To 'guide trustees' 8 min read
Three years after the Federal Budget first announced a proposed 'retirement income covenant', the proposal has inched one step closer to reality.
Treasury has released a position paper on the covenant with the aim of 'guiding trustees' ahead of the covenant taking effect from 1 July 2022. We take a look at what this means for trustees.
A brief refresher
The proposal for a specific covenant requiring super trustees to formulate, and give effect to, a retirement income strategy for members was first announced as part of the 2018-19 Federal Budget, and slated to be introduced into the Superannuation Industry (Supervision) Act 1993 (Cth) (SIS Act) by 1 July 2020.
The measure was delayed by the Morrison Government in May 2020 to allow consultation to continue following the covid-19 crisis, and to allow thinking on the covenant to be informed by the Government's broader Retirement Income Review (which landed last November – see here).
The position paper released by Treasury in July provides some more flesh on the bones of the proposed covenant, and was the precursor to exposure draft legislation released just before the publication of this insight which we (and no doubt others) are currently poring over.
29 and counting – why do we need it?
Assuming the retirement income covenant is passed, it will be the 29th trustee covenant taken to form part of the rules governing registerable superannuation entities under section 52 of the SIS Act.
Treasury has largely reiterated the findings of the Retirement Income Review as to why covenant number 29 is needed. Broadly, its reasoning is that the retirement income system is under-developed and that retirees are not currently supported to effectively manage the decisions and trade-offs that come with retirement. Treasury also thinks the covenant will help address its concerns that retirees do not spend their superannuation (driven by a so-called 'nest egg' mentality), leading to a lower standard of living in retirement.
Given the breadth of the other trustee covenants (not to mention the sole purpose test), the real question is: - do we need another covenant or should the focus be on other measures that could better address the Government's policy objectives? Nonetheless, it appears that we are on a slow but steady march towards a new covenant.
What will the covenant require?
At its core, the proposed covenant will require trustees to formulate, review regularly and give effect to a retirement income strategy for the retired members of their fund and for members approaching retirement.
The strategy must outline how the trustee intends to assist its members to achieve the following objectives:
- maximise their retirement income (taking into account the Age Pension and any other relevant income support payments, such as social security payments or veteran entitlements);
- manage the risks to the sustainability and stability of their retirement income, including the risk of outliving savings and investment risks at different stages of retirement; and
- have some flexible access to savings during retirement (eg to meet health costs or buy a new car).
Where those obligations compete, the strategy must also identify how trustees intend to assist their members to balance these objectives and address whether the trustee's intended assistance is likely to increase or decrease the retirement incomes of their members.
In practice, the output will be a strategic document, which should be made publicly available to members (eg on the fund's website), that identifies and recognises the retirement income needs of the members and presents a plan to build the fund's capacity and capability to service those needs.
The strategy will need to be reviewed once every three years but the performance of the fund against the strategy will require review at least annually.
Who should the strategy apply to?
Trustees must formulate a strategy for all members of the fund who are 'retired' or approaching 'retirement'. The paper acknowledges that retirement is not a set age – retirement can be triggered by health, finances, conditions of release, or Age Pension eligibility. It is also not a 'static condition'. An individual may re-join the workforce or they may be in a transition to retirement phase.
Helpfully, the paper suggests that a trustee's strategy will not need to encompass each and every permutation of when an individual might retire. Instead, it should reflect the broad understanding of the fund's membership. A trustee's understanding of 'retirement' for its membership should be informed by key retirement policy settings (eg preservation age) and other broad and publicly available demographic information. However, the paper also suggests that this should be informed by membership surveys of retirement ages or expected retirement ages. Surveys feature heavily in how trustees will be expected to comply with the new covenant and we will come back to them shortly.
Strategy or strategies?
Trustees decide whether a retirement income strategy is formulated for all members in generality or for cohorts of members as identified by the trustee. That said, for trustees of larger funds there is a clear nudge towards structuring the strategy to apply to cohorts of members (and to consider whether different approaches are required to formulate the strategy as between those cohorts), particularly where a fund has a membership with diverse needs.
Trustees already have some understanding of their membership composition given that they are required to hold certain data sets to meet APRA Prudential Standard and Reporting Standard requirements. Using that data, trustees may be able to prepare strategies for cohorts of members based on demographic data such as age, gender or account balance. But the Paper suggests that trustees should go beyond this level of detail, and consider building strategies based on whether a member is partnered or single, whether the member owns their own home outright or has a mortgage or whether the member is renting. All this of course can be informed by more surveys.
Other sources of retirement income
Whether or not a cohort approach is taken, trustees developing the strategy are required to consider members' entitlements to the Age Pension (as well as their balance or interest in the fund and the tax implications at retirement for the member). The Paper suggests that it is reasonable to expect trustees to either collect Age Pension eligibility information from their members (ie send a survey requesting information about a members' other assessable assets and income, homeownership status and coupled status) or to make informed assumptions about their members' circumstances. Trustees are also free (but will not be required) to survey members about all their other sources of income, such as investments, employment or income from other super funds. Once they have this information, trustees have discretion to consider whether members with different Age Pension (or other) incomes might also be suitable 'cohorts' for which it should develop a different retirement income strategy.
While the paper says using broad demographic data to determine Age Pension eligibility is sufficient, it notes that trustees should aim to transition to using actual data on their membership to improve accuracy over time.
Being able to rely on publicly available data will be a relief for trustees over the coming year as they prepare their first strategy ahead of 1 July 2022. But it does leave us wondering if, in time, there will be scope to say that a trustee is failing to comply with the covenant (or one of its other covenants) if it does not collect this data, or if the strategy is based on inaccurate assumptions. What if members don’t respond to surveys? In the age of data collection, members may query why their super fund is asking how much their house is worth.
Assisting members
A final component of the strategy will be for trustees to address how they intend to assist members to meet their retirement income objectives of maximising income, managing risk and having some flexible access to savings during retirement.
Examples offered include:
- developing or offering different retirement products;
- developing bespoke drawdown patterns for retirees;
- introducing drawdown nudges; or
- providing retirement income calculators and income projections or other information and guidance.
However, as trustees well know, these examples can be fraught with regulatory risk – and careful consideration needs to be given to navigating these risks.
Notably, the paper says that while the development of a retirement income strategy by itself does not constitute the provision of financial advice, any assistance provided by the trustee to give effect to their retirement strategy needs to comply with financial advice rules. It is not difficult to see the potential complexities raised by the regulatory requirements for personal financial product advice here.
The future direction of the retirement income framework
The paper alludes to possible further reform that may assist trustees with these risks. It refers to ASIC's consultation on the delivery of good quality personal advice and the Treasury's proposed Quality of Advice Review that will take place in 2022. Those reviews, Treasury says, will be used to inform future policy direction to help improve access to appropriate guidance in retirement.
The paper also suggests that, as part of the future direction of the retirement income framework more broadly, further reforms to the member outcomes laws may be on the cards with a view to refining how those requirements apply to retirement income products. This will be to ensure the laws support retirement income outcomes and drive the availability of better retirement income products.
Next steps
Feedback on the Paper closed in August. On 27 September, Treasury released exposure draft legislation to introduce a retirement income covenant for superannuation trustees. The exposure draft legislation and accompanying explanatory materials largely reflect the content of the position paper released by Treasury in July, with one helpful clarification on the obligation of trustees to collect information on members to inform the strategy and further commentary on the personal product advice risk
The exposure draft legislation specifies that a trustee is only obliged to 'take reasonable steps' to gather the information necessary to design and review the retirement income strategy. This clarification goes some way to addressing concerns that it may not be possible to collect comprehensive information on members, given the likelihood that some members will be reluctant to participate in surveys.
Trustees will, however, be required to outline the steps taken to gather the information and the rationale for each of those steps in the strategic document it is required by the new covenant to create, a summary of which must be made public. The explanatory materials note that, beyond requesting information from members and accessing public demographic and morbidity data, trustees may also consider qualitative information such as academic literature on the preferences and behaviours of Australian retirees.
The explanatory materials reiterate the point that trustees can satisfy the requirements of the covenant without providing personal advice and that the retirement income strategy does not need to consider the personal circumstances of individual members. The explanatory materials helpfully note that the collection of information from members in order to inform the strategy would not necessarily result in the provision of personal advice. Trustees will nonetheless need to be alive to the risk that communicating the strategy to individual members may quickly veer into the provision of personal financial product advice.
Subject to the passage of legislation, trustees will need to begin to consider their membership and strategy in order to be ready for next year. The paper notes that further guidance on the covenant is expected from APRA – it would be helpful for this to be published in good time before strategies must be published on trustees' websites on 1 July 2022.