The Productivity Commission has released the report of its inquiry into the efficiency and competitiveness of the superannuation system and if new ways to allocate default funds are needed. The report recommends new workers are allocated to a default fund once – after being shown a list of up to 10 top funds. Other recommendations include changes to advice around SMSF.
What did the Productivity Commission recommend?
Changes to giving SMSF advice
The Productivity Commission has recommended only relatively minor changes to SMSFs, in its report on the efficiency and competitiveness of the superannuation system.
There were concerns that the Productivity Commission would recommend broader changes to SMSFs, following findings in the draft report around the investment performance and costs of SMSFs compared to APRA-regulated super funds. Though the data, and the findings themselves, were disputed by the industry.
The draft report said that SMSFs with under $1 million in assets had “delivered materially lower returns on average than larger SMSFs”. Whereas the final report reduced this level to $500,000: “The SMSF segment has delivered broadly comparable investment performance to the APRA-regulated segment, but many smaller SMSFs (those with balances under $500 000) have delivered materially lower returns on average than larger SMSFs.”
The final report also finds that “costs for SMSFs under $500 000 in size are particularly high, on average, and significantly more so than for APRA-regulated funds”.
Despite this, the Productivity Commission has only made limited recommendations around SMSFs – calling for stronger safeguards on SMSF advice. The Commission recommends the Government to require specialist training for people providing SMSF set up advice, require people giving SMSF set up advice to provide prospective trustees with a “document outlining ASIC’s ‘red flags’ prior to establishment” and for the extension of the “proposed product design and distribution obligations to SMSF establishment”.
‘Best in show’ top 10 shortlist of super funds
The Productivity Commission has retained the core recommendations from its draft report – that new members to the workforce be allocated to a default fund only once and that they be shown a ‘best in show’ shortlist of up to 10 superannuation funds.
These recommendations are aimed at two of the “structural flaws” the Commission found in the super system – unintended multiple super accounts and “entrenched” underperforming super funds. The Commission estimates that solving these issues cold leave a new workforce entrant with $533,000 extra in super by the time they retire (in 2064), and someone currently 55 could have an extra $79,000 by retirement.
The inquiry found “mixed performance” in the super sector, with some funds “consistently” achieving high returns, while a “significant” number of funds underperformed – even after adjusting for differing investment strategies.
“Underperformers span both default and choice, and most (but not all) affected members are in retail funds,” said the Productivity Commission.
“Evidence abounds of excessive and unwarranted fees in the super system. Reported fees have trended down but a tail of high‑fee products remains entrenched, mostly in retail funds.”
“Compelling cost savings from realised scale have not been systematically passed on to members as lower fees or higher returns. Much scale remains elusive with too few mergers.”
The inquiry also found that about a third of accounts – about 10 million – are unintended multiple accounts, which are eroding member balances by $2.6 billion a year with unnecessary fees and insurance.
Will the recommendations be adopted?
Neither Liberals or Labor commit to recommendations
Neither side of politics has committed to the recommendations in the Productivity Commission report.
The Government released the report, but not its response. A statement by Treasurer Josh Frydenberg said: “The Government will carefully consider the recommendations and will await The Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry’s Final Report before finalising our response to the Productivity Commission’s report.”
The Royal Commission is due to give its report to the Governor-General by 1 February 2019.
Labor has also been noncommittal on the recommendations, particularly the ‘best in show’ top 10 list, with concerns that well-performing funds in one year may not perform well in the future and that it could reduce competition.
Government welcomes endorsement of its policies
Despite waiting to decide on the core recommendations of the report, the Government welcomed the endorsement of its policies by the Productivity Commission – several of the recommendations in the report are very similar, if not identical, to Bills currently before the Parliament.
This recommendations include:
- Making insurance in super opt-in for members under age 25
- Transferring inactive accounts under $6,000 to the ATO
- An annual outcomes test for all APRA-regulated super funds
- Civil and criminal penalties for trustee directors
The Productivity Commission recommends that insurance should remain opt-out where trustees can demonstrate that it would “best interests of a specific cohort of younger members”. The Government Bill, as it currently stands, is a blanket opt-out. Though it was announced that amendments would be moved to keep insurance out-out for dangerous occupations, but these amendments have yet to be publicly released.
Treasurer Frydenberg said: “It is time the Labor Party stopped blocking these amendments, listens to consumer advocates, independent experts and support what the Commission calls “must have” common sense reforms that put the interests of members first.”
One of the “must have” reforms according to the Productivity Commission is the best in show process – which the Government has not said if it will support or reject.
“A best in show process will be more than a step change from today’s system of confusing product comparisons and workplace-specific defaults. It is a ‘must have’ for making the super system work better for all members,” says the Commission, in its report.
Other recommendations of the Productivity Commission
No increases to Super Guarantee rate without inquiry into retirement incomes systematically
The Productivity Commission is recommending that an independent, public, inquiry into the retirement incomes system be completed before any increase to the Super Guarantee rate. The SG rate is scheduled, by legislation, to increase from the current 9.5% o 10% on 1 July 2021.
The Commission says this inquiry should look into the role of compulsory super in the broader retirement incomes system, including “the net impact of compulsory super on private and public savings, distributional impacts across the population and over time, interactions between superannuation and other sources of retirement income, the impact of superannuation on public finances, and the economic and distributional impacts of the non-indexed $450 a month contributions threshold”.
Clear definition of best interest duty for trustees
The report recommends a “clearer articulation” of what it means for a super fund trustee to act in the best interest of members under the SIS Act – a topic raised in the Banking Royal Commission.
“The definition should reflect the twin principles that a trustee should act in a manner consistent with what an informed member might reasonably expect and that this must be manifest in member outcomes.”
“In clarifying the definition, the Government should decide whether to pursue legislative change, greater regulatory guidance, and/or proactive testing of the law by regulators. It should be informed by the findings of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry.”
Reassess Retirement Income Covenant and CIPR
While the Productivity Commission appears to be supportive of some Government policy, or at least has come to the same conclusions, this is not the case for the Retirement Income Covenant.
The Commission says the Government should “reassess the benefits, costs and detailed design of the Retirement Income Covenant”, and only introduce it if “design imperfections (including equity impacts) can be sufficiently remediated”.
The Retirement Income Covenant is a planned change to the SIS Act which would add a new covenant to develop a retirement income strategy to the existing investment and insurance covenants. It is part of the Retirement Income Framework, which also includes the Comprehensive Income Product for Retirement (CIPR).
The Commission says that, “in practice”, the Covenant would be a requirement to offer a CIPR.
The Productivity Commission says the Government, “sensibly”, deferred the Retirement Income Covenant to July 2022, however this deferral only applies to CIPR, the Covenant is planned to start on 1 July 2020.
How has the superannuation industry responded?
Industry and retail funds opposed to ‘best in show’ list
The superannuation industry has been broadly critical of the Productivity Commission’s recommendations, in particular the best in show list of funds – this includes representatives of industry and retail super funds.
ASFA CEO Martin Fahy said the top 10 list risked “creating an oligopoly in default superannuation and reducing long term competition”.
He also said the recommendation of a review before increasing the SG rate “flies in the face of evidence”.
The Australian Institute of Superannuation Trustees (AIST) welcomed the finding that the not-for-profit super sector was the best performing. AIST CEO Eva Scheerlinck congratulated the Commission on its “exhaustive analysis of fund performance and for putting the spotlight on the need to deal with poorly performing super funds across the system, the clear majority of which are retail funds in the Choice sector”.
However Ms Scheerlinck described the top ten list as a “blunt mechanism that will be needlessly disruptive and fails to address the more serious problem of underperformance in the wider super system”.
AIST argues that the recommendation would remove many “high quality” funds from the default super system – potentially disadvantaging their members – while leaving millions of Australians to “languish in poorly-performing bank and insurance owned funds that are outside the default system”.
Industry Super Australia said the recommendation involved inadequate consumer safeguards, leaving them exposed.
“In essence the Productivity Commission is abandoning the proven, low-cost industrial default system in favour of a choice-first architecture that has been ground zero for consumer harm,” said Industry Super Australia chief executive Bernie Dean.
“A single fund for life is misguided and won’t actively connect people to the best funds at all points during their working life,” he said.
The Financial Services Council (FSC) continues to have “strong reservations” about the best in show list.
“The FSC is very concerned about the potential unintended consequences for the economy of a ’10 best in show’ model because it could create a monolithic concentration of funds, stifle competition and create huge barriers for innovative new products,” said FSC CEO Sally Loane.
“However, we strongly support raising the bar for MySuper products to ensure individuals are not defaulted into poorly performing funds. True competition requires high-performing funds of all shapes and sizes, and we should not create barriers to entry for start-ups and other tech innovators.”
“The best super funds, whether retail, industry or corporate, have nothing to fear from competition.”
SMSF Association “fully supportive” of advice recommendation
Unlike the other industry bodies, the SMSF Association has welcomed the Productivity Commission report. CEO John Maroney said the Association was “fully supportive” of the recommendation for specialist training for people advising on the set up of SMSFs. The SMSF Association also welcomed the lack of a recommendation of a minimum balance for SMSFs.
“Raising the standards of SMSF advice through specific education requirements has long been the mantra of the Association, and a key focus in our mission to lead the professionalism, integrity and sustainability of the $755 billion SMSF sector. It’s significant that the Commission is on the same page as ASIC in recognising the importance of advice providers who are appropriately educated.”
Maroney said he was heartened by the revision by the Commission from $1 million to $500,000 for when SMSFs were cost-effective compared to larger funds.
“This is a far more realistic figure to use as a guide for discussing whether it is appropriate to establish an SMSF as there are many high-performing SMSFs with balances below $500,000,” he said.
The Association is going to further consider the recommendations for prospective SMSF trustees to be given a list of ASIC’s ‘red flags’ and the extension of product design and distribution obligations.
“These measures, aimed at protecting consumers, need careful consideration to ensure they can deliver the desired outcomes and not become an inefficient compliance point for advisers and SMSF trustees,” Maroney said.