Change portability rules so super funds will invest in bonds

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QIC Financial System Inquiry (FSI) - superannuation portability rulesQIC has recommended changes to the portability rules for superannuation to the Financial System Inquiry, as it would enable funds to make more illiquid investments.

“The superannuation system dominates Australia’s pool of savings but has a lower allocation to bonds (fixed interest) than the retirement saving systems of other comparable economies,” said the submission to the second round of consultation by the inquiry.

QIC says this is due to a number of factors, including the “predominantly defined contribution nature of the Australian superannuation system” and the portability rules for superannuation.

According to research in the submission Australia’s retirement savings are 81% defined contribution, compared to 58% in the USA and only 4% in Canada, with the remainder in defined benefit plans.

QIC argues that this preference in the Australian superannuation system for defined contribution plans over defined benefit affects the types of investments made. Because the responsibility under a defined benefit plan falls on the operator of the plan they make investments which “match anticipated future pension plan liabilities with assets”. This includes a preference for bonds which have “low cashflow risk”.

Whereas, defined contribution plans have the responsibility resting with the member, who also have the option of moving their savings from one fund to another. This requirement to satisfy portability leads to investing in more liquid assets, and with a preference for cash over bonds.

“We believe that an important consequence of member investment switching and portability of benefits on short notice is the resulting misalignment between the superannuation beneficiaries and the superannuation fund,” said QIC.

The need for super funds to prepare for a possible ‘run’ leads them to keep higher levels of liquid assets than would otherwise be required to meet short-term needs and limit investments in illiquid assets.

“Ironically, the requirements of member choice and portability actually reduce the ability of superannuation members to choose illiquid assets,” said QIC.

In order to resolve this issue QIC recommends that super funds be allowed to make the portability requirement a “revocable right”. This means that super fund members which want their fund to make more illiquid investments would need to agree that their ability to switch super funds would be limited.

You might be interested in other Financial System Inquiry submissions.

The Financial System Inquiry is progressively releasing submissions received as part of the second round of consultation on its website.

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