By Mark Bland, Partner and Geoffrey McCarthy, Special Counsel

This fortnightly update is designed to help superannuation trustees track and manage regulatory change. We look ahead to forthcoming developments, look back at recent changes and then consider the impact on trustees. This edition’s spotlight is on the exposure drafts of legislation to implement the Your Future, Your Super package.

Key developments

• 26 November – The Government release exposure draft legislation and explanatory material for public consultation to implement “Your Future, Your Super”
• 26 November – APRA Member Summerhayes gave a speech on information security.
• 20 November – Government published final report of the Retirement Incomes Review
• 17 November – ASIC publishes CP 332 on promoting access to affordable advice to consumers

Looking ahead

2 December – The House is scheduled to resume debate on a bill that covers facilitating payment of lost and unclaimed superannuation money held by ATO directly to KiwiSaver schemes. Treasury Laws Amendment (2020 Measures No. 5) Bill 2020

3 December – The House is scheduled to resume debate on bill including provisions for transition from SCT to AFCA such as ability for the Court to remit SCT decisions to AFCA Treasury Laws Amendment (2020 Measures No. 4) Bill 2020. This follows the recommendation this bill be passed by the Senate Economics Legislation Committee.

7 December – Due date for report on inquiry into Litigation funding and the regulation of the class action industry referred to the Parliamentary Joint Committee on Corporations and Financial Services on 14 May 2020.

Looking back

30 November – APRA issues weekly data on COVID-19 Early release of super collected under the COVID-19 Pandemic Data Collection Request program. $35.3bn in payments have now been made.

29 November – Comments due on issues paper on Review of the Privacy Act. The view covers a broad range of issues including whether there should be a statutory tort for invasion of privacy.

27 November – Comments are due on Department of Home Affairs consultation package on regulation and security for critical infrastructure including critical superannuation infrastructure.  The trustees of the largest 30 superannuation funds being those with more than $20 billion total assets are to be subjected to new risk management and reporting obligations.  Government assistance may be provided at addressing risks.

27 November – ASIC issued a draft Infosheet and licensing proof for claims handling regulation.  In the draft Information Sheet, ASIC notes that while superannuation trustees will not require a specific authorization for claims handling, the relevant obligations on which ASIC provides information will apply to trustees as part of the new financial service they will be authorised for, providing a superannuation trustee service.

26 November – The Government release exposure draft legislation and explanatory material for public consultation to implement “Your Future, Your Super”, discussed in detail below.

26 November – APRA Board Member Summerhayes gave a speech on information security.  From 2021 APRA will be asking boards to engage an external audit firm to conduct a thorough review of their CPS 234 compliance and report back to both APRA and the board.

25 November – ASIC registered ASIC (Supervisory Cost Recovery Levy—Regulatory Costs) Instrument 2020/1074, in which ASIC determined that it had spent $23.8 million out of $320.3 million of total regulatory costs on superannuation trustees in 2019/2020.

24 November – APRA releases quarterly superannuation statistics showing net contribution flows of $10.2 billion in the year to 30 September 2020, despites a 42% increase in total benefit payments

23 November – APRA issues weekly data on COVID-19 Early release of super collected under the COVID-19 Pandemic Data Collection Request program. $35.2bn in payments have now been made.

20 November – ASIC releases report on Consumer engagement in insurance in super. The research found that the process of gaining information and guidance about insurance arrangements from their super fund or making changes to the insurance presented several potential hurdles to many members. ASIC asks trustees to consider the findings.

20 November Public Hearing of Standing Committee on Economics – Superannuation sector. Attending were ACSI, HESTA, Rest, One Path, REI Super and TWU Super. Questions covered processes in deciding how to cast votes granted by shares held in funds, advertising and promotional expenses, climate change risk and measures of underperformance.

20 November – Government published the final report of the Retirement Incomes Review.  The report addressed a range of issues including superannuation and without making any recommendations, found the weight of evidence indicated that increases in the SG rate result in lower wages growth, and would affect living standards in working life.

19 November – ASIC issued CP 333 on the proposed reference checking and information sharing protocol for financial advisers. The consultation paper includes a draft ASIC Protocol setting out the proposed obligations for licensees undertaking a reference check on an individual seeking to be employed or authorised as a financial adviser.

18 November – ASIC appeared before PJC inquiry for the oversight of ASIC, and faced questioning about its internal management and structure

17 November – Comments were due to Treasury on miscellaneous amendments to legislation including the Corporations and SIS Acts, including to enable different investment fees being charged in a lifecycle MySuper product and continuation of elections for life insurance after a SFT.

17 November – ASIC published CP 332 on promoting access to affordable advice to consumers. The paper addresses typical advice situations including in relation to superannuation, digital advice and strategic advice and other issues.  There is a broad range of questions for stakeholders including on ASIC’s existing RG 244 Giving information, general advice and scaled advice.

On the horizon spotlight – Your Future, Your Super Exposure Drafts

Fast Facts

• The Government’s Your Future, Your Super package – announced in the 2020-21 Budget – was a package of reforms designed to ensure the superannuation system delivers better outcomes for members
• The four initiatives are stapling super to the member, YourSuper comparison tool, annual performance test and provisions aiming for increased transparency and accountability relating to acting in the best financial interests of members and disclosure for annual meetings.
• On 26 November 2020, Treasury published exposure drafts and explanatory materials for comment by 24 December 2020 to provide the legislative framework
• The drafts are consistent with Government announcements but leave a number of key elements relating to measurement of underperformance to be addressed by regulations.
• The commencement dates are generally 1 July 2021.

What new obligations would be imposed by the Exposure Drafts?

While not clarifying many key questions relating to basis for the YourSuper comparison and underperformance, there are some details in the exposure drafts and explanatory materials that are significant.

Transparency and Accountability

From 1 July 2021, trustees will be subject to new obligations designed to reduce costs to give effect to a recommendation of the Productivity Commission. New measures include:

• Trustees will be required to comply with a new duty to act in the “best financial interests” of members (which appears to reflect the meaning of the current best interests obligation).
• Directors will be required to take reasonable steps to ensure trustees comply with this duty.
• Placing the burden of proving compliance on the trustee and director (rather than the regulator) in any proceedings, meaning that trustees will need to be able demonstrate a justifiable financial benefit to members for any expenditure.

Regulation making powers are to be included to:

• make record keeping obligations as standards (that are strict liability offences); and
• banning any particular expenditure or investments.

As stated in the draft EM: “Trustees will need to have robust quantitative and qualitative evidence to support their expenditures.”

The stated intent is to ensure that trustees identify a quantitative financial benefit to members as a threshold for any expenditure, based on quantitative and qualitative evidence.

Best interests / best financial interests

In the SIS Covenants for trustees and directors,  “best interests” will be changed to “best financial interests” (BFI) and a new clause will be inserted to make clear that these obligations apply in respect of payments to third parties (by or on behalf of the fund).

The EM suggests “financial” is inserted to clarify that the interests are “solely” financial (not non-financial), however this is how the Courts have already interpreted the “best interests” duty.

The real changes will be how trustees and directors will need to go about determining whether their actions, particularly those that involved expenditure with third parties, are in the best financial interest of members.

No materiality threshold will apply to the new duty, however no materiality threshold applies to the present duty.

Directors accountable

Directors will be made accountable with a civil penalty provision requiring them to take all reasonable steps to prevent the trustee breaching the BFI Duty where they are in a position to influence the conduct of the trustee. It will be a criminal offence where there is dishonesty.

Record keeping

A standard-making power is inserted to enable Treasury to prescribe record keeping obligations, which will be a strict liability offence. These are not yet known.

Specific prohibitions on payments and investments

A regulation-making power is inserted to enable prohibition of certain payments or investments, and directors will be made accountable for this through a civil penalty provision.

The EM suggests that this would apply to payments where the trustees have used a third-party intermediary to procure the prohibited expenditure or investment on their behalf.

This is the anticipated anti- avoidance measure and provides for a level of intervention by Treasure in the operation of superannuation funds that is unprecedented.

Reverse evidentiary onus of proof

In any civil proceedings, the evidentiary burden of proof rests with the trustee or director. This means that if the trustee or director does not produce evidence that they complied with the BFI duty, it will be presumed that they did not comply.  If the trustee or director does provide some evidence they complied then the Regulator must establish their case on the balance of probabilities.

Other

The penalty provisions introduced by the Government under the Treasury Laws Amendment (Improving Accountability and Member Outcomes in Superannuation Measures No. 1) Act 2019 under s54B of the SIS Act will apply for breaches of the new duty for both the trustee and individual directors.

Explanatory memorandum

The 16-page EM expands on the only 7 pages legislative changes in the Bill. It arguably goes way beyond the scope of the Bill and possibly seeks to obviate the need for guidance from the Regulators.

The EM sets up dichotomies of “financial interest” and “non-financial interests”; “core” and essential expenditure as opposed to “discretionary” or “non-essential”.

“Quantifiable financial benefit”

There is no express requirement in the draft Bill for the “identification of a quantifiable financial benefit” as a threshold consideration for trustees. However, this concept may arise from the reversal of the onus of proof (discussed above) and the proposed record keeping obligations to be made by regulation.

“Strategic expenditure”

The EM introduces a concept of “strategic expenditure” (like member services or advice) which is not “core” or “essential” to the operation of a fund (like systems, risk management and governance). It suggests that strategic expenditure would require:

“A business case, supported by technical analysis (including cost benefit analysis, articulation of risks associated with achieving the outcome and any mitigation strategy) and quantifiable metrics to reflect expected financial outcomes.”

It also suggests that this would also apply to expenditure on “building a brand, promoting awareness of the fund or supporting external activities”.

Examples

The EM provides illustrative examples which are summarized below:

• Yellow Super has decided to spend an amount of beneficiaries’ funds in wellbeing and counselling services due to its preference for providing beneficiaries with a holistic retirement experience. While beneficiaries derive some benefits from these services, they are not financial benefits and offering the services comes at financial cost to the fund. This expenditure is unlikely to be in the best financial interests of beneficiaries.
• Red Super invests in a private health insurance company (Blue Health) which offers members access to online health and wellbeing information tool, which is offered to Red Super members for free. However as Blue Health investment meets the risk/return hurdles in the investment strategy, it is a permissible investment.
• Orange Super’s expenditure on a failed television marketing campaign is permissible because the trustee can produce to APRA detailed analysis showing the success of previous campaigns and unforeseeable events that impacted the failed campaign.

Third party payments

The EM states that trustees will need to conduct reasonable due diligence when assessing payments to a third party.

In a statement clearly directed at the Industry Super model:

“The use of an interposed corporate entity that a superannuation fund owns equity in to acquire services on behalf of the superannuation fund will not insulate the trustee from ensuring that the services that are ultimately provided to the fund are in the best financial interest of their beneficiaries.”

In another example in the EM, it is stated that Blue Trustee’ subscription fees to an industry representative body are not permissible because they are made without first closely examining what services will be provided in return for those fees and the services are in the best financial interests of members. The industry body then acts in a way not in the best financial interests of members.

This example raises a question of when payments by another person would be ‘on behalf’ of the fund.  On behalf would cover as agent for, and clearly covers custodians.  Does it extend to on trust for?  If a superannuation fund’s investment includes a listed property trust for example, are investments or other expenditures of that listed property trust on behalf of the unitholders in the trust?  Is a trustee expected to ensure, without regard to materiality, that every expenditure is in the best financial interest of members of the superannuation fund?  Is there a distinction between investment costs in the trust and costs of providing information to the superannuation fund trustee? It does not appear a reasonable or practical interpretation.

In case of an incorporated industry body, while consideration will be required about whether paying any subscription is in the best financial interests of members, payments by the industry body are not made on behalf of the superannuation fund.  If paying the subscription is in the best interests of members, it seems irrelevant that some of the expenses of the industry body were not in the best financial interests of members.

Stapled funds

One of the Government’s other “Your Future, Your Super” measures in the 2020 Budget is to implement Royal Commission recommendation 3.5 that a person can have only one default account.

It applies to persons commencing employment from 1 July 2021

The effect of the reforms will be:

• If an employee does not nominate an account at the time they start a new job, employers will have to ask to the ATO if the employee has a stapled fund;
• If they do have a stapled fund, generally the employer must pay their superannuation contributions to that fund;
• A stapled fund is an existing fund of the employee. If there is more than one, the ATO will determine which of the funds is a stapled fund in accordance with tie breaker rules to be set out in regulations, along the lines of the provisions about lost members – generally the fund into which contributions have most recently been made.
• Employers will obtain information about the employee’s existing superannuation fund from the ATO by logging onto ATO online services and entering the employee’s details.
• The second phase of the reforms will see the ATO provide a new service for employers. As of 1 July 2022, the ATO will enable digital software providers to give employers the option to automate the communications between the employer’s payroll system and the ATO system. Once this new service is adopted, it will remove the need for the employer to manually enter into their payroll system their employees’ superannuation fund details, reducing business administration costs.
• If an employee does not have an existing superannuation account and does not make a decision regarding a fund, the employer will pay the employee’s superannuation into their nominated default superannuation fund.

For employees starting from 1 July 2021, the employer will have to check with the ATO if the employee has a stapled fund, and if so pay to that fund even if payment to another fund would be required by an applicable workplace determination or enterprise agreement.

The draft EM makes clear that in the case where the default fund is an unfunded public sector scheme, or to a fund specified in a preserved or notional State agreement, payments to a stapled fund will be sufficient as an alternative, but are not required.

The stapling of super accounts measures are unlikely to require changes to a trustee’s compliance arrangements however it will greatly impact its marketing strategies.

Funds who are existing default funds for industries which typically employ young people, such as retail and hospitality will be in a strong position, as will funds with effective marketing strategies to millennials. Conversely, the growth of funds tied to industries which typically employ people in full-time positions later in life could be negatively impacted.

Information exchanged with the ATO about an employee for this purpose will be protected information as with taxation information.

It is expected that the regulations will set out timing and procedural aspects.

Annual performance tests

MySuper products will be subject to an annual performance test by 1 July 2021.

The initiative follows Productivity Commission recommendations to take measures to deal with underperforming funds with priority to MySuper products.

Based on Government announcements, if a fund is “underperforming” against prescribed index benchmarks, the same as those used for the APRA MySuper Heatmap, its Trustee will need to inform its members of this within 28 days of notification by APRA and let members know about the YourSuper comparison tool.

“Underperforming” funds will be denoted as such on the YourSuper comparison tool. Funds that fail two consecutive “underperformance tests” will not be permitted to accept new members into the relevant product, although it is clear from the exposure draft that members can be admitted to other products in the fund.

By 1 July 2022, annual performance tests will be extended to certain Choice superannuation accumulation products. The affected Choice products are defined as ‘trustee directed products’ (TDP).  These are APRA regulated products where the trustee has control over the design and implementation of the investment strategy and the strategy covers more than one asset class. We expect this will capture most Choice products that are not platform-type offerings.

Performance will be judged based on investment returns after tax and investment related fees, costs and taxes relative to a benchmark. Products that underperform their net investment return benchmark by 0.5 percentage points per year over an eight-year period will be classified as underperforming.

The exposure draft bill is consistent with the proposals but leaves many details to be addressed by regulations.

The exposure draft provides for regulations to allow APRA to require two or more products to be treated as one.  This could be used to prevent avoidance but might also apply in the case of a successor fund transfer or to new products in a fund that are similar.

Resolution powers

The exposure draft includes provisions clarifying that APRA’s power to impose prudential standards extends to the resolution of funds, trustees and connected entities of trustees.  “Resolution” means the process by which APRA or other persons manage or respond to the fund, the trustee, and associates of the trustee’s, inability or likely inability to meet obligations. This power applies from royal assent.

The power will be relevant to, but not limited to, a situation arising from failures arising from underperformance.

The potential application to connected entities is significant.  This term is defined in s50AAA of the Corporations Act and includes related bodies corporate of the trustee corporation, including for example an industrial organisation that may have a significant influence and holds shares in the trustee.

Trustees may be able to engage with APRA who may lift the prohibition on new members in underperforming products if requirements in the unreleased regulations are met.

This change will turn up the heat on underperforming funds that will need to seek better investment performance or look at merging with better performing funds and so expect this change to drive increased merger activity, which is in line with Government policy.

Previous Editions

You may also be interested in reading some of our other commentary in our previous editions’ spotlights:

• Hayne Royal Commission Response Bill – RegTracker 16 November 2020
• Design and Distribution Obligations – RegTracker 2 November 2020
• Your Future, Your Super – RegTracker – 19 October 2020
• Intra-fund advice – RegTracker – 5 October 2020
• Fee and Costs Disclosure – RegTracker – 21 September 2020
• APRA Data Collection Consultation – RegTracker –  7 September 2020
• APRA and ASIC approach to COVID-19 – RegTracker – 21 August 2020
• ASIC’s Internal Dispute Resolution Requirements – RegTracker – 7 August 2020
• Business Performance Review and Outcomes Assessment – RegTracker –  27 July 2020
• AFCA’s approach to Superannuation – RegTracker – 13 July 2020
• ASIC Interim Corporate Plan 2020-2021 – RegTracker – 26 June 2020
• Hawking of superannuation products – RegTracker – 12 June 2020
• New financial service: Acting as superannuation trustee – RegTracker – 29 May 2020
• Strengthening breach reporting – RegTracker –  15 May 2020