of a separate Regulation Impact Statement), and ongoing compliance costs. The quantum of these costs will vary between entities depending on the quality of systems and strategies they currently have in place, and will also depend upon the class of licence.
3.37 The preparation of risk management strategies and plans is likely to impose more significant compliance costs on trustees. The level of detail required will depend upon the class of licence. For example, a trustee of an employer-sponsored fund with significant functions outsourced will not be expected to demonstrate the same level of detail in its RMS and RMP as the trustee of a public offer entity. However, trustees will also benefit in implementing a risk management framework, because the identification and management of risk by trustees will assist in ongoing compliance, and reduce the costs associated with the need to implement corrective action. It is difficult to quantify these benefits.
3.38 It is also likely that the industry would experience some restructuring as trustees, unable to meet licensing conditions, cease operations. In particular, increased costs would probably reduce the number of employer-sponsors willing to establish a new fund for the benefit of their employees.
3.39 The proposal addresses key gaps in APRA's tool box, thereby enabling it to better manage the risk of fund failure. Requiring trustees to seek a licence to operate a superannuation entity, and establishing conditions relevant to all trustees, classes of trustees and specific trustees, will raise the minimum standards relevant to trustees. The RMS and RMP would codify risk management practices. ASIC has indicated that the similar requirement in the managed investments regime for responsible entities to prepare and maintain a compliance plan in respect of a managed investments scheme is one of the most useful tools available to it in its regulation of such schemes.
3.40 Amendments requiring auditors and actuaries to disclose information to APRA at the same time they are required to notify the trustee will have a significant positive impact upon APRA's capacity to pre-empt potential losses.
3.41 The anticipated industry restructuring would reduce the number of trustees, easing APRA's supervisory task. The new framework should better protect member interests, and assist APRA by reducing the number of poorly run entities and consequently the need for APRA to take enforcement action. The risk of fund failure should also be reduced. Costs
3.42 To implement the reforms, APRA will increase its staff levels to undertake the licensing process, as well as incur technological and other overhead costs. APRA would also undertake an education campaign. The Government has decided that these costs should be offset by a licence fee, which will be set on a cost recovery basis, in accordance with Government policy as determined by the Government's response to the Productivity Commission report 'Cost Recovery by Government Agencies'. As per Department of Finance and Administration Cost Recovery Guidelines, a Cost Recovery Impact Statement (CRIS) will be prepared prior to the implementation of a licence fee regime. Ahead of the analysis to be conducted in preparing the CRIS, a rough preliminary estimate of additional costs to APRA is between $8-15 million.
3.43 APRA proposes that the transition period to the new arrangements, during which it will undertake to license all trustees who make an application, should be coordinated as closely as possible with its regular two-year on-site review cycle of trustees. APRA may recruit temporary staff to assist with licensing during the transition period. At the end of the two-year transition period, the supervision task should be reduced, and APRA should not need additional resources to process applications for licenses.
3.44 While there are arguments that the supervisory levy paid by funds to cover the cost of their supervision by APRA, ASIC and the ATO should be used to cover the costs of obtaining a licence, the supervisory levies apply to superannuation entities (funds and trusts) on an annual basis, whereas the application fee for a licence will be a one-off fee that will apply to the superannuation trustee. This is in accordance with current SIS Act provisions, which require trustees seeking an approval to make offers of superannuation to the public, to pay a one-off application fee to APRA for the approval. Section 353 currently provides authority for the SIS Regulations to prescribe fees in respect of any matter under the SIS Act. The proposed amendments will enable fees to be set in relation to different classes of licence.
3.45 Increased disclosure would assist in making trustees accountable and improving overall trustee standards. It should help reduce the need for enforcement action.
3.46 Depending on the outcome of the review of the AFSL exemption for non-public offer entities, ASIC may face the additional task of licensing up to 2,500 trustees currently exempted from the requirement.
3.47 Reforms requiring auditors and actuaries to report to the Regulator at the same time they report certain matters to the trustee will apply to auditors and actuaries of self managed superannuation funds as well as to auditors and actuaries of APRA-regulated superannuation entities. This will mean that both APRA and the ATO will receive additional information on these matters, enabling them to take necessary pre-emptive action.
3.48 Some smaller entities currently under APRA's jurisdiction may decide to restructure as self managed superannuation funds (SMSFs), which may result in an increased number of SMSFs under the ATO's supervisory jurisdiction. This may lead to minor cost increases associated with the additional supervisory activity.
3.49 The introduction of licensing will establish a barrier to entry to operate a superannuation entity, although not a significant barrier for those trustees that currently operate under an approval issued by APRA (required in relation to 'public offer' activity). The new framework is likely to result in an increase in the quality of trustees, with associated benefits to members in relation to competence and governance standards. It is also expected to reduce the chance of fund failure, thereby improving confidence in the safety of superannuation by members, and by implication, the reputation of licensed trustees. This in turn may lead to an increase in funds under their trusteeship. Trustees will also benefit in implementing a risk management framework, because the identification and management of risk by trustees will assist in ongoing compliance, and reduce the costs associated with the need to implement corrective action.
3.50 As noted above, while the new framework is likely to result in an increase in the quality of trustees, it will also likely lead to a reduction in the number of entities currently operated. Rationalisation may be more acute in particular areas of the industry. For example, the introduction of these reforms may increase the likelihood that employer-sponsors will withdraw their support for corporate funds. However, the industry would be expected to retain its large numbers and diversity, continuing to offer consumers and employers a wide choice of trustee and superannuation entity (although noting that member choice of fund in the non-public offer arena may be limited).
3.51 Trustees will need to meet the increased compliance costs associated with obtaining a licence, meeting new standards, and preparing and complying with their RMS and RMP. However, trustees already operating under best practice would already be effectively undertaking many of the governance and licensing requirements. The preparation of RMSs and RMPs will force trustees to consider and address issues before a legislative breach or regulatory intervention is necessary.
3.52 The impacts of the reforms are likely to have a disproportionate effect on certain types of entities and their trustees. Currently, certain trustees must be approved by APRA to undertake public offer superannuation. Superannuation entities with an approved trustee are unlikely to be affected as much as other entities, as trustees operating under an approval issued by APRA are already required to meet more onerous requirements. Approved trustees must hold capital and must comply with a range of conditions on their licence, and it is expected that they will maintain higher governance and compliance standards. Many public offer trustees will also have recently completed the process of transitioning to the new requirements of the AFSL, which includes a requirement to demonstrate compliance systems. For these trustees, complying with Option 1 should be relatively easier.
3.53 APRA regulates around 2,000 employer-sponsored funds, representing the largest category of entities under APRA's regulation. Trustees of these funds are currently not required to be approved by APRA, as they are not operating public offer funds. However, these trustees must meet various rules requiring the equal representation of both employers and members. It is noted that most APRA enforcement action is directed at these types of entities.
3.54 Industry consolidation is already occurring among this group, with the number of corporate funds decreasing from 4,211 in June 1995 to 2,045 in December 2002. All corporate funds are employer-sponsored funds. There is a small number (roughly one hundred) of employer-sponsored funds that are not corporate funds. This trend is likely to continue into the future, particularly as increased compliance costs for the industry resulting from a variety of changes will challenge employer-sponsors to reconsider their commitment to provide arrangements for their employees. Retail master trusts, and other public-offer superannuation providers including industry funds, would benefit from the decline in employer-sponsored funds.
3.55 The new framework is designed to reduce the risk of loss to superannuation members from a superannuation fund failure. Members would benefit from expected improvements in the quality of trustees and fund management. Members would also have better access to information about their fund, with increased transparency and reporting to members providing a better signal of the relative risks associated with their entity. This will increase the accountability of trustees and assist early detection of problems. Members will also have greater confidence that their retirement savings are being managed in a manner consistent with best practice.
3.56 However, improved trustee competence and fund governance may be offset by increased compliance costs, which may be passed on to members. The impact on members will vary depending upon the size of the entity, and how well it is managed. Trustees who already follow best practice could be expected to face a lower compliance burden to meet the new requirements. Anecdotal evidence from APRA is that trustees of small employer-sponsored funds will need to devote the greatest level of attention to implement new processes, and trustees of these entities are likely to pass on comparatively higher costs to their members, which may impact on members' benefits.
3.57 Employer-sponsors that establish defined benefit schemes may indirectly benefit from improved quality of trustees, as this may reduce the risk of needing to make additional contributions to meet minimum funding requirements due to poor investment returns.
3.58 As a result of the increased compliance costs, some employer-sponsors, and particularly those sponsoring defined benefit superannuation schemes, may decide that it is no longer financially viable to continue to operate the scheme. These employer-sponsors may decide to close the scheme, restructure the scheme as an accumulation scheme (if it is a defined benefit scheme) or transfer the scheme to another trustee.
3.59 Associated professionals in the superannuation industry will be affected by the proposed changes. The introduction of compliance requirements in the managed investments regime and in the Financial Sector Reform Act 2001 (FSRA) have resulted in a growing demand for compliance professionals to provide advice to assist financial institutions to comply with their legislative obligations. The introduction of similar reforms in the SIS Act is likely to see similar growth in relation to the proposed licensing requirements. This should lead to greater availability and flexibility of employment for associated professionals in this field.
3.60 The proposals to require auditors and actuaries to notify the Regulator at the same time they are required to notify the trustee of certain matters will also increase the compliance costs of auditors and actuaries. Under the current arrangements, auditors and actuaries must notify trustees of technical breaches of the law. The SIS Act provides that the auditor or actuary only need notify the Regulator where the auditor or actuary is either dissatisfied with action taken or proposed, or the inaction, of the trustee, to deal with such breaches. The proposals will require mandatory notification to the trustee and the Regulator. While this will increase the number of parties who must be notified of technical breaches of the law, and may have an impact on professional indemnity insurance premiums due to the strict liability attached to this obligation, the benefits to both APRA and the ATO in the form of early notification of such matters would outweigh these costs. This is because APRA and the ATO would be on notice if other 'early warnings' are raised in relation to these entities. While these increased costs are likely ultimately to be passed on to members in the form of additional fees charged by such professionals, the costs are expected to be minimal, reflecting the important compliance role these parties play in the industry. It would be very difficult to quantify these costs, as it would depend upon the current level of compliance in the industry.
3.61 The reforms are designed to give APRA the tools it needs to effectively implement the prudential framework. Ultimately, the new framework should decrease the chance of loss through fund failure, diminishing the call on the Government to provide financial assistance in the event of a failure, and helping to ensure that the superannuation tax concessions provided by Government achieve their objective of greater superannuation savings in retirement.
3.62 The Government would also benefit from an increase in community confidence in the superannuation system, ensuring that private savings for retirement continue to play their role as part of the Government's strategy to address the long-term consequences of an ageing population.
3.63 The Government's recent decisions to provide financial assistance to some failed entities under Part 23 of the SIS Act have arguably increased the expectation that it will do so in the future. This may cause superannuation trustees to act in a riskier way, putting member benefits at risk, than they would in the absence of this intervention. The proposed reforms in Option 1 would reduce the Government's potential exposure arising from increased risk-taking by trustees.
3.65 Without any action, trustees would not incur increased compliance costs, which might be passed onto members, and APRA would continue to undertake its supervisory responsibilities (although noting that it has received increased funding in recent years to undertake more intensive supervision). However, the gaps in the regulatory framework would not be addressed, and public confidence in the regulatory framework may diminish.
3.66 The existing regime has operated reasonably effectively since it was established in 1993. APRA has a number of tools available, including releasing industry guidance and taking proactive steps in enforcement and supervision, to ensure trustees have adequate risk management systems in place.
3.67 The existing framework does not enable APRA to tailor prudential requirements to the risk of each entity. While APRA can and does release industry guidance, such guidance is not binding. Apart from moral suasion, APRA has limited tools to prevent breaches of prudential requirements, as many of its current tools only become effective once a breach has been identified. This affects APRA's ability to prevent members' benefits from being put at risk. With the number of entities and trustees that exist, including trustees not subject to any entry barriers, APRA would continue to face a difficult task to ensure that operating standards are met and maintained.
3.68 Option 2 would not require any additional disclosure measures, and would therefore not provide any additional benefit nor impose any additional costs on ASIC.
3.69 Option 2 would not require any changes to current operating requirements, and would therefore not provide any additional benefit nor impose any additional costs on the ATO.
3.70 Trustees would not need to meet the compliance costs associated with obtaining a licence, meeting new standards, and preparing and complying with their RMS and RMP.
3.71 Trustees would not be required to address potential governance and operational risks which APRA is concerned are becoming increasingly prevalent. Failure of a trustee may affect the reputations of other trustees and reduce public confidence in the industry.
3.72 As noted above, employer-sponsored funds are already experiencing some consolidation, reflecting decisions by employer-sponsors to gain administrative efficiencies, and reduce costs by transferring their fund to a larger public offer fund such as a master trust. This trend would be expected to continue.
3.73 Compliance costs associated with Option 1 would not be incurred and therefore would not be passed on to superannuation members.
3.74 Superannuation members would not benefit from an improved risk based safety regime. APRA may only become aware of concerns after an event that has already caused members to lose some of their retirement benefit. Confidence in the safety framework may be compromised, increasing anxiety and reducing retirement savings, either through lower returns or lower contributions than would be achieved if the system were reformed.
3.75 Under Option 2, there would be no change for employer-sponsors from the current environment in which many employer-sponsors may already be considering the ongoing viability of maintaining a fund for their employees.
3.76 Option 2 would not require any changes to current legislative and compliance requirements, and would therefore not provide any additional benefit nor impose any additional costs on associated professionals in the superannuation industry.
3.78 The incidence of fund failure may be higher, putting pressure on the Government to provide financial assistance to members.
3.79 The Government's recent decisions to provide financial assistance to some failed entities under Part 23 of the SIS Act has arguably increased the expectation that it will do so in the future. This may cause superannuation trustees to act in a riskier way, putting member benefits at risk, than they would in the absence of this intervention. Increased risk-taking by trustees would not be addressed under Option 2, which may affect the Government's exposure.
3.80 Failure to act to address identified problems could undermine confidence in superannuation safety and reduce the effectiveness of the Government's superannuation tax concessions in encouraging superannuation savings.
3.81 The Government released the initial Issues Paper, 'Options for Improving the Safety of Superannuation', on 2 October 2001. The SWG was established to consult on the Issues Paper. It undertook an open consultative process in developing its recommendations. Submissions on the Issues Paper were called for by 1 February 2002 and over 50 were received. The SWG held two rounds of consultations, in December 2001 and March 2002. The SWG released a background paper on 24 December 2001 and draft recommendations on 4 March 2002, prior to the consultation meetings. The final report was provided to the Government on 28 March 2002 with 28 recommendations.
3.82 An exposure draft of the legislation that will give effect to these reforms was released on 30 May 2003 and 17 submissions were made by 11 July 2003. Other Government agencies have been consulted throughout the process of drafting the legislation. Comments on the exposure draft of the legislation were generally supportive of the proposed regime, although the majority of participants requested that additional consultation occur on the operating standards to be developed in regulations.
3.83 Industry bodies have generally supported the desirability to improve the safety of superannuation, but have expressed mixed views about the cost-benefit of some of the recommendations. In response to increasing concern about the proposal to introduce new licensing reforms during the transition to the new AFSL requirements, on 30 May 2003, the Government announced the deferral of the commencement of the draft legislation until after March 2004. There has also been particular concern in relation to the possible duplication between RMS and RMP requirements with compliance plan requirements under the Corporations Act 2001.
3.84 Some in the industry have noted that superannuation entities are generally well managed, and that the risk to entities arises due to fluctuations in the investment market, rather than being associated with the practices of the trustee. This ignores the fact that superannuation is intended to be a long-term investment, and that many trustees now offer members investment choice (which encourages a short-term view). However, others have agreed that there is strong merit in the proposals as they are designed to circumvent losses before they happen.
3.85 Option 1 meets the objectives outlined above. It implements the Government's legislative response to the report of the SWG. It also addresses the concerns regarding the regulatory framework's weaknesses and provides APRA with the necessary tools to minimise the risks of superannuation fund failure. It will also increase the public's confidence regarding the competence of trustees and standards of governance. The benefits of modernising the framework, and moves to improve its consistency with similar frameworks, are balanced by increased compliance costs for trustees, which may be passed on to members.
3.86 In contrast, Option 2 does not address the objectives outlined above, and reflects the view that the current framework has generally operated effectively. However, it does not implement the Government's response to the SWG, will not address concerns about trustee competence, nor modernise the framework to reflect changes that have happened more broadly in other areas of the financial sector. It will also not reflect the public's expectation that reform is necessary to improve superannuation safety. This could put greater pressure on the Government to compensate members in the event of losses.
3.87 Option 1 is the preferred option.
3.88 It is proposed that the legislation introducing the new regime commence after the end of the transition period for the Financial Services Reform Act 2001. Transitional provisions will apply so that trustees will have up to two years from the commencement of the licensing regime in which to transition to the new arrangements.
3.89 It is not envisaged that the Bill will have a financial impact on the operations of government. APRA is self-funded through financial sector levies. The cost of licensing applications will be met by a fee, which will be charged on a cost-recovery basis.
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