1. Introduction


Background to the Report

On 2 October 2001 the Government released an Issues Paper, Options for Improving the Safety of Superannuation (the Issues Paper). The Issues Paper raised a number of proposals for the supervision and governance of superannuation entities.

A Superannuation Working Group (SWG) was established to conduct consultations on the Issues Paper proposals and to develop legislative options to put to the Government. The SWG comprised representatives from the Treasury, the Australian Prudential Regulation Authority (APRA) and the Australian Securities and Investments Commission (ASIC) and was chaired by Mr Don Mercer. This Report contains the SWG's recommendations for legislative reform, incorporating views expressed in the public consultation process.

The consultation process involved written submissions and two rounds of public consultations: a roundtable of stakeholders was held in Canberra on 13 December 2001, and further focus group discussions were held in Sydney and Melbourne on 6 and 7 March 2002, respectively.

Following the December consultations, the SWG released a Background Issues Paper on 24 December 2001. This paper fleshed out in greater detail some of the proposals in the Issues Paper, particularly in light of comments received at the consultation meeting, along with a summary of the views expressed on particular proposals at the meeting. To promote a more fulsome discussion about the options for improving the safety of superannuation, that paper went further, in some respects, than the proposals raised in the Issues Paper. However, it did not purport to be a complete analysis of all the relevant issues.

Written submissions were sought by 1 February 2002. The SWG received 52 submissions from a wide range of stakeholders, including industry associations, individual funds and service providers, consumer groups and individuals. A list of submitters who did not indicate that their submissions were to be treated as confidential is provided in Appendix 1.

Following consideration of the submissions and the discussion at the meeting held in December, the SWG prepared a further document containing draft recommendations for discussion at the March focus group discussions. Those draft recommendations have been further refined as a result of the feedback received at the March meetings, and are now reflected in the final recommendations to Government contained in this Report.

The members of the SWG would like to place on the record their appreciation for the frank and co-operative response to the consultation process. We believe that the process has enabled us to develop recommendations that appropriately balance all of the interests associated with the regulation of superannuation and to give them a practical focus that addresses industry practice.

That said, we have not adopted all of the views expressed in submissions or during consultations. The overriding objective has been to ensure that the regulatory framework for the superannuation industry is robust and provides adequate levels of safety for the retirement savings of the community. In relation to some proposals, we have taken the view that reform is necessary to achieve this objective, notwithstanding that there has been some opposition to proposals expressed during consultations. In this Report we seek to explain why we have adopted that approach.

Purpose of proposals

The Issues Paper indicated that there had been an increasing focus on the regulation of the superannuation industry given some recent well-publicised failures, the collapse of the HIH Insurance Group and comments made by the Reserve Bank Governor (as an Australian Prudential Regulation Authority (APRA) Board member). It also identified some of the particular supervisory challenges faced by APRA in relation to superannuation.

In response to these concerns, the SWG was asked to consult on a limited range of issues directed at ensuring that the prudential regulatory framework for the superannuation industry is robust and provides adequate levels of safety for the retirement savings of the community. There are a number of other reviews and inquiries considering aspects of the regulatory framework for superannuation, some proposals for change and some recent legislative amendments (see Appendix 2). The SWG's recommendations need to be considered in the context of these other processes and changes, as they address particular concerns about the regulatory framework for superannuation, rather than providing a complete answer. The scope of the review was deliberately limited to proposals for improved prudential supervision that could be implemented at the earliest possible time. That underlying objective has been reflected in the SWG's recommendations.

One of the themes in a number of submissions to the SWG was that there had not been sufficient identification in the Issues Paper or in the subsequent Background Issues Paper of the particular areas of concern. The view was put that those areas of concern should be analysed in detail, and the proposals should be specifically targeted to the problem areas and costed prior to being recommended. It was also noted by some that the most significant recent failures had been in relation to funds with Approved Trustees, and thus queries were raised about applying a licensing regime to all trustees. In particular, some suggested that to the extent that the Issues Paper identified concerns, they were largely in relation to trustees of small corporate superannuation funds and thus the proposals for reform should be directed at those trustees.

The SWG takes the view that while many areas of the regulatory framework are operating effectively, it is an opportune time to consider the current framework from a 'preventative maintenance' perspective. One lesson learnt from recent failures, both in Australia and internationally, is that the costs of rectifying problems after the event may far exceed the costs of preventing those problems from occurring in the first place. In addition, the costs associated with past experience are not representative of the costs of fund failure which may be experienced in the future. Examples of recent large-scale corporate collapses demonstrate the need for vigilance by policy makers and regulators to ensure that the regulatory framework is operating effectively, and that the regulator is appropriately resourced and able to deal with issues at an early stage. In response, the SWG has been conscious of the need to create a robust prudential regime which is administered by a competent and well-resourced regulator.

The SWG also acknowledges that the Issues Paper identified specific examples of concerns in relation to small corporate superannuation funds. However, during the course of the consultation process, APRA has provided anecdotal evidence accumulated on an on-going basis of wider spread problems across the superannuation industry. Although APRA seeks to address these issues through its on-going supervision, weaknesses in the current regulatory toolkit, and the resource intensiveness of addressing issues through on-going supervision makes this a difficult task. The SWG believes that the concerns need to be addressed more proactively through legislative reform.

In addition, examples provided in Appendix 3 confirm that problems manifest in funds both with and without Approved Trustees. Many of these concerns relate to poor investment practices, often arising from flawed management practices and procedures. Evidence provided to the Senate Select Committee on Superannuation and Financial Services also identified concerns stemming from a lack of experience and knowledge of the legislation governing superannuation funds; a lack of monitoring by trustees of the superannuation fund's operations; and a lack of appropriate internal controls to ensure that funds are being managed in accordance with superannuation legislation and the governing rules.1 The SWG's recommendations seek to address similar concerns.

In light of this, the SWG believes it is necessary to consider the appropriateness of the prudential regulatory framework as a whole for all superannuation funds, rather than targeting specific areas of concern. If that framework is appropriate, then the risk of problems arising in particular areas will be minimised. However, as noted by the Financial System Inquiry (FSI), those risks cannot and should not be completely eliminated.2 One of the key functions of financial markets is to price that risk. Furthermore, fraud cannot be absolutely regulated against, but threshold licensing requirements and on-going monitoring obligations can assist in minimising it.

The SWG has considered the appropriate prudential regulatory framework for all superannuation funds. However, the SWG acknowledges that there is significant diversity in structure and size of superannuation funds. It has sought to address that diversity through recommending a set of general principles capable of application across all funds, but with in-built flexibility to recognise the diversity of different funds.

The SWG also acknowledges the differences between those funds with a representative trustee structure and those without, and believes there can be considerable strength in the representative trustee structure. A number of submissions took the view that the representative trustee structure justified a significantly different regulatory structure to that applying to other superannuation funds. In particular, the view was put that there were different incentives and motivations between not-for-profit funds and those funds that are operated for profit.

The SWG does not deny those differences, but believes that they do not justify a radically different regulatory regime. Regardless of whether a fund is run for profit or not, members need to have the same confidence in the soundness of the trustees to manage their retirement savings. A representative trustee structure, while giving employees a voice in running the fund, does not guarantee the competence of those trustees to operate the fund. For this reason, the SWG believes that its recommendations are equally appropriate to funds that are not operated for profit and those that are - in fact, as noted above, the SWG's recommendations provide some in-built flexibility.

In relation to the costs of the proposals, in most cases the SWG's recommendations are intended to reflect nothing more than good trustee practice, and should not represent a significant cost to well-run funds. In addition, as with the costs of poor trusteeship, the benefits of good trusteeship are systemic and difficult to quantify. However, the SWG recognises that trustees may be concerned about the costs of implementing the SWG's recommendations. Many of the recommendations are at relatively high level of generality with acknowledgement that further consideration will need to be given to the detail in developing the legislation. The SWG is recommending that the Government consult closely with all relevant stakeholders in the development of the legislation to ensure that the changes are not unrealistic or unduly costly. It will also be necessary to prepare a Regulation Impact Statement assessing the costs and benefits in the development of the legislative proposals.

Enforcement focus

Another significant theme running through submissions was that the basic legislative framework for the regulation of superannuation was sound and what was really needed was a well-resourced regulator with an enforcement focus. A number of submissions took the view that it was not appropriate to give APRA further powers until it had fully used all of the powers that it currently has.

The SWG considers that the soundness of the regulatory framework and the ability of the regulator to enforce that framework are two distinct issues. They are not alternatives to a robust superannuation industry, but are both essential components.

The focus of the SWG has been on the regulatory framework, and not the resourcing or practices of the regulators. However, the SWG agrees that a well-resourced regulator with a strong enforcement culture is vital to a healthy superannuation industry. Some changes have already been made to assist APRA with its enforcement activities. A number of other inquiries are considering whether further changes and additional resourcing are necessary to assist APRA.

  • In 2001, APRA received $2.1 million for 2001-02, and $3.1 million for 2002-03 and on-going, for increased prudential supervision of superannuation.
  • APRA has significantly increased supervisory activity of superannuation funds. Visits to individual funds are expected to increase from just under 600 in a year to June 2001 to around 1,000 in the current financial year. Around 80 consultations or visits will also be held with Approved Trustees or financial conglomerates which include superannuation entities.
  • The Financial Sector Legislation Amendment Act 2001 commenced in January 2001. The Act provided the regulators (APRA, Australian Securities & Investments Commission (ASIC) and the Australian Taxation Office (ATO)) with a range of new enforcement powers, including the power to disqualify persons considered not 'fit and proper' to be involved in administering superannuation, and the ability to accept voluntary undertakings from persons involved in superannuation administration, and to enforce such undertakings through a Court. The Act also converted certain offence provisions under the SIS Act from fault liability to strict liability, and converted some fault liability offences to two-tier offences with both fault and strict liability limbs.
  • APRA is in the process of refining the annual returns and reporting requirements for superannuation funds to ensure that data reported by funds is comprehensive and accurate, with the ultimate aim of ensuring that information is timely and relevant, and assists APRA to identify and address areas of potential concern before they become significant.

The SWG encourages further consideration of changes necessary to ensure that there is appropriate enforcement of the regulatory framework.

However, the problems identified with the operation of some superannuation funds indicate that the regulatory framework is not perfect and requires some modification. It is also far from clear that greater enforcement activity by APRA will necessarily address all of the problems. In particular, given the large number of funds in the industry, it would be extremely resource-intensive and costly for APRA to closely monitor all funds. The SWG's recommendations seek to reduce the on-going monitoring burden upon APRA through minimum entry requirements, greater disclosure and requiring trustees to have a greater compliance focus.

1 Senate Select Committee on Superannuation and Financial Services 2001a, Prudential Supervision and Consumer Protection for Superannuation, Banking and Financial Services, First Report (Senator J. Watson, Chair), Canberra, August, paragraph 3.17.

2 Financial System Inquiry 1997, Financial System Inquiry Final Report, (Mr. S. Wallis, Chairman), Australian Government Publishing Service, Canberra, March, paragraph 5.1.