House of Representatives

Explanatory Memorandum

(Circulated by the authority of the Minister for Employment and Workplace Relations and Minister for Financial Services and Superannuation, the Hon Bill Shorten MP)

Chapter 1 - Fees, costs and intrafund advice

Outline of chapter

1.1 This chapter explains the requirement for an RSE licensee to elect not to charge commissions in respect of amounts held in a MySuper product, rules governing the charging for financial advice including intrafund advice and the general fee rules that will apply to regulated superannuation funds and approved deposit funds.

Context of amendments

1.2 The Government has committed to MySuper as a commission-free superannuation product. Therefore, to be authorised to offer a MySuper product, RSE licensees will need to design their MySuper products so that they do not charge any fee that relates to commission payments.

1.3 To ensure equitable charging of fees for financial advice provided to members, it is important that those members seeking more complex personal advice in relation to their superannuation bear the cost of that advice. However, it is appropriate that superannuation funds continue to be able to provide a member with simple, non-ongoing personal advice relating to the member's interest in the fund - commonly referred to as intrafund advice - and that this advice be able to be collectively charged across the fund's membership.

1.4 Performance-based fees are used as an incentive to encourage investment managers to obtain returns greater than they otherwise would if they were simply paid an asset-based fee. However, the Review identified a range of concerns with the current structure of performance-based fees that mean they may not always be in members' best interests. In response, the Government announced it would determine parameters for performance-based fee arrangements in MySuper.

1.5 The charging of fees within superannuation is a crucial determinant of the returns that members receive and the retirement benefits that accrue to members. Certain fees may also impede competition by inhibiting members from making active choices in relation to their superannuation. For these reasons, the Government has previously announced that entry fees would be prohibited and that certain other fees would be limited to being charged on a cost-recovery basis only. Further, a fair and reasonable allocation of costs between different products within a fund will ensure members are only charged for the benefits and services they are receiving.

Summary of new law

1.6 An RSE licensee that applies for authorisation to offer a MySuper product must elect not to charge members of a MySuper product a fee that relates to the payment of conflicted remuneration in relation to a MySuper product. This election effectively prohibits the trustee from deducting any amount from a MySuper product that relates to making a commission payment to a financial adviser.

1.7 New criteria will apply to any performance-based fee payable to an investment manager in relation to assets of a fund that are attributable to a MySuper product. However, a trustee may still have an arrangement without all or some of these criteria if they can demonstrate the arrangement promotes the financial interests of MySuper members.

1.8 Specific restrictions will apply to the types of personal advice that superannuation trustees can charge collectively across their membership. The types of personal advice for which a superannuation trustee cannot charge across the membership of the fund are those types of advice that are likely to be more complex in nature and therefore more costly to provide. Further, only personal advice that is of a one-off or transactional nature will be allowed to be spread across the membership of the fund. All personal advice provided to members must comply with the Corporations Act including the best interests duty, obligation for the advice to be appropriate and the conflicted remuneration and other prohibited remuneration provisions.

1.9 The cost of personal financial product advice that is provided to an employer of one or more members of the fund will be prohibited from being recovered through a fee charged to members of the fund. This prevents commissions and other costs being deducted from the balances of the employees of an employer in relation to advice that employer receives.

1.10 All regulated superannuation funds and approved deposit funds will have to comply with some general fee rules. These include a prohibition of entry fees and limitation on exit fees, switching fees and buy-sell spreads to being charged at an amount that is not more than it would be if it were charged on a cost recovery basis.

1.11 An RSE licensee that charges a different administration fee to employees of a particular employer in a MySuper product must comply with an additional condition in relation to that administration fee. The administration fee must be at least equal to the costs that reasonably relate to the administration and operation of the MySuper product for those employees.

Comparison of key features of new law and current law

Detailed explanation of new law

Election regarding fees in MySuper products relating to conflicted remuneration

1.12 An RSE licensee that applies for authorisation to offer a MySuper product must accompany their application with an election not to charge members of the MySuper product a fee relating to the payment of conflicted remuneration. [Schedule 1, item 18, subsection 29SAC(1)]

1.13 The RSE licensee must elect that they will not charge any member of the MySuper product a fee in relation to that MySuper product that relates directly or indirectly to costs of the fund in paying conflicted remuneration to a financial services licensee or a representative of a financial services licensee. This part of the election effectively prohibits the trustee from making any commission payment to a financial adviser that is deducted from a MySuper product. [Schedule 1, item 18, subparagraph 29SAC(1)(a)(i)]

1.14 In addition, the election by the RSE licensee also extends to not charging a member of the MySuper product a fee in relation to that MySuper product that relates to costs of the fund in paying an amount to another person that the RSE licensee knows, or reasonably ought to know, relates to conflicted remuneration paid by that other person to a financial services licensee, or a representative of a financial services licensee. [Schedule 1, item 18, subparagraph 29SAC(1)(a)(ii)]

1.15 Therefore, this second part of the election will prohibit an RSE licensee from paying premiums on insurance policies that have embedded commissions paid by an insurance company to a financial adviser in relation to the insurance arrangements offered through the superannuation fund. An RSE licensee will only have to elect not to pay amounts to other parties to the extent that they know or reasonably ought to know that the amount paid relates to the payment of conflicted remuneration. This prevents an RSE licensee breaching the election due to another party to whom they have paid an amount using part or that entire amount to pay conflicted remuneration that they are unaware of, and cannot reasonably be expected to be aware of.

1.16 For the purposes of this election, the meaning of conflicted remuneration will also cover financial product advice provided to the RSE licensee or to any other person to whom the RSE licensee pays an amount that relates to the conflicted remuneration paid to the financial services licensee or a representative of a financial licensee that provided the advice. [Schedule 1, item 18, subsection 29SAC(3)]

1.17 Under the Corporations Act, a trustee of a superannuation fund is considered to be a retail client if it has net assets of less than $10 million. This definition would exclude most RSE licensees. For this reason, all RSE licensees must be treated as a retail client to prevent the cost of commission payments relating to advice provided to the RSE licensee being deducted from a MySuper product in these circumstances. [Schedule 1, item 18, subsection 29SAC(3)]

1.18 For example, an RSE licensee may receive advice in relation to a life insurance product which the RSE licensee subsequently acquires for the MySuper product members of the fund and the insurer may pay a commission to the financial adviser in respect of that advice. The RSE licensee will be deemed to be a retail client in relation to this advice, which will mean that the commission is treated as conflicted remuneration for the purposes of the election, even if, under the Corporations Act, the RSE licensee is not a retail client.

1.19 If APRA is satisfied that the RSE licensee has failed to give effect to this election then they will have the ability to cancel an authorisation to offer a MySuper product. [Schedule 1, item 21, paragraph 29U(2)(k)]

1.20 The election must be in writing and in the approved form. [Schedule 1, item 18, paragraphs 29SAC(1)(b) and 29SAC(1)(c)]

Performance-based fees

1.21 New criteria will apply to any performance-based fee payable to an investment manager under a contract or arrangement to invest assets of a fund that are attributable to a MySuper product. [Schedule 1, item 36, section 29VD ]

1.22 Performance-based fees typically entitle the investment manager to a payment equal to a pre-determined percentage of the increased value of the asset or income received from the investment that exceeds a given benchmark over a particular testing period.

1.23 The criteria will apply to an arrangement entered into on or after 1 July 2013 if all or any part of the assets invested under that mandate is attributable to a MySuper product that the superannuation fund offers. [Schedule 1, item 36, subsection 29VD(1)]

1.24 There are five criteria that must be contained in the terms of the arrangement the fund has with the investment manager if there is a fee that is determined, in whole or in part, by reference to the performance of the investment made by the investment manager on behalf of the trustee or trustees of the fund. [Schedule 1, item 36, subsections 29VD(3 - 7)]

1.25 The first criterion is that if the investment manager is entitled to a fee in addition to the performance-based fee then this fee must be lower than it would be if there was no performance-based fee. [Schedule 1, item 36, subsection 29VD(3)]

1.26 This requires trustees to only agree to pay performance-based fees where the investment manager puts at risk the fees they would otherwise be entitled to. This ensures that there is sufficient incentive for the investment manager to achieve the required performance.

1.27 The second criterion is that the period over which the performance-based fee is determined must be appropriate to the kinds of investment to which it relates. [Schedule 1, item 36, subsection 29VD(4)]

1.28 To satisfy this requirement, certain assets, such as infrastructure, may require longer testing periods to reflect that these investments are usually made for several years and may have high costs to exit early. However, other assets that may be invested in over shorter periods, such as bonds, could have shorter testing periods.

1.29 The third criterion is that the performance of the investment must be measured by comparison with the performance of investments of a similar kind. [Schedule 1, item 36, subsection 29VD(5)]

1.30 An investment manager should only be paid a performance-based fee where they generate returns that are greater than assets with a comparable level of risk and that are subject to the same market forces. For example, a performance-based fee for any shares traded on the Australian Securities Exchange could be measured by comparison to an after-tax benchmark that uses the All Ordinaries index. In this example, it would not be appropriate to determine the performance of these shares against the interest rate paid on Commonwealth Government Securities.

1.31 The fourth criterion is that a performance-based fee must be determined on an after-costs and, where possible, an after-tax basis. [Schedule 1, item 36, subsection 29VD(6)]

1.32 This is consistent with the new obligation of RSE licensees in relation to members that hold a MySuper product to promote the financial interests of members, in particular returns to those beneficiaries (after the deduction of fees, costs and taxes). Consistent with this obligation, the trustee should only agree to an arrangement that is targeted to the objective of maximising the returns members receive.

1.33 The fifth criterion is that the performance-based fee must be calculated in a way that includes disincentives for poor performance. [Schedule 1, item 36, subsection 29VD(7)]

1.34 Superannuation is a long-term investment and the culmination of returns over a long period determines a member's retirement benefit. For this reason, there must be commensurate disincentives for investment managers to avoid underperformance compared to the potential performance-based fee that provides the incentive to outperform.

1.35 A disincentive for poor performance must be part of the calculation of the performance fee that is payable in any given testing period.

1.36 For example, there may be clawback provisions that require performance-based fees from earlier testing periods to be returned to the superannuation fund if the investment manager underperforms in the current testing period. Also, there could be high-water mark provisions that require an investment manager to recover prior periods of underperformance before becoming entitled to a performance-based fee in the current testing period.

1.37 The ability to terminate the arrangement with an investment manager without reasons and at short notice is not sufficient to satisfy this criterion.

1.38 A lack of disincentives can encourage investment managers to pursue volatile investments that may entitle them to a performance-based fee in one period without that fee being at risk in later testing periods. This short-term focus without any consequences for the longer term return is not in the interests of members for whom the ultimate objective is to maximise their retirement benefit.

1.39 However, despite these five criteria, a RSE licensee may still have an arrangement under which assets attributable to the MySuper product are invested subject to a performance-based fee which does not meet the criteria if it can demonstrate the arrangement promotes the financial interests of the members of the fund that hold the MySuper product. [Schedule 1, item 36, subsection 29VD(8)]

1.40 These criteria should be able to be included in the majority of arrangements that trustees have with investment managers. It would be difficult for a trustee to assert that a particular arrangement that did not meet some or all of the criteria was in the best financial interests of MySuper members where they could invest in those same assets under an alternative arrangement that includes a performance based fee that does contain these criteria or has no performance based fee. However, it may not be possible to access certain assets, in particular assets sold through international markets, without entering into an arrangement that does not contain one or more of these criteria.

Intrafund advice

1.41 Superannuation funds often provide financial product advice to their members - commonly referred to as intrafund advice. This financial product advice can be general (that is advice that does not take into account the particular circumstances of the client) or personal (advice that does take into account those circumstances). In the case of general advice, it might be delivered through lectures or website material, while personal advice is more likely to be delivered through a call centre or meeting. As long as the superannuation trustee complies with the sole purpose test under the Act, there are currently no restrictions on trustees passing on the costs of providing this advice to their membership, most commonly through the administration fee.

1.42 In recognition of the importance of retirement savings not being eroded through excessive fees, the amendments place specific restrictions on the types of personal advice that superannuation trustees can charge across their membership as intrafund advice. The amendments do not seek to inhibit the ability of a superannuation trustee to provide advice to their members, but recognise that the cost of providing some types of advice should be incurred directly by the member receiving the advice rather than the membership of the fund as a whole.

1.43 The types of personal advice for which a superannuation trustee will not be able to charge across the membership of the fund are those types of advice that are likely to be more complex in nature and therefore more costly to provide. In particular, a trustee will not be able to charge across their membership for personal advice, provided by the trustee or an employee or person acting under an arrangement with the trustee, to the extent that:

•

the person to whom the advice is given has not acquired a beneficial interest in the fund, and the advice relates to whether the person should acquire such an interest;

•

the advice relates to a financial product other than a beneficial interest in the fund, a related pension fund, a related insurance product or a cash management facility;

•

the advice relates to whether the member should consolidate their superannuation holdings in two or more superannuation entities into one; or

•

the advice is ongoing personal advice, insofar as there is a reasonable expectation that the trustee will periodically review the advice, provide further personal advice, monitor the implementation of recommendations or other prescribed circumstances apply.

[Schedule 1, item 40, subsection 99F(1)]

1.44 In relation to the last item of the list, the amendments only allow the cost of personal advice that is of a one-off or transactional nature to be spread across the membership of the fund. Costs for an ongoing advice relationship must be charged directly to the member. Under this amendment, advice will be ongoing (and therefore subject to the prohibition) where the member of the fund who receives the advice reasonably expects that the provider will periodically review the advice, provide further personal advice, monitor whether recommendations in the advice are implemented, or monitor the results of implementing the recommendations. [Schedule 1, item 40, subparagraph 99F(1)(c)(iv)]

1.45 In addition, it is expected that superannuation trustees that offer advice services to their members that are collectively charged across the membership of the fund will have in place internal policies to manage the costs of those services and ensure they are not excessively used by any particular member to the detriment of other members.

1.46 The amendments allow for the collective charging for advice relating to a member's beneficial interest in the fund, including advice about moving between investment options within the fund (for example, from an accumulation option to a pension option). The amendments also allow collective charging for advice about a related pension fund for the member and the fund, a related insurance product for the member and the fund, or a cash management facility. [Schedule 1, item 40, subparagraph 99F(1)(c)(ii)]

1.47 These terms are defined for the purposes of this section. A related pension fund is a fund out of which the member of the superannuation fund would be entitled to receive a pension following the release of benefits from the superannuation fund, where the RSE licensee for the pension fund is the RSE licensee for the superannuation fund, or is an associate of that RSE licensee. [Schedule 1, item 40, subsection 99F(2)]

1.48 This allows for collective charging for advice in relation to moving a member, for example, from an accumulation fund to a related pension fund. However, this will exclude personal advice to the member about a specific financial product that the member's beneficial interest should be invested in (for example, advice in relation to a regulated acquisition as defined in section 1012IA of the Corporations Act). The cost of such advice must not be charged across the membership of the fund.

1.49 A related insurance product is a life policy or contract of insurance by which the trustees of a fund provide insurance to holders of a particular class of beneficial interest in the fund. [Schedule 1, item 40, subsection 99F(3)]

1.50 A cash management facility an interest in a cash management trust, a basic deposit product or a bank accepted bill. [Schedule 1, item 40, subsection 99F(4)]

1.51 The amendments also provide for additional circumstances in which the cost of providing personal advice must be charged directly to a member to be prescribed by regulations. This provides for the flexibility to allow for further circumstances or types of advice to be added, should evidence indicate that the costs of superannuation trustees to provide this form of advice are unreasonably eroding retirement savings. [Schedule 1, item 40, subparagraph 99F(1)(c)(v)]

1.52 Many superannuation trustees outsource their advice services to an external advice provider rather than providing these services in-house. The rules outlined in these amendments governing the cost of financial product advice apply regardless of whether the advice is provided in-house or through an external advice provider acting under an arrangement with the trustee. [Schedule 1, item 40, paragraph 99F(1)(a)]

1.53 Nothing in these amendments operates to exclude the application of the laws governing the provision of financial product advice imposed by the Corporations Act. Importantly, this means that personal advice provided to members must be appropriate and in the best interests of the member. These amendments are about how superannuation trustees recover the costs of providing advice services to their members.

1.54 ASIC is the responsible regulator for intrafund advice. However, APRA may also cancel an RSE licensee's authorisation to offer a MySuper product if, on the advice of ASIC, it is concluded that the RSE licensee has not complied with section 99F. [Schedule 1, item 20, paragraph 29U(2)(d)]

General fee rules

1.55 General fee rules will apply to certain fees charged by regulated superannuation funds and approved deposit funds. However, these rules will not apply to SMSFs and pooled superannuation trusts. [Schedule 1, item 34, section 99A ]

1.56 While RSE licensees will have to comply with the general fee rules for all products they offer APRA will be able to specifically ensure that the general fee rules are complied with in relation to a MySuper product at the time they consider an application for authorisation. If a RSE licensee does not comply with the general fee rules they will be in breach of a standard condition on their RSE licence. In addition, if they do not comply with the general fee rules in relation to the MySuper product then APRA may cancel authorisation of that MySuper product. [Schedule 1, item 19, paragraph 29T(1)(i) and Schedule 1, item 20, paragraph 29U(2)(d)]

1.57 The cost of financial product advice (other than intrafund advice) provided to a member will be able to be charged to that member as an advice fee. [Schedule 1, item 31, subsection 29V(8)]

1.58 The MySuper Core Provisions Bill requires an RSE licensee to charge each member that has an interest in a MySuper product, and to whom a particular activity relates, an activity fee calculated on the same basis. For example, each member that requests that their contribution is split must be charged the same flat fee, same percentage fee or same combination of flat fee and percentage fee.

1.59 Therefore, to allow the costs of financial advice to be passed directly to the member to whom it relates, an advice fee relating to financial advice will not have to comply with the charging rules in relation to MySuper products and may be a different fee for each MySuper member. [Schedule 1, item 33, subsection 29VA(9)]

1.60 This means that for more complex financial advice the trustee may charge for certain financial advice as an activity fee to pass the cost of that advice directly onto the member who was provided that advice rather than charging the costs of that advice to all members of the fund. Financial advice may also be charged as part of the administration fee to all members of the fund unless it is a certain type of personal advice that must be charged to the member to whom the advice relates.

1.61 The cost of insurance premiums and any costs relating to the provision of insurance for the member may be charged as an insurance fee. The premiums that can be included in an insurance fee must be for an insurance policy or contract for the realisation of a risk. It cannot include premiums paid for an insurance policy or contract that is for investment. These costs, if charged for, must be part of the investment fee. [Schedule 1, item 33, subsection 29VA(10)]

1.62 The definition of insurance fee clarifies that amounts deducted for the cost of insurance are to be considered a fee and, therefore, fall within provisions that apply to fees such as the election not to charge a fee that relates to conflicted remuneration.

1.63 An insurance fee in relation to a MySuper product will not have to comply with the charging rules in relation to MySuper products and may be a different fee for each MySuper member. This allows variability in the insurance fee to reflect that there are different premiums that are attributable to members depending on their level of coverage and other relevant factors such as the age of the member.

1.64 The insurance fee charged must be an amount that is not more than it would be if it were charged on a cost recovery basis. This will ensure that a trustee cannot charge above cost fees outside of the two main headline fees of a MySuper product - the investment fee and administration fee - and the advice fee which may be charged where the member seeks financial advice. These two main headline fees will be a key point of comparison between MySuper products, and therefore, by only allowing certain fees to be charged greater than cost recovery, this comparability will place downward pressure on the total fees that are charged to members in MySuper products. [Schedule 1, item 36, subsection 29VC ]

1.65 Similarly, an activity fee in MySuper will be limited to being charged at an amount that is not more than if the fee was charged on a cost-recovery basis. [Schedule 1, item 36, subsection 29VC ]

1.66 The charging of entry fees will be prohibited. An entry fee is defined as a fee that relates, directly or indirectly to the issuing of a beneficial interest in a superannuation entity to a person who is not already a member of the entity. [Schedule 1, item 40, subsection 99B(1)]

1.67 Buy-sell spreads, switching fees and exit fees will only be able to be charged as an amount that is not more than it would be if the fee was charged on a cost recovery basis. [Schedule 1, item 40, subsection 99C(1)]

1.68 Charging a fee on a cost recovery basis means that the fee aims to recover the expected costs of that action. It does not require precise cost recovery in each instance of the fee being charged to a member. Rather, a cost recovery basis would mean that the cumulative amount of fees must equal, as close as is practicable, the costs of undertaking that action for all members that are charged the fee.

1.69 Regulations, if any, may prescribe in further detail ways in which these fees may be calculated on a cost-recovery basis. [Schedule 1, item 40, subsection 99C(2)]

1.70 The costs of providing personal financial advice to employers cannot be included in any fee charged to any member of a superannuation fund. Employees should not have their benefits reduced by costs relating to personal advice provided to their employer in satisfying their superannuation guarantee obligations, including selecting a default fund for the contributions of their employees. [Schedule 1, item 40, section 99D ]

1.71 Trustees must attribute costs of the fund fairly and reasonably between the classes of beneficial interest in the fund. This means that costs must be fairly and reasonably allocated across all MySuper products and choice products offered by the fund. The attribution of costs will be reflected in the fees charged to members consistent with the RSE licensee satisfying its obligation to act fairly in dealing with classes of beneficiaries within the entity. However, the fair and reasonable attribution of costs also means that an RSE licensee should only deduct costs that solely relate to a class of beneficiaries from that class. For example, if there are certain costs of the fund which only relate to a choice product, then these costs should only be deducted from that choice product. There will also be some costs that are common to more than one class of beneficiaries for which there may be more than one method for attributing them fairly and reasonably. [Schedule 1, item 40, subsection 99E ]

1.72 The definitions of administration fee, activity fee, investment fee, buy-sell spread, exit fee and switching fee, as included in the MySuper Core Provisions Bill, will be amended to refer to superannuation entities. These definitions are used in the general fee rules which will apply to entities that are not a regulated superannuation fund such as an approved deposit fund. These definitions and the definition of general fee rules will be included in the definitions of the Act in subsection 10(1) of the SIS Act. [Schedule 1, 23 - 30, section 29V ]

1.73 As there will be new general fee rules, fees will be explicitly added as a matter that can be dealt with in operating standards made in the SIS Regulations. [Schedule 1, item 37, paragraphs 31(2)(da) and 31(2)(db)]

1.74 To avoid doubt, operating standards may be prescribed for any aspect of the operation of an entity to which a covenant or other provision of the Act or Regulations relates. Further, an operating standard is of no effect to the extent it conflicts with the Act. [Schedule 1, item 38, section 33A ]

Additional condition administration fee discounts

1.75 The MySuper Core Provisions Bill sets out the conditions that must be met for a fund to be able to offer a different administration fee in respect of employees of a particular employer, such as, that the administration fee charged must be the same for each employee of that particular employer.

1.76 An additional condition to be met by is that the total amount of the administration fee charged to the employees of a particular employer must be at least equal to an amount that reasonably relates to the administrative and operating costs incurred by the fund in relation to those members. This aims to ensure that any discounted administration fees reflect actual administrative efficiencies, and also prevent cross subsidisation of administration fees across different members of a fund. [Schedule 1, item 35, subsection 29VB(5)]

1.77 The condition only applies to the administration fee charged in relation to the members that are employees of the employer. It does not prevent an employer from directly subsidising the administration fees of their employees. In other words, the fee charged in relation to members that are employees of the employer must at least equal the costs in the administration and operation of the fund in relation to the members that are employees of the employer but the fee may be paid fully or partly by the employer.

1.78 Any costs incurred by the trustee of the fund in the administration and operation of the fund that are charged as part of an investment fee, a buy-sell spread, a switching fee, an exit fee or an activity fee are excluded from this additional condition as these fees will have to be the same for all MySuper members, not just the employees of a particular employer. [Schedule 1, item 35, paragraph 29VB(5)(b)]

Application provisions

1.79 The general fee rules will not apply to a fee to the extent that it is charged to a member in relation to a life policy that covered that member immediately prior to 1 July 2013 and that policy is:

•

a capital guaranteed life insurance policy where the contributions and accumulated earnings may not be reduced by negative investment returns or any reduction in the value of assets in which the policy is invested;

•

an investment account contract that is held solely for the benefit of that member, and relatives and dependants of that member - to cover legacy products such as endowment and whole of life policies. [Schedule 1, item 41 ]

1.80 The general fee rules will commence immediately after the provisions of the MySuper Core Provisions Bill that relate to authorisation. This allows APRA to assess trustees against the general fee rules, in addition to the MySuper fee rules, when they apply for authorisation to offer a MySuper product.

1.81 However, the general fee rules will only apply to funds from 1 July 2013. [Schedule 1, item 41 ]