The Productivity Commission (PC) released a draft of its final report assessing the efficiency and competitiveness of Australia's superannuation system for consultation on 29 May: Superannuation: Assessing Efficiency and Competitiveness. The draft report found that due to inadequate competition, governance and regulation, and the 'twin problems' of unintended multiple accounts and 'entrenched underperformance' the current superannuation system is not delivering value for all members but instead has become, according to Productivity Commission Deputy Chair Karen Chester, 'an unlucky lottery for many Australian workers and their families'.

The report makes 22 draft recommendations to address these issues. A high level overview of the draft findings and recommendations in the report is below.

Draft Findings

The draft findings relate to investment performance; fees and costs, members' needs, member engagement, erosion of member balances; market structure; contestability and behaviour; insurance; fund governance; system governance; competing for default members and an overall assessment. Key findings include the following.

The report found overall that the superannuation system delivers mixed results to members:

• While some funds consistently achieve high net returns, a number of products (including defaults) underperform.
• A third of accounts (10 million) are 'unintended multiple accounts' which 'erode members' balances by $2.6bn a year in unnecessary fees and insurance'.
• Fees remain a significant drain on net returns.
• Not all members get value out of insurance in superannuation due to the erosion of balances by duplicate or 'zombie' policies.
• The system offers products and services that meet most members' needs, but members lack access to quality, comparable information to help them find the best products.

The report found these outcomes are due to 'inadequate competition, governance and regulation'.

• Lack of competition: Rivalry between funds in the default sector was found to be 'superficial' and competition in the 'choice' sector was described as 'unhealthy' with a 'proliferation' of over 40,000 products. The report also questions why there have not been more fund mergers: 'Evidence of unrealised economies of scale, persistent underperformance and an entrenched large number of small funds — about half of all APRA regulated funds have less than $1 billion in assets — raises the question of why there have not been more fund mergers, given the likely benefits for members'.
• Regulations and regulators were found to 'focus too much on funds rather than members' and it was suggested that there is some confusion over the roles of the regulators: The report states that the 'key regulators — the Australian Prudential Regulation Authority (APRA) and the Australian Securities and Investments Commission (ASIC) — are doing well in their core duties of prudential regulation (APRA) and financial product and advice regulation (ASIC)' respectively, but that there is some confusion around the two regulators roles, given both have powers to police bad behaviour by trustee boards. The report adds that 'Strategic conduct regulation appears at times to be missing in action. Ideally, this would involve a regulator proactively identifying actual or potential instances of material member harm, investigating the underlying conduct and taking enforcement action in a way that provides a valuable public deterrent to future poor conduct. To date, there has been a deficit of public exposure of poor conduct (and associated penalties) to demonstrably discourage similar behaviour by others — now and in the future.'

Poor quality data and disclosure were also found to prohibit accountability to both members and regulators.

Draft Recommendations

The report includes 22 draft recommendations aimed at 'modernising' the superannuation system to address the issues identified above. The draft recommendations include the following.

New way of allocating default members to products and addressing the issue of multiple 'unintended accounts'.

• Members default once and retain their existing account for new jobs: The report recommends that default superannuation accounts should only be created for members who are new to the workforce or do not already have a superannuation account (and do not nominate a fund of their own). This fund would then 'follow' the member, not the employer over the course of the members' working life so that, over time, the member would only be paying fees/insurance on one account (rather than multiple accounts).
• 'Best in show' shortlist for new members: The report recommends that a single shortlist of up to 10 superannuation products should be presented to all members who are new to the workforce (or do not have a superannuation account), from which they could choose a product via a centralised online service (or nominate any other fund). Any member who fails to make a choice within 60 days would be defaulted to one of the products on the shortlist, selected via sequential allocation.
• Independent panel for 'best in show' selection: The report recommends that the government establish an independent expert panel to run a competitive process for listing superannuation products on the online shortlist. This panel should select from products submitted by funds that meet a clear set of criteria and are judged to deliver the best outcomes for members. The report recommends that this process should be repeated, and the panel reconstituted, every four years.
• Enable the ATO to auto-consolidate lost accounts: The report recommends that the government legislate to enable the ATO to 'auto consolidate' lost accounts into a members' active account and to reduce the 'lost inactive' activity threshold from five to two years.

These measures, the Productivity Commission said, would solve the problem of members with multiple super accounts paying multiple administration fees and insurance premiums as well as the issue of members 'unwittingly' joining poor performing funds as only the best performing funds would be included in the 'best in show' list.

Insurance and fees related measures

• Annual disclosure of all trailing commissions to members: The report recommends that funds be required to clearly inform, all members who are subject to trailing financial adviser commissions on an annual basis. In addition, the report recommends all funds should publicly disclose the extent of trailing commissions and number of affected members in their annual reports and provide this information to the Australian Securities and Investments Commission (ASIC).
• Opt-in insurance for members under 25: The report recommends that insurance through superannuation should only be provided to members under the age of 25 on an opt in basis and that the government should legislate to require trustees to obtain the express permission of younger members before deducting insurance premiums from these members' accounts.
  Cease insurance on accounts without contributions: The government should legislate to require trustees to cease all insurance cover on accounts where no contributions have been obtained for the past 13 months, unless they have obtained the express permission of the member to continue providing the insurance cover.
• Cap Fees: The government should legislate to extend MySuper regulations limiting exit and switching fees to cost recovery levels to all new members and new accumulation and retirement products.

[Note: Many of these measures including proposals to cap administration/investment fees; implement 'opt in' for certain accounts and to consolidate inactive, low balance accounts were included in the 'protecting your super package' announced in the Federal budget 2018-2019. Draft legislation: Treasury Laws Amendment (Protecting Superannuation) Bill 2018 and explanatory material to implement the package was released for consultation earlier this month and closed on 29 May. See: Governance News 14/05/2018.]

• Independent Review of Insurance in Superannuation: The report recommends that the government commission a formal independent review of insurance in superannuation to evaluate the effectiveness of initiatives to date, examine the costs and benefits of retaining current insurance arrangements on an opt‑out (as opposed to an opt‑in) basis, and consider if further regulatory intervention or policy change is required.

Industry Code of Conduct

• Signing on to the Insurance Code of Conduct to be a Mysuper condition: The report proposes that the adoption of the Insurance in Superannuation Voluntary Code of Practice should be a mandatory requirement of funds to obtain or retain MySuper authorisation.
• Insurance Code Taskforce: The report recommends that the government should establish a joint regulator taskforce to advance the Insurance in Superannuation Voluntary Code of Practice and maximise the benefits of the code in improving member outcomes. Both ASIC and APRA should be members of the taskforce, with ASIC taking the lead. The taskforce should: monitor and report on adoption and implementation of the code by funds; provide guidance on and monitor enhancements to strengthen the code, particularly implementation of standard definitions and moving to a short‑form annual insurance statement for members; advise the industry what further steps need to be taken for the code to meet ASIC's definition of an enforceable code of conduct. The taskforce should annually report findings on industry progress on the code. The report suggests code owners should be given two years to strengthen the code and make it binding and enforceable on signatories before further regulatory intervention is considered.

Lifting the performance of boards: Stronger regulatory oversight and stronger governance rules

• Stronger oversight of MySuper outcomes test by APRA: The report recommends that the government legislate to enable APRA to apply the MySuper outcomes test. The report also recommends that the authorisation rules for MySuper should be further strengthened.
• Stronger governance rules for board appointments: The report recommends that the government should legislate to require trustees of all superannuation funds to use and disclose a process to evaluate and report on their board's performance including any board skills gaps. The report proposes that APRA should be provided with the outcomes of such evaluations as soon as they have been completed and that legislative restrictions on the ability of superannuation funds to appoint independent directors to trustee boards should be removed. More particularly, the report recommends that fund boards should include one third independent directors.

[Note: Legislation which among other things, would require RSEs to have a least one third independent directors and for the Chair to be one of these independent directors: Superannuation Laws Amendment (Strengthening Trustee Arrangements) Bill 2017 was introduced into the Senate last year, but has not progressed due to lack of support see: Governance News 30/10/2018]

• Stronger oversight (by APRA) of outsourcing arrangements: The report recommends that APRA should require all APRA regulated superannuation funds to conduct formal due diligence of their outsourcing arrangements, at least every three years, to ensure the arrangements provide value for money and report annually. APRA should also expedite efforts to address inconsistencies in reporting practices.

[Note: APRA has recently conducted thematic reviews and made recommendations to improve the governance of superannuation boards (see: Governance News: 18/05/2018) and separately, outsourcing arrangements (dealt with in a separate post in this issue of Governance News 04/06/2018). The SMH quotes Deputy Chair of the Productivity Commission Karen Chester as commenting that the PC report recommendations are 'heading in the same direction' as APRA's recommendations on these issues but are 'much further down the road than APRA…We're going further and making recommendations what should be made compulsory for trustee boards.' See: The SMH 29/05/2018]

• Stronger oversight (by ASIC) on fees: The report states that 'Information should be simple, comparable and easy for members to understand require all superannuation funds to publicly disclose to current and prospective members the proportion of costs paid to service providers that are associated with related party outsourcing arrangements proactively investigate (questionable) cases where mergers between superannuation funds stalled or did not proceed review exit and switching fees faced by existing members, with a focus on whether these fees are related to the underlying performance of the product, and whether they unreasonably impede members moving to products that better meet their needs'.

Disclosure and Reporting

• Reporting on merger activity: The Australian Government should require trustee boards of all APRA regulated superannuation funds to disclose to APRA when they enter a memorandum of understanding with another fund in relation to a merger attempt. For mergers that ultimately do not proceed, the board should be required to disclose to APRA (at the time) the reasons why the merger did not proceed, and the members' best interests assessment that informed the decision.
• Simple 'member-friendly-dashboard for all products: The report found that there was a lack of quality, accessible and comparable information on products for members. On this basis, the report proposes that the government should require funds to 'publish simple, single page product dashboards for all superannuation products'. More particularly, the report recommends that 'ASIC should: prioritise the implementation of choice product dashboards to achieve full compliance by 1 July 2019 revise the dashboards to simplify the content and provide more easily comprehensible metrics (drawing on robust consumer testing) by end 2019 immediately publish all available MySuper and choice product dashboards on a single website, with the information clearly and readily accessible from the area of myGov that allows for consolidation of accounts'.
• Superannuation data working group: The Australian Government should establish a superannuation data working group, comprised of APRA, ASIC, the ATO, the ABS and the Commonwealth Treasury (with Treasury taking the lead). This group should: identify ways to improve the consistency and scope of data collection and release across the system, with a focus on member outcomes evaluate the costs and benefits of reporting changes, including strategies for implementation identify areas where legislative or regulatory change may be necessary to support better data collection report annually to the Council of Financial Regulators on its progress, and on the data analytics capabilities of each regulator.

Timeline

• Submissions on the report are due by 13 July 2018.
• The Commission will hold public hearings in Sydney on Wednesday 20 June, in Melbourne on Thursday 21 June and at a location to be determined on Friday 22 June. The Commission will consider holding public hearings in other capital cities if there is sufficient interest (of at least four participants).
• Further details have been published on the Commission's website.
• Transcripts of the hearings will be made available publicly on the Commission’s website. In addition, the hearings will also be live streamed.
• No timeframe is given for delivery of the final report.