The Federal Government’s decision to move ahead with extending the Your Future, Your Super performance test to superannuation wrap products sent a clarion call for all industry participants.
While improvements to the test such as progressively extending the minimum testing period to seven years and assessing administration fees on a more like-for-like basis are welcome, serious flaws in the testing methodology for wrap products remain.
If applied in its current form, the test could be detrimental to many Australians, undermining the positive outcomes and genuine change that both our Federal Government and the regulator are looking for. Left unchecked, it would result in significant consumer confusion and harm for many Australians who have made an active decision about how to invest their retirement savings.
Applying a ‘one size fits all’ testing methodology to the broad range of superannuation wrap investment options greatly undermines the ability for many consumers to implement their desired investment strategies.
By assessing each option in isolation, the performance test fails to recognise the way in which wrap products are used. An investment option on a wrap platform will rarely if ever be used in isolation but rather the consumer, assisted by their financial adviser, will use a blend of options to create an appropriate investment portfolio.
Some options are selected to play a specific role such as managing volatility, providing income, or generating tax benefits such as franking credits. These options, which are subject to strict disclosure and reporting requirements, help many Australians achieve their desired financial outcomes in retirement. They have specific and transparent objectives, yet in many cases would fail the performance test given the testing methodology’s limitations, despite achieving their objectives.
Risk, one of the foundational principles of investing, is not appropriately considered by the test, while income distributions and tax benefits are also cast aside. Raising the bar on superannuation performance shouldn’t mean barring those products that have unique strategies and risk-return characteristics that serve in the best interests of clients.
Possible problems with the test
For many wrap products, the test would not be completed based on the actual fees charged or actual net returns received by the member holding the product. The testing would be also based on new reporting by super funds that has not yet been subject to audit and quality assurance.
As a consequence, there is the potential for performance test results to be wrong and misleading.
And those exiting these products, in response to receiving notice it has failed the test, could then incur unnecessary friction costs – such as capital gains tax and the loss of valued insurance arrangements – due to moving benefits multiple times as the scope of the performance test is extended in future years.
Aside from the flaws in the methodology, under the proposed approach, only a very small proportion of multi-sector investment options offered on wrap platforms would be tested in 2023.
The same underlying investment fund offered on different platforms may be subject to the test on some platforms but not others meaning all consumers invested in the fund would not be treated equally.
Testing a limited sub-set of wrap options will not provide members and financial advisers with certainty and confidence about the performance outcomes of alternate options they may consider where an existing option fails the test and may result in members moving to an alternate product that would have also failed the test had it applied.
The performance test also fails to recognise the important role of advisers who help consumers make decisions about whether to invest in these products. The test fundamentally encroaches on the role of the financial adviser in assisting clients to monitor and manage their superannuation as part of their broader investment and retirement planning strategy. It would undermine confidence in advice and the superannuation system as a whole.
Trustees have a fiduciary duty to uphold a high standard by protecting the assets of the trust, act in good faith and safeguard their client’s capital. While tax relief is available to support a merger of an underperforming MySuper product, no similar relief exists to support rationalisation of wrap investment options. This is a significant barrier preventing super funds from moving members to better performing wrap options without resulting in tax consequences for members.
By failing to adopt a prudent approach towards recognising the individual objectives of adviser-recommended products on wrap platforms, the extension of the performance test could result in significant harm and unintended tax consequences for many Australians who have made an active decision about how to invest their retirement savings.
Currently, there are five million Australians approaching retirement and millions more for whom the longevity of their retirement income will become a critical challenge. In the interest of consumers, it is vitally important the Government and APRA remove wrap products from the Choice performance test until an improved and more accurate test is developed.
Edwina Maloney is director of platforms at AMP.