The cost of regulatory compliance for superannuation funds is high, but it is the well regulated nature of the Australian industry that is helping it weather the current market storm.
Since the end of 2007, it has been difficult to look at superannuation without having the picture clouded by surrounding investment volatility. And yet the reality is that the super industry has seen legislative improvement over the last few years that will have an impact lasting longer than any bear market.
So while positive legislative change certainly comes at a cost, the clear consensus is that this cost, in terms of the regulatory and compliance burden placed upon super funds, is a price worth paying.
According to John O’Shaughnessy, deputy chief executive officer of the Investment and Financial Services Association, the industry’s key challenge over the last few years had been managing the culture of compliance.
“At both the trustee and board levels, compliance is now a culture exercise,” he said. “And after 10 years of evolution, that kind of development is very pleasing.
“We’re at a point where compliance is a part of the business process,” O’Shaughnessy continued. “There is good interaction between the funds and the regulators and good interaction between the regulators, APRA [Australian Prudential Regulation Authority] and ASIC [Australian Securities and Investments Commission].”
For O’Shaughnessy, the strong and responsive relationships that exist between individual super funds and Australia’s regulatory bodies have only served to strengthen the industry’s compliance position.
“That is part of the reason you hear people saying that the Australian super industry is well placed despite current market conditions,” he said.
“We have a culture of compliance and not just a process of compliance.”
Echoing O’Shaughnessy’s comments, David St. John, chief investment officer for UniSuper, said that the change and progression that had occurred within superannuation’s regulatory environment mirrored similar developments within the wider industry.
“In conjunction with the ongoing growth of the Australian super industry, there has been a corresponding evolution of the regulatory environment,” he said.
“Following the introduction of APRA Licensing in 2005, Better Super changes in 2006 and the first phase of the Anti-Money Laundering changes in 2007, the pace of regulatory reform has subsided, but only temporarily,” St. John continued.
“It is likely that further changes will be made following the Federal Government’s current review of various aspects of the super industry.”
Fortunately, it is evident that though the compliance challenges of the past three years are likely to continue, Australia’s super funds are well placed and well armed to deal with those challenges effectively.
According to Tony Cavanagh, general manager, finance and risk, for Australian Super, dealing with legislative changes to the super industry has been about having the right people and infrastructure in place.
“There have certainly been a number of compliance issues for the super industry over the last few years,” he said. “But we have geared up and had people ready to deal with those.
“The legislative changes arising from Simpler Super in particular represented significant cost in both time and money and that will continue,” Cavanagh said.
“However, Australian Super has the infrastructure in place to handle that change at both the fund and administration level.”
So having pushed past the regulatory reform brought to bear by the Howard Government, the compliance focus for super funds seems split between what may result from Labor policy changes and what may result from the state of investment markets globally.
St. John said that at the moment, UniSuper’s key compliance concern revolved around investment liquidity.
“This is one of the key compliance issues currently being addressed by funds,” he said. “The development of liquidity management policies.
“But there are other issues currently being addressed as well,” St. John continued. “Recently, the industry has also considered securities lending and counterparty exposure.
“These are issues that have been precipitated by market developments rather than being initiated by regulatory change per se,” he added. “So while funds are still working on the second implementation phase of the Anti-Money Laundering legislation, it remains important for them to be adequately resourced.
“That is the only way funds are able to meet their ongoing regulatory obligations and the only way they will be able to respond quickly to member requests during this turbulent period.”
Similarly, O’Shaughnessy agreed that with uncertain investment markets and struggling account balances top of mind for fund executives, liquidity was definitely the compliance issue of the day.
“That is, those superannuation investments without liquidity — real estate, infrastructure, private equity and so on,” he said. “We’re keeping an eye on developments in this area and what the industry’s responses should be.
“But we’re already seeing positive signs in a unit pricing regime that ensures process discipline and helps in an appropriate way,” O’Shaughnessy continued.
“At the moment, the industry’s compliance work is pre-emptive rather than post-the-event, so we are definitely well positioned.”
Yet for Pauline Vamos, chief executive officer of the Association of Superannuation Funds of Australia (ASFA), possible policy changes under the Rudd Government remain the largest blip on the compliance radar.
“A lot of the frameworks and structural issues that resulted from recent years’ legislative change are pretty well done and dusted now,” she said. “In many respects, the industry is relatively settled with respect to compliance.
“But now the super industry has to look to the Henry tax review and what that will mean for superannuation within Australia,” Vamos continued.
“Where will the Government end up on the relationship between pensions and super? Will there be changes to the taxes on investments? Will there be changes to the taxes on superannuation?
“These are the questions that have to be answered. And those answers will have a huge bearing on super legislation and compliance.”
Of course, it should be no surprise that regulatory reform is so high on the priority list for superannuation’s industry bodies and the funds themselves. We are, after all, talking about an industry in which compliance costs are estimated to run as high as 10 to 15 per cent of total operating costs.
And yet, if comments made by Scott Donald, director of fiduciary research for Russell Investments, during July’s Superannuation Researchers Colloquium are any indication, proper adoption of a culture of compliance remains a concern.
Donald urged funds to abandon a “box-ticking compliance culture” and focus more clearly on the best interests of members.
“The box-ticking compliance culture seen in the areas of risk management and disclosure in the industry, in particular, needs to be wound back in favour of a focus on what is material and an assessment of how that relates to the interests of members,” he said.
However, the idea that a “box-ticking” culture existed with respect to superannuation compliance surprised O’Shaughnessy.
“Compliance within the super industry isn’t just a box-ticking exercise, but it’s more than building a culture as well,” he said.
“Effective compliance is instead about developing good processes that have a strong cultural overlay.”
Similarly, Cavanagh said that Australian Super’s approach to compliance had never been focused on merely fulfilling their regulatory obligations.
“Every compliance requirement is significant,” he said. “They’re not just there so that the box can be ticked.
“And in the case of RMS [risk management statement]/RMF [risk management framework], these are very positive things for running the fund — business tools for providing for our members and meeting their needs,” Cavanagh added.
For Vamos, though very little in super could be termed ‘box-ticking’, the difficulty lay in satisfying the needs of all stakeholders with respect to compliance.
“What people forget when it comes to compliance is that every time super legislation changes, it brings with it real costs in terms of system changes, documentation, training etcetera,” she said. “So that’s a lot of time and money.
“But within a difficult world economically and an environment in which expectations have been raised, fund trustees must do more than discharge their fiduciary duty,” Vamos added.
“The continuing challenge for fund trustees is in both satisfying their regulatory obligations and acting in the best interest of their members.”
For his part, O’Shaughnessy admitted that the question of how best to provide for all stakeholders within the super equation would always be difficult.
“Are consumers protected? Do they know what they’re getting into?” he asked.
“At the end of the day, it is the consumers who bear the cost of compliance,” continued O’Shaughnessy. “And that cost is something that will inevitably be questioned when it comes to why you’re doing it and what the outcome will be.
“But as of now, as of 2008, it is probably a good thing that we have a solid compliance burden in place.”
Of course, recent attention paid to self-managed super funds (SMSFs) by the Australian Taxation Office (ATO) would suggest that not all trustees share O’Shaughnessy’s sentiments.
Evidently, and whether warranted or not, there remains concern that the flexibility and control provided by self managed funds is not being matched by higher levels of compliance accountability.
Before making such a judgement, however, Vamos believes people must first get the numbers right.
“Within Australia we have around 380,000 SMSFs compared to roughly 12 million fund accounts run by public trustees,” she said. “From there, funds under management for self managed funds represent 26 per cent of the entire industry’s worth.
“Obviously, that’s a big piece of the pie for a relatively small number of funds,” Vamos continued. “But those accessing funds inappropriately and failing to meet their obligations are a significant minority.”
Interestingly, O’Shaughnessy said that he felt improvements in SMSF governance had been quite impressive in recent years.
“There’s certainly been increasing interest there from regulators,” he said. “But I wouldn’t necessarily single them out.
“The problems seem to have been caused by the few rather than the whole.”
So within a financial world growing increasingly complex, the necessity of a strong regulatory environment seems beyond dispute. And yet, with compliance costs accounting for a large proportion of fund operating costs, the question of compliance efficiency must come into play.
But what solutions are out there? Can compliance regimes outside Australia provide the lead?
According to Vamos, the answer to the efficiency question, as with all super administration, comes back to electronic solutions.
“Financial services as a whole needs to continually develop electronic and tailored solutions to compliance,” she said. “But the industry doesn’t need the worry of being over regulated.
“Ultimately, we can look overseas at what has gone wrong and what has gone right, but that is where we need the changes.”
O’Shaughnessy said while he saw no obvious solutions, the industry could gain a great deal from continually watching developments abroad.
“We already have good interactions globally and with neighbours in our immediate region,” he said. “Particularly in pensions and post-retirement.
“With around 30 per cent of our superannuation investments offshore, the industry has to be interested in the lessons that can be learned from other markets and other regulatory environments,” O’Shaughnessy added.
“If we’re not learning and we’re too domestically focused, then we need to be worried.”
Closer to home, it seems funds are well focused on being prepared for regulatory reform, particularly given its decreased pace since the November election.
Moving into 2009, St. John said that there were a number of issues that would remain on the radar.
“Simplification of disclosure statements, the changes that may occur to accommodate intra-product financial advice, electronic communication and disclosure to members and the proposed emissions trading scheme,” he said.
“These are all key compliance initiatives that need to be considered by funds.”
Yet despite the detail inherent in compliance, Vamos urged funds and the wider industry to take a step back.
“We spend a lot of time on detail,” said Vamos. “But the big challenge for the industry is to continuously look [at the] big picture.
“Trustees have a fiduciary duty to fulfil through compliance,” she said. “But that duty has to include acting in the best interests of the members.”
