In brief
In the latest (and undoubtedly most significant) of its reports into the design of default superannuation arrangements in Australia, the Productivity Commission yesterday released its Draft Report in relation to Superannuation: Alternative Default Models. Partner Geoff Sanders of the Allens Superannuation team reports on how the Draft Report moves the Commission's thinking forward in relation to how default contributions might be allocated to superannuation products in the years to come.
A refresher – where are we up to?
The Draft Report forms part of the second of three related investigations by the Commission which seek to conduct a holistic review of the manner in which members who do not actively select their superannuation fund have their contributions allocated to a particular fund.
Our earlier articles Default superannuation under the microscope (which examined the Commission's earlier Issues Paper on how it might develop alternative models) and Productivity Commission report into superannuation system bodes well for the future (which examined the criteria which the Commission has developed to assess the competitiveness of the super system in due course) set out some of the background relevant to the current Draft Report, including a description of the way the current default fund allocation process works. The current Draft Report builds on the work described in those earlier articles and shouldn’t be read in isolation of the broader exercise being carried out by the Commission.
It's also worth bearing in mind that, even upon the issue of the Final Report by the Commission (expected in August this year after consultations on the Draft Report are concluded), no regulatory or legislative change will be made immediately. Rather, as always envisaged by the FSI Report, the Commission's final findings will only be fully assessed by the Federal Government once the Productivity Commission has completed part 3 of their work, being a review of the efficiency and competitiveness of the system, which isn't even due to commence until after 1 July 2017 (with those investigations being based on the assessment criteria developed by the Commission in part 1 of their work).
That means that, despite the obvious heat surrounding this issue, there's no certainty that any of the proposals put forward by the Commission will ever actually see the light of day – it is possible that, after the Commission's review of the current system, the ultimate decision of the Government of the day (whoever that might be) will be to stick with the status quo or to make only minor changes to the existing regime.
It would, however, be a brave punter (or trustee) who would predict such an outcome given the strong signals coming out of both the Commission's work and the FSI Report, which suggest a significant change of some form is likely.
Four alternative default fund allocation models proposed for new workforce entrants
At the core of the Draft Report are the four alternative models developed by the Commission, each of which would establish a system whereby a disengaged employee would be allocated to a default superannuation product only once in their working life.
The move to having a single default fund that follows a member across job changes would, in itself, be a significant departure from the current system, which the Commission criticises as having led the industry to become complacent with a steady flow of mandated contributions from disengaged members'. Indeed, it may well be this aspect of the reforms that, irrespective of the model ultimately chosen to allocate new members to funds, is one of the most significant long-term outcomes of any new model – there will clearly be significant winners and losers from these reforms.
All four models, the key elements of which are set out in the table below, also have something else in common – the idea that some government-established body would apply some level of 'filter' to the existing pool of some 120-odd MySuper products to whittle down the list of potentially eligible default funds to what the Commission sees as a more manageable shortlist.
While the Draft Report understandably contains largely high-level detail only at this stage on who that filtering body would be (although there is a suggestion that ASIC and APRA as regulators aren't appropriate), and what considerations would go into the filter in each case, both of those matters will clearly be critical elements in how the models would work in practice and we can expect them to be hotly contested as the models develop.
| Model 1: Assisted employee choice | Model 2: Assisted employer choice (with employee protections) | Model 3: Multi-criteria tender | Model 4: Fee-based auction | |
|---|---|---|---|---|
| How will it work? | Employees required to choose fund themselves from shortlist of 4 – 10 funds selected by government body using filter. Employees who fail to exercise that choice to be allocated to a 'last-resort fund' run by an ERF provider or the Future Fund. |
Employers required to choose fund from one of two lists – a longer list of eligible funds and a shorter 'preferred default' list of only the 'best performing' funds. Use of the shorter 'preferred default' list would not be mandatory for employers but is intended to 'nudge' employers towards those funds. |
Tender process based on broad criteria run by government body designed to select up to 10 winning fund. Employees then allocated to those winning funds by government body on a sequential basis (ie, winning funds take 'turns' in being allocated new members on an individual member-by-member basis). |
Auction process based solely on administration and investment fees (but not other amounts such as insurance costs) run by government body designed to select 'multiple' winners. Employees then allocated to those winning funds by government body on a sequential basis. |
| Who selects the default fund? | Employee (but with a fallback for those who don't choose). | Employer. | Government body. | Government body. |
| Nature of 'filter' | 'Heavy' filter applied (strict criteria around investment performance and other features). A system of voluntary 'product accreditation' (akin to a strengthened MySuper authorisation process) also to be used. |
'Light' filter to be applied to the longer eligible list (eg, strengthened MySuper authorisation process with stronger emphasis on minimum performance standards. 'Heavy' filter for the shorter preferred default list (stricter criteria around investment performance and other features). |
'Tender' filter requiring funds to submit proposals against set criteria weighted by importance, including past performance, investment strategy, quality of member services, fee levels and 'innovation'. Also to include 'pre-qualification stage' designed to ensure funds submitting proposals meet certain minimum standards. |
'Auction' filter requiring funds to submit proposals based on fees alone. As for Model 3, also to include 'pre-qualification stage' designed to ensure funds submitting proposals meet certain minimum standards. |
Will this affect existing fund members?
In an attempt to avoid what it sees would be a 'material upheaval, with the potential for near-term insatiability, in the superannuation system', the Commission's current proposals do not seek to directly move existing default members out of their current products – the new allocation process would only apply on a prospective basis to new workforce entrants who do not make an active choice for a superannuation provider (a not insignificant group nonetheless, estimated at 400,000 new members each year with about $800 million in annual contributions, which will obviously grow as any new system beds down).
However, the Draft Report does seem to contemplate that existing fund members would (in the absence of any active choice) need to have contributions made on their behalf to one of their existing funds, even after moving jobs (which would lessen the role of defaults moving forward for those members) and also envisages that existing default members would 'win' out of the new model by ensuring that any cost savings or service improvements offered to newly allocated members by successful funds as part of the new model are passed through to all default members (and not just those allocated as part of the new process).
What's next?
Public consultation on the Draft Report is now open, with submissions due by 28 April 2017. As noted above, the Commission expects to issue its final report to the Government by August.
In the meantime, we will no doubt see fierce debate across the industry as to the relative suitability (or otherwise) of the four options put forward (and, indeed, perhaps a fifth option of reactivating the stalled Fair Work Commission filter process already enshrined in legislation). Already the battle lines are firmly drawn between industry and retail funds (although there does seem to be broad scepticism across all parts of the industry as to the suitability of Model 4 for a variety of reasons).
We at Allens will also have ample opportunity to delve more deeply into some of the very tricky issues raised by the proposals and look forward to being able to share our thoughts with you as the industry conversation develops.