Superannuation Review 2009 – 'The business of being a trustee' articles

For your convenience, we have collected together the various Superannuation Update articles from 2009 on ‘The business of being a trustee’. These articles are up-to-date as at the date of initial publication.

February 2009
April 2009
June 2009
August 2009
October 2009
December 2009

February 2009 - The business of being a trustee – the latest on successor fund transfers

Superannuation Industry (Supervision) (SIS) Regulation 6.29 permits a member’s benefit to be transferred from one fund to another without the member’s consent if the transfer is to a ‘successor fund’, provided that the governing rules of the relevant funds permit the transfer and that the requirements for a successor fund are met.

A ‘successor fund’ is defined in SIS Regulation 1.03 as follows:

‘successor fund’, in relation to a transfer of benefits of a member from a fund (called ‘the original fund’), means a fund which satisfies the following conditions:

(a) the fund confers on the member equivalent rights to the rights that the member had under the original fund in respect of the benefits; [and]
(b) before the transfer, the trustee of the fund has agreed with the trustee of the original fund that the fund will confer on the member equivalent rights to the rights that the member had under the original fund in respect of the benefits.

We have identified some significant new issues in conjunction with recent successor fund transfers. They are outlined below.

• With regard to CGT issues, the Discussion Paper, ‘Optional Capital Gains Tax Roll Over for Complying Superannuation Funds with Capital Losses’¹, is unclear at this stage whether the proposed CGT relief applies to a sale of assets by the transferring fund prior to or in direct connection with a successor fund transfer.
• Time should be left for communicating with members on various matters, such as the following:
  • There are difficulties in relation to deductions for superannuation contributions by eligible persons under now-repealed section 82AAT of the Income Tax Assessment Act 1936 (Cth). This section applied to self-employed or ‘unsupported’ individuals. Note that the substituted provisions in Division 290C of the Income Tax Assessment Act 1997 (Cth) are similar in operation
    
  • ATO Interpretive Decision 2008/35 makes the following statements regarding the operation of section 82AAT:
    • ‘A trustee of a successor fund is not able to accept notice under subsection 82AAT(1C) of the ITAA 1936 to reduce the amount covered by a notice given under subsection 82AAT (1A) of the ITAA 1936 to a predecessor fund in respect of contributions made to that predecessor fund.’
    • ‘The now repealed subsection 82AAT(1A) of the ITAA 1936 required that a notice given under that subsection should be given to the trustee of the fund to which the contribution was made … [N]otice given under subsection 82AAT(1C) … is also subject to the same requirement.’
      

  • Further, ATO private ruling 79344 stated that the trustee of a superannuation fund cannot accept a notice under section 82AAT(1C) from a person who has ceased to be a member of the fund to which contributions were made as a result of a successor fund transfer.
    
    It is expected that these pronouncements would apply equally to the substituted provisions in Division 290C.
    
    Members who have not given the required notice at the time of transfer could lose the ability to claim a deduction. The trustee must consider whether information about this issue should be given to members in advance of the transfer occurring so that any affected member can lodge the required notice.

  • If a superannuation fund allows members to split their superannuation contributions with their spouse, the trustee of the superannuation fund should consider the impact of the proposed transfer on all members who may wish to make application to split their contributions with their spouse. The trustee may need to consider its obligation to make available to members the chance to make an effective election to split contributions before the member’s superannuation entitlement is transferred out of the fund.
    
  • A transferring trustee should also give consideration to what obligations they may have, prior to effecting a successor fund transfer, with regard to members who have not notified the trustee of their tax file number. From 1 July 2007, additional tax of 31.5 per cent is payable by a fund with respect to employer and salary sacrifice superannuation contributions for members who have not provided a valid TFN. ATO ID 2008/161 ‘Superannuation entities: tax offset – no-TFN contributions income – successor fund’ states that where ‘the member quotes their TFN to the successor fund the trustee of that fund is not entitled to a tax offset…for tax payable by the original fund on no-TFN contributions income’.
    
• During these times of financial uncertainty, it is imperative that any trustee consider asset valuation particularly carefully.
  
  Asset valuations may need to be done more regularly and unlisted and illiquid assets will require specialist advice. When establishing the SFT timetable, sufficient time should be allowed for these processes to be completed.
  
• If a superannuation fund has made piecemeal amendments to its trust deed in the past and does not have an official consolidated trust deed, sufficient time must be allocated to allow proper consolidation of the trust deed as most receiving trustees will insist that it be prepared.
  
  The process of consolidating superannuation fund trust deeds often identifies errors made in previous piecemeal amendments which need to be addressed as part of the consolidation process. Sometimes APRA must be approached regarding rectification of a previous amendment error which takes time and may slow down the process of a successor fund transfer.
  
• If the successor fund transfer involves a change in a fund’s insurance policy for group insurance, this may mean that the ‘equivalency’ requirement for a successor fund transfer can not be achieved without amendment of the new insurance policy.
  
  IFSA Guidance Note No. 11.00 ‘Group Insurance Takeover Terms’² (issued in September 2000) provides some guidance when dealing with a change in a group life insurer. However, this Guidance Note only goes so far. Issues arising from differences in coverage and the terms of cover may result from a change in insurance policy and a detailed and time-consuming analysis may be required in these circumstances to determine whether the successor fund transfer can be achieved.

April 2009 - The business of being a trustee – an update on directors’ liability

Potential personal liability for directors of trustee companies continues to be the subject of industry discussion. There is an ongoing balancing act between the need to encourage appropriate people to continue to act as superannuation fund trustee directors and the need to hold trustee directors personally liable for inappropriate acts.

Recently, these issues have again come to the forefront of industry debate as a consequence of the following two developments:

• The results of the Federal Treasury Survey of Company Directors were released on 18 December 2008.³ The survey was conducted by Treasury in conjunction with the Australian Institute of Company Directors. 65 per cent of the respondents to this survey stated that they occasionally were overly cautious in business decision making as a result of the risk of personal liability.
• The Council of Australian Governments (COAG) has agreed to work towards increased harmonisation of the laws relating to company director liability.⁴

COAG has referred the following principles to the Ministerial Council for Corporations for its views on reforming Commonwealth, state and territory laws:

• liability for contravention of statutory requirements should be imposed on the company in the first instance
• personal criminal liability of a corporate officer for the company’s misconduct should be limited to situations where the officer encourages or assists the commission of the offence (this is the equivalent to the common law concept of  accessorial liability), and
• a new form of ‘deemed’ liability could be introduced for exceptional circumstances.

On 17 April 2009, Minister Nick Sherry announced an audit of all Commonwealth laws which involve company director liability against the COAG principles.

There are other calls for the ‘business judgment’ defence to be extended to business and commercial judgments for assistance in breaches relating to the duty of care and diligence, particularly in the context of the continuous disclosure requirements.

Personal liability can arise for trustee directors in several ways, including the following:

• The courts have traditionally not imposed a direct fiduciary relationship between an individual trustee director and members of a superannuation fund. However, under the Barnes v Addy (1874) 9 Ch App 244 principles, an individual director can be personally liable for knowingly or recklessly assisting in a breach of trust by the trustee company. This position is furthered by the operation of the Criminal Code which extends liability to a person involved in a contravention.
• Superannuation Industry (Supervision) Act 1993 (Cth) (SIS Act) section 52(8) extends the operation of the SIS Act covenants to directors personally. Section 52(8) requires a director of a trustee company to ‘exercise a reasonable degree of care and diligence for the purposes of ensuring that the trustee’ carries out the covenants. Clearly this section expands the potential for a director of a trustee company to incur personal liability. A beneficiary of a superannuation fund who suffers loss resulting from a breach of the covenants could seek to recover the loss from the trustee and those directors who have failed to exercise ‘the degree of care and diligence that a reasonable person in the position of director of the trustee would exercise in the trustee’s circumstances’.
• Similarly, under the Corporations Act, a director of a trustee company may be personally liable for certain prohibited conduct or misleading or deceptive conduct in relation to financial products or financial services.
• Further, civil fines and penalties are imposed by many pieces of legislation, including, the SIS Act and the Corporations Act. Insurance policies have generally been broadened in recent years to cover a wider range of civil fines and penalties but most policies do not cover all fines and monetary penalties. The Australian Institute of Company Directors has indicated that ‘there are more than 600 state laws that impose personal liability‘.
• APRA and ASIC both have the power to seek disqualification of individual directors who have contravened their statutory obligations.

The practical application of these issues is evidenced by the 23 April 2009 New South Wales Supreme Court finding that certain former directors and executives of James Hardie breached their duties under the Corporations Act by making misleading statements to the market.

June 2009 - The business of being a trustee – New ATO Ruling on ‘ordinary time earnings’ released

The much-anticipated final Superannuation Guarantee Ruling on ‘ordinary time earnings’ (SGR 2009/2) was issued on 13 May 2009 and will commence on 1 July 2009.

Trustees will need to be aware of these developments in superannuation guarantee in order to continue to act on behalf of their fund members in receiving superannuation guarantee contributions. These changes may affect the minimum benefit which is payable under existing deed provisions and may even necessitate a deed amendment of the salary definition for benefit purposes.

From 1 July 2008, ordinary time earnings (OTE) is the only earnings base that can be used for the purposes of calculating the requisite employer superannuation contributions under the Superannuation Guarantee (Administration) Act 1992 (Cth) (SG Act). SGR 2009/2 replaces the ATO’s Superannuation Guarantee Ruling 94/4 (SGR 94/4) which outlined the ATO’s previous interpretation of the term OTE under the SG Act. SGR 2009/2 outlines the ATO’s revised interpretation. SGR 2009/2 also replaces SGR 94/5 which dealt with the interpretation of ‘salary and wages’. ‘Salary and wages’ is the basis on which an employer’s ‘shortfall’ is assessed under the SG Act. An employer has a ‘shortfall’ under the SG Act where it has failed to comply with its minimum statutory superannuation obligations.

The ATO released Draft Superannuation Guarantee Ruling SGR 2008/D2 (Draft Ruling) on 5 November 2008 for industry comment. The Draft Ruling detailed the ATO’s proposed new interpretation of OTE which departed in several significant ways from existing SGR 94/4, most notably by including ‘regular overtime’ in OTE.

SGR 2009/2 differs from the Draft Ruling in the following key respects:

The treatment of overtime

The ATO has generally reverted to its position under SGR 94/4 by excluding overtime from OTE and discarding the notion of ‘regular overtime’. SGR 2009/2 states that an employee’s ‘ordinary hours of work’ are the hours specified as his or her ordinary hours of work under the relevant award or agreement (or combination of those instruments) that governs the employee’s conditions of employment.

This position expressly takes account of the approach taken by the High Court in Australian Communication Exchange Ltd v Deputy Commissioner of Taxation [2003] HCA 55 which deferred to the importance of industrial instruments like awards in interpreting terms such as ‘ordinary hours of work’ for purposes of superannuation. The ATO noted that although none of the cases in this area is ‘quite decisive of the issue for [SG Act] purposes’, it conceded that Parliament consciously chose the expression ‘ordinary hours of work’ in framing the SG Act in 1992 ‘knowing that it had a specialised and well-established meaning in the particular context of the Australian industrial relations system, and intended that the interpretation of the expression be informed by that context’.

If ordinary hours of work are not specified in a relevant award or agreement, SGR 2009/2 states that the employee’s ordinary hours of work would be the ‘normal, regular or customary hours worked by the employee, as determined in all the circumstances of the case’. If, however, it is not possible or practicable to make such a determination, then ‘the actual hours worked should be taken to be the employee’s ordinary hours of work’.

The treatment of bonuses

Certain types of bonuses have always been considered to be included in OTE, particularly performance related bonuses. However, under SGR 2009/2 it seems that the types of bonuses included in OTE have been expanded to include Christmas bonuses. Christmas bonuses were excluded from OTE under SGR 94/4 and the Draft Ruling.

There is also some further guidance now under SGR 2009/2 confirming that bonuses which are labelled as ‘ex-gratia’ but are actually in respect of ordinary hours of work are included in OTE.

The treatment of payments in lieu of notice

The position under SGR 94/4 was that payments in lieu of notice were excluded from OTE. OTE is defined in the SG Act, relevantly, as ‘…earnings in respect of ordinary hours of work…’. Accordingly, payments in lieu of notice were previously excluded from OTE because they were considered payments ‘for hours never worked’. The reasoning provided in the Draft Ruling implied that this position was to be reversed because payments in lieu of notice could be categorised as payments made to satisfy entitlements that accrue by reason of the employee’s ordinary service. Consistent with that approach, SGR 2009/2 now expressly provides that such payments are included in OTE (although it is interesting to note that redundancy payments remain excluded from OTE).

The treatment of certain types of paid leave, including parental leave

The position under SGR 94/4 was that paid parental leave was excluded from OTE. That position was changed under the Draft Ruling, which expressly provided that parental leave payments were to be included in OTE. However, SGR 2009/2 provides that as a result of the Federal Government’s announcement on 12 May 2009 that it ‘intends to clarify the superannuation guarantee status of certain kinds of leave payments’, SGR 2009/2 does not deal with parental leave payments.

For the same reason, SGR 2009/2 provides that it does not deal with payments made to employees who are on other ‘ancillary’ kinds of leave, including top-up payments made while an employee is serving on jury duty or with the defence reserve forces. Under SGR 94/4, such top-up payments were specifically excluded from OTE.

The treatment of benefits under employee share schemes

SGR 94/4 and the Draft Ruling were both silent on the treatment of the acquisition of a share or right to acquire a share under an employee share scheme. Now, SGR 2009/2 expressly provides that such benefits are not included in OTE.

Some words of warning to employers

There are still several types of payments to employees which will be included in OTE from 1 July 2009 which were previously thought to be excluded from OTE.

Employers will need to review their existing employment arrangements to determine whether any additional superannuation contributions will be required to be made from 1 July 2009.

If so, employers will need to ensure their payroll systems will be equipped to accommodate the changes from 1 July 2009. They will also need to ensure that any relevant terms in employment agreements are appropriately considered and changed, if required.

Interestingly, while SGR 2009/2 states that it applies from 1 July 2009, as there has been no change in the SG Act affecting the definition of OTE, the inference is that these items should always have been included in OTE. Consequently, it is open to the ATO to maintain that this revised interpretation has retrospective application.

In relation to parental and ‘ancillary’ leave, given the express acknowledgement that these leave payments are not dealt with in SGR 2009/2, it seems that these payments can continue to be excluded from OTE following the approach under SGR 94/4. However, employers should be ready to act if this position changes once the government’s pending clarification comes through.

A final word of caution to all

As a final word of caution, SGR 2009/2 is over 40 pages long and contains a number of examples, so its detail needs to be considered before definitive legal conclusions can be reached on any particular situation.

In one sense, the answer to this question is simple. No. And yet, Australian courts have grappled with the issue over several decades.

These courts have generally leaned towards the negation of a duty of a superannuation trustee to exercise natural justice in its decision-making. But at the same time this conclusion has clearly sat uncomfortably with key judges.

To choose an arbitrary starting point, in the case of Pope v Lawler ⁵, Justice Nicholson pointed out: ‘… the decision-making process of Trustees should not have applied to them the rules deriving from administrative law’, citing Karger v Paul ⁶. The judgment of Justice Byrne in Flegeltaub v Telstra Super Pty Ltd ⁷ (‘Flegeltaub’) was more emphatic: ‘It is clear that the trustee is not bound by the rules of natural justice …’.

What Justice Byrne then said is of particular significance, ‘but the circumstances of the case may demand, as a matter of fairness, that, on a particular matter, the position of the applicant be sought so that a proper decision can be made on that matter’.

This is the first aspect to note in relation to a decision of a trustee’s duty in this area, namely that a trustee may have a positive obligation to ascertain information in particular circumstances.

That positive obligation may stem from the existence of what Justice Byrne called ‘an apparently adverse matter of fact’ which he went on to say ‘is peculiarly within the knowledge of the applicant or for which the applicant may reasonably be expected to have an explanation’.

Such a positive duty could also extend to more mundane facts where the duty to ascertain information derives not so much from any adverse matter of fact but rather from the nature and dimensions of the trustee’s duty itself.

One example of this situation cited by Justice Campbell in his paper ‘Exercise by Superannuation Trustees of Discretionary Powers’⁸ is the determination of a death benefit payment:

‘In the case of a superannuation fund, the trustee will frequently not know the sort of information that is needed to decide, for instance, who are the dependants of a member at the date of his death, or what are the facts that might warrant the payment of a death benefit to one or other of them. If the trust documentation calls for the trustee to form an opinion about who are the dependants of the member, or to decide who (if anyone) among his dependants ought to receive a death benefit, proper performance of the trustee’s duty to act bona fide and ‘upon genuine consideration’ may well require the trustee to find these matters out. Frequently that will involve asking the various people who might be candidates for receiving the benefit what their claims are, and, if the facts alleged by the various claimants do not match up, taking steps to decide whose version of the facts is correct. This exercise need not necessarily be done in an exhaustive fashion, but it would need to be done to the extent that was needed for the decision of the trustee to be a bona fide one, made upon a genuine consideration of the correct question.’

His Honour then makes the observation:

‘While carrying through that procedure is certainly not identical to according a claimant the same rights of natural justice as an administrative decision-maker would be obliged to accord to someone whose interests might be affected by an administrative decision, it covers at least some of the ground.’

Another manifestation of this positive duty is the duty of a superannuation trustee to disclose adverse material to a particular claimant. As was observed by Justice Byrne in the Flegeltaub decision: ‘It may involve a disclosure to the applicant or to her representative of the adverse material…’.

This process was described by Justice Callaway on appeal in the Flegeltaub case in the following terms:

‘... One cannot ordinarily decide a question of fact in good faith and give it real and genuine consideration without conducting some investigation and in some cases that will entail making an inquiry of a person who is willing to provide information and is in the best position to do so. It is not a matter of natural justice but bona fide inquiry and genuine decision making.’⁹

This positive duty can be seen as extending further in particular circumstances to actively seeking a response from the relevant claimant.

In the recent case of Tuftevski v Total Risks Management Pty Ltd¹⁰ Acting Justice Smart noted that the trustee in the case did not engage in genuine decision-making by not seeking from the claimant any information or response to various potentially adverse matters, in particular doctors’ reports and surveillance material. This case involved a disputed disablement claim where the trustee did not reveal adverse medical reports and surveillance reports to the member or provide him with an opportunity to respond to these reports.

The aspect of a positive duty to actually elicit responses from an affected person is very reminiscent of the duty to afford natural justice and leads to two further observations.

The first is the observation by Acting Justice Smart in Tuftevski to the effect that the principle in Karger v Paul should arguably not apply to decisions of superannuation trustees. His Honour discerned a need for legislative reform. Noting that the trustee had delegated its powers to a committee, he observed:

‘It is absurd that such a committee has a power which is substantially unreviewable in contested cases. It acts as both investigator and judge. Principles as to the exercise of the powers of a trustee borrowed from earlier days are inappropriate. What is required is a review of the merits and not the application of a system of trustee principles taken from bygone eras and different circumstances. The matter is far too important to employees and workers to be left in its present state. Their future and those of the families are at issue. The unfairness of the present system is highlighted by adverse decisions being made by the [committee] without the employee being told of all the material adverse to his application.’

The second observation is from Justice Campbell’s paper to the effect that the principle of natural justice is not necessarily excluded from the trust law arena. In commenting on the proposition that the principle of natural justice does not apply to trustee decisions, he said:

‘In my view that statement is too unequivocal. Rather, in my view the private law context in which trustees make their decisions usually does not give rise to an obligation to adhere to rules of natural justice. But that this is so is a matter of construction of the constitutive documents of the trust. It is not as though there is a rule of law that says that trustees never have to accord natural justice. Rather, it is just a matter of fact that the constituent documents of a trust rarely if ever impose an obligation for trustees to observe natural justice.’

Although the state of case law to date indicates that superannuation trustees are not technically bound by the rules of natural justice, it is interesting to note that recent cases and extra-judicial comments are leaning towards some aspects of natural justice being imposed on trustee decision-making processes.

October 2009 - The business of being a trustee – Trustee decision making

Governance of the superannuation system remains a topical issue.

We thought that it was appropriate to reflect upon some of the recent case law and public debates for reminders of the relevant legal principles in the governance of superannuation funds.

ING Funds Management Ltd v ANZ Nominees Ltd; ING Funds Management Ltd v Professional Associations Superannuation Ltd [2009] NSWSC 243

In our June 2009 Superannuation Update¹¹ we discussed the decision in the ING Funds Management case. Following is a summary of some of the main governance lessons which arise from that case:

• Don’t ignore the basic requirements of the Corporations Act 2001 (Cth) (Corporations Act) regarding execution of documents.
  
  Section 127 of the Corporations Act provides that a company may execute a document as a deed if the document is expressed to be executed as a deed and is signed without using a common seal by two directors or a director and a company secretary. A company with a common seal may execute a document if the seal is fixed to the document and witnessed by the same people.
  
• Remember that a deed can only be amended by another deed. This point was crucial to the decision in the case.
  
• Focus carefully on the requirements which must be met before a valid amendment can be made to constituent documents. This will require reference to the governing rules of the entity as well as the relevant legislation.
  
  For a managed investment scheme, reference must be made to section 601GC of the Corporations Act which provides that, without a special resolution of the members, a constitution of a registered managed investment scheme can be amended by the responsible entity if the responsible entity ‘reasonably considers the change will not adversely affect members’ rights’.
  
  In the superannuation context, the test to bear in mind is the restriction on altering accrued benefits under Superannuation (Industry) Supervision Regulation 13.16 and also the relevant deed amendment power.
  
• Have evidence of the trustee’s proper consideration of the relevant amendment tests.
  
  In the case, although the minutes recorded the standard to which the responsible entity had to have regard, the judge found that there was absolutely no evidence of the basis on which the responsible entity made its decision or the thinking that led the directors to the baldly stated conclusion that the modification would not adversely affect members’ rights.
  
  To make matters worse, the judge said that had the responsible entity considered the question properly, it would not have been able to make the amendments because it was obvious that freezing redemptions adversely affected a member’s right to turn their units into money. So the court held that it was not possible that a reasonable person would have come to any conclusion other than that the modification would adversely affect members’ rights.

Australian Securities and Investments Commission v Macdonald (No 11) [2009] NSWSC 287 (commonly referred to as the James Hardie case)

As widely reported, the New South Wales Supreme Court handed down an important decision in the series of James Hardie cases in April this year (the 11th decision in the series). It found that the former non-executive directors and executives breached the Corporations Act when making statements to the market in 2001 about the adequacy of asbestos compensation funding. 

In a subsequent media release in August, ASIC stated that the decision provides important guidance on:

• the duties of executives, and 
• the responsibilities of non-executive directors.

ASIC has expressly encouraged the business community to carefully consider the implications of the decision and assess what improvements they can make to their decision-making processes. On this basis and despite the case being very fact specific, we set out below reminders of the significant general principles for directors and executives which can be drawn from the case:

• Remember the duty under Corporations Act section 251A to record minutes of board meetings within one month and the duty to have the minutes signed within a reasonable time after the meeting. This is a strict liability offence.
• For directors who are not physically present at a board meeting but join via telephone or videoconferencing, make sure that they have copies of what is tabled at the meeting or, if the information is not lengthy, that it is read out. Also ensure there are protocols in place so everyone knows what’s expected in a good governance sense for documents tabled at meetings.
• Ensure that there are adequate policies in place regarding the manner in which resolutions are considered and passed at a board meeting.  
• Remember that a director cannot rely on other directors (in the sense of abdicating responsibility) on the basis that other directors are more interested in a particular issue. 
• General counsel have a special role. They can be ‘officers’ for purposes of the standard of care and diligence under section 180 of the Corporations Act. The judge said that the general counsel in this case ‘played a vital role in the board’s deliberations thereby participating in the making of [the relevant] decision’. The court said that it must have been obvious to the general counsel that if the company released a false and misleading statement, there was a legal risk – and guarding against legal risks was at the core of his responsibilities as general counsel.
• Finally, there is a suggestion that directors are required to assess the material before them in the context of all information they have previously received on a particular issue. General counsel, company secretaries and others advising a board in its deliberations should bear this in mind in drafting briefing notes for board meetings.

Government reviews

There is currently a great deal of industry reflection sparked by a number of government reviews, including the Cooper Review into the governance, efficiency, structure and operation of Australia’s superannuation system and the Henry Review into Australia’s future taxation system.

Of particular ongoing interest are the familiar issues of conflicts of interest and who should act as a director of a superannuation trustee company.

We set out below some key thoughts on these issues.

Conflicts of interest

• Australian general law imposes two ‘proscriptive’ duties on a fiduciary (such as a superannuation fund trustee) namely, the duty not to obtain any unauthorised benefit and a duty not to put oneself in a position of conflict of interest. The law in Australia does not impose positive (or prescriptive) legal duties on a fiduciary to act in the interest of the person to whom the duty is owed.
  
  The Superannuation Industry (Supervision) Act 1993 (Cth) is somewhat different to the general law and does not expressly mention conflicts at all. APRA has usually relied on the ‘best interests duty’ in section 52 to provide a ‘hook’ for the conflicts duty. However, unlike the general law with respect to conflicts, section 52(2)(c) is expressed in prescriptive terms; that is, the trustee must ensure that something is done.
  
  The Corporations Act imposes duties on directors of trustee companies - not on the trustee company itself. The directors have a duty to the company and its shareholders; that is, the directors are not to let their personal interests conflict with the financial interests of the company and its shareholders. It is only through the AFS licensing regime that ASIC imposes a proscriptive duty on the company (as opposed to its directors) regarding conflicts and ASIC Regulatory Guide 181 is the result. ASIC has indicated that, in some instances, conflict cannot be remedied by disclosure and in that case, the conflict must be avoided altogether. This is, of course, different than the general law which allows trustees to obtain beneficiaries’ consent to act despite a conflict of interest.
  
  There is much legal complexity in how these obligations all sit together.
  
• APRA has issued a number of draft Prudential Practice Guides (PPGs) in recent months and, while still in draft, we can reasonably conclude that conflicts for trustees and their directors are ‘top of mind’ for APRA.
  
• Draft Prudential Practice Guide (PPG) 521 on conflicts of interest (issued in April 2009) is APRA’s first attempt to deal specifically with conflicts of interest. Following are some interesting points in PPG 521:
  • A conflict of interest may arise merely because a trustee director is also a member of the fund. Given equal representation requirements, this is rather surprising.
  • The ‘best interest duty’ in SIS section 52(2)(c) sets a ‘standard of care’ that trustees must observe. While best interests might be regarded as including the duty of loyalty, and thereby being relevant to a conflicts discussion, it does not amount to a standard of care – which is what the prudent person test in SIS section 52(2)(b) is intended to do.
  • ‘Embedded provisions’ can create a conflicts issue. Embedded provisions occur where the terms of the governing rules require that a certain service provider be used by the trustee – for example, a specified investment manager or insurer. We do not think that this is supported by current law.
    
• In August, APRA issued some additional draft PPGs which are intended to replace the four existing Superannuation Guidance Notes.
  
  In the draft PPG on Fitness and Propriety, APRA uses the ‘propriety’ standard to ensure that conflicts of interest are worked into the assessment of a person’s suitability to act as a director of a trustee company. APRA says that in testing a director’s propriety, the trustee must ascertain whether the director has –
  • failed to disclose a conflict of interest
  • failed to disqualify themself because of a conflict of interest
  • inappropriately participated in deliberations relating to a matter in which they had a conflict of interest, or
  • acted in their own interests, or those of a related party (such as an employer), in preference to the interests of the beneficiaries of the fund.
    
    It remains to be seen how this proposal would work in practice.

Who can act as a director of a superannuation trustee?

The draft PPG on Fitness and Propriety states that ‘fitness’ for office will now extend ‘to individual officers a minimum expectation in relation to skills and knowledge equivalent to that previously expressed for the trustee as a whole.’

APRA says that this new approach is because of the increased size and complexity of the industry over the period since implementation of licensing for trustees. This is a major departure from current practice where ‘fitness’ was generally to be assessed on a ‘board-wide’ basis and not with respect to individual directors.

The PPG states that minimum fitness requirements for each director include:

• understanding of and ability to implement section 52 of SIS
• working knowledge of the SIS Act and other prudential requirements, including accounting, auditing and operational process
• basic investment knowledge
• basic knowledge of the elements and application of other RSE licensee and trust law, and
• awareness of areas where additional technical, professional or expert advice should be sought.

APRA says that after the minimum individual fitness requirements have been met, then overall fitness of the trustee can be applied on a collective basis.

When equal representation applies to a fund, APRA suggests that the trustee’s ‘fit and proper policy’ and a summary of the duties of a trustee as encapsulated in the covenants of SIS Act section 52 should be made available to prospective candidates prior to nomination.

APRA considers that having independent directors is one way of ensuring that there is no appearance of bias and that conflicts are less likely to arise. Independent directors can also be selected for their competency so as to ‘round out’ the skill set around the table and to address deficiencies that might exist. While those who use the equal representation model are limited by the SIS Act to one independent director, we are aware that APRA has in the past approved more than one independent director for a board.

December 2009 - The business of being a trustee - Reflections on the superannuation industry

The global financial crisis and the increasing importance of our savings for retirement have led to the current focus by the Federal Government on review of our superannuation arrangements.

Below we provide a brief summary of the three main government reviews in progress currently.

Cooper Review

The Review into the governance, efficiency, structure and operation of Australia's superannuation system (Cooper Review) is conducting a review based on a ‘three-phased consultation’ approach. According to its Terms of Reference¹², two central themes for the Cooper Review are the best interests of the member and the maximising of retirement incomes for Australians.

• The Phase One Governance Issues Paper 25 August 2009¹³ focuses on the fiduciary trustee model for superannuation, trustee duties and disclosure, government regulation and operational investment issues.
• The Phase Two Operation and Efficiency Issues Paper 16 October 2009¹⁴ focuses on efficiency in the design and the architecture of the superannuation industry with the aim of maximising returns for members. There is a particular focus on fees, charges and commissions.
• The Phase Three Structure Issues Paper 14 December 2009¹⁵ focuses on the manner in which the superannuation industry is organised and integrity of the superannuation system, addressing the implications of choice of fund, defined benefit funds, retirement savings accounts and insurance issues.

On 14 December 2009, the Cooper Review released Media Release: A new member-oriented model for super? Super System Review releases governance phase preliminary report¹⁶ and its preliminary report on governance issues Clearer Super Choices: Matching Governance Solutions Phase One – Preliminary Report 14 December 2009.¹⁷ This Report details the current thinking of the Review Panel on governance issues and some of its recommendations are discussed below under the heading Current Recommendations.

The emerging themes recognised by the Panel to date include:

• Superannuation is not like other financial products; it is different and superannuation should have some special rules. 
• Governance is intrinsically linked to operational and structural issues in the superannuation system. Flexibility in the superannuation system is necessary to deal with differing members’ requirements.
• While Australia’s superannuation system has demonstrated ‘substantial resilience’, changes need to be made to ensure that the superannuation system is ready to meet the new challenges which lie ahead.

Henry Review

The Review into Australia’s Future Tax System (Henry Review) is a broad tax based review which will ‘examine¹⁸ and make recommendations to create a tax structure that will position Australia to deal with the demographic, social, economic and environmental challenges of the 21st century and enhance Australia's economic and social outcomes’.

The Cooper Review Phase Three Issues Paper notes that the Henry Review is ‘considering the types of products available and the appropriate role for government in assisting with the development of products which insure against longevity risk’ but asks the industry whether more should be done to:

• address financial risk in retirement, and
• ensure that post-retirement assets are not invested too conservatively?

The Henry Review is charged with recommending a stable policy framework which will minimise change in our superannuation arrangements in the future. In a similar vein, the Cooper Review Panel ‘sees reducing complexity and providing a stable regulatory foundation as key goals’ but considers that ‘there is no single measure that can achieve this’.

The Henry Report is to be delivered to the Treasurer by the end of December 2009. The Report is expected to be released to the public in the first quarter 2010.

Ripoll Review

On 23 November 2009 Mr Bernie Ripoll MP as Chairman of the Parliamentary Joint Committee on Corporations and Financial Services tabled its Report into Financial Products and Services in Australia¹⁹ (Ripoll Report) which proposed 11 recommendations for legislative reform ‘designed to enhance professionalism within the financial advice sector and enhance consumer confidence and protection’. The quality of advice and the link between product manufacturers and sales people and advisers, with potential conflicts of interest, recur as themes throughout the Report.

While the full impact of the Ripoll Report will not be known until the government delivers its formal response, present indications are that the recommendations have been positively received.

The Minister for Financial Services, Superannuation and Corporate Law has embraced the Report as a ‘welcome contribution’ to the discussion on the future direction of the financial advice industry. In particular, the Minister restated in his release²⁰ that any regulatory changes will be guided by two key principles:

• financial advice given to people must be in their best interests; this requires that distortions to remuneration, which misalign the best interests of the client and the adviser, should be minimised, and
• financial advice remains accessible to those who need it.

In the light of the Ripoll Report, the Cooper Review has announced its intention to ‘gather more data and other information [on the role of financial advisers] rather than raising issues for comment and submissions at this stage. This will enable the Review to do some further analysis on how advice would fit into the proposed choice architecture model’ discussed in the 14 December 2009 Clearer Super Choices Report.

Current recommendations and ideas from the reviews

Following are the relevant highlights from the Reviews so far.

1. Financial advisers operating under an Australian financial services licence should be subject to a statutory fiduciary duty (Recommendation 1 of Ripoll Report)
   
   The Ripoll Report concluded that there is ‘no reason why advisers should not be required to meet this professional standard, nor is there any justification for the current arrangement whereby advisers can provide advice not in their clients’ best interests, yet comply with section 945A of the Corporations Act’.
   
   The Cooper Review Clearer Super Choices Report notes that the Panel is ‘working towards a clarification of which participants in the system are “fiduciaries” and the consequences that designation should attract in each case’.
   
2. Advisers should disclose any potential conflicts of interest prominently in marketing materials (Recommendation 3 of Ripoll Report)
   
   While the Ripoll Report recognised the limitations of a disclosure regime in dealing with conflicts of interest, the Report argued that disclosure in marketing materials should be improved, particularly in the case of vertically integrated financial institutions, and supported present efforts to simplify and shorten disclosure materials.
   
   The Cooper Review Clearer Super Choices Report notes that there is a need for ‘greater focus on the mechanisms for dealing with conflicts throughout the system’ and that ‘disclosure to members is not an adequate response’.
   
3. Consultation should be undertaken to develop better remuneration structures (Recommendation 4 of the Ripoll Report)
   
   The Ripoll Report noted that remuneration structures for financial advisers which are incompatible with the proposed fiduciary duty should be removed. The Ripoll Report received many submissions advocating the banning of commission payments. The Report stated at paragraph 6.100:
   
   ‘The committee notes that remuneration structures that are incompatible with a financial adviser’s proposed fiduciary duty … should be removed. The committee acknowledges that some in the industry have already indicated a willingness to move away from commission-based remuneration practices. The committee welcomes this and recommends that government consult with and support industry in effecting this transition’.
   
   This is a contentious issue and those in favour of commissions argue that banning commissions may make financial advice unaffordable for consumers.
   
   In light of concerns that changes to the remuneration structure of the financial advice industry could adversely impact the affordability of advice, the Ripoll Report also suggested that the government consider the implications of making the cost of financial advice tax deductible.
   
4. ASIC should be granted powers to ban individuals (Recommendation 6 of the Ripoll Report)
   
   The Ripoll Committee agreed with ASIC’s submission that ASIC’s powers under section 920A of the Corporations Act should be enhanced to make it easier for ASIC to ban individuals from the financial services industry.
   
5. ASIC should be better resourced (Recommendation 2 of the Ripoll Report)
   
   Consistent with the theme of inadequate enforcement of existing laws, the Ripoll Committee expressed the view (at paragraph 6.32) that ‘ASIC needs to undertake the enforcement of legislative standards of advice with a more rigorous and targeted approach’. 
   
6. A choice architecture model should be adopted for better governance of superannuation (Cooper Review Clearer Super Choices Report item 5)
   
   This suggestion is a radical new design for the classification of members which ‘orients attention towards members and away from “products” and industry sectors’ and ‘uses the conscious choices of individuals to calibrate the levels of governance, regulation and member protection available’.
   
   The proposed classification is as follows:
   • Disconnected members (such as those now in eligible rollover funds) will receive the highest level of protection with low cost minimal facilities and a conservative investment strategy. 
   • Universal members (those who have not made an ‘express choice’) will receive the same protection as currently provided based on traditional trustee duties with a single diversified investment strategy, some insurance options but limited advice options because of the limited choices the member has elected to exercise and because ‘advice is “embedded” in the product’. This will be a ‘simpler and cheaper option for members’.
   • Choice members are those who have demonstrated a desire to be involved in their superannuation; their fund could have potentially unlimited investment and insurance options. These members will rely on effective disclosure and will bear substantial responsibility for investment choices.
   • Self managed superannuation which will remain subject to minimum standards. This sector is the subject of the Cooper Review’s Third Phase.

   The Report notes that the advantages of this proposed classification are that it accords with the individual’s choice, resolves ambiguity regarding a trustee’s responsibility for investment choices made by a member and, most importantly, ‘facilitates more precise allocation of costs to members’. Members would be able to move between different segments of the superannuation system.
   
   The Clearer Super Choices Report also advocates clarification of trustee duties (particularly with respect to member directed investment). There is recognition that trustee duties may differ with respect to ‘universal’ members and ‘choice’ members ‘in important respects’. The trust model is accepted as the appropriate structure by the Panel.
   
   Further, the Cooper Review Panel notes that it is ‘considering alternative ways to make trustees of super funds more directly accountable to members’ which may include requiring a superannuation fund trustee to give reasons for its decisions in relation to a member complaint.

7. APRA-regulated superannuation funds should be subject to the same governance standards as listed companies (Cooper Review Clearer Super Choices Report item 6.1)
   
   This may mean that a code of practice similar to that for listed companies (under Australian Securities Exchange Corporate Governance Council’s Principles and Recommendations 2nd edition August 2007) is adopted for trustees of superannuation funds, incorporating the ‘if not, why not’ disclosure regime.
   
   Further, the Clearer Super Choices Report suggests that there could be a possible ‘regulatory prescription of a certain knowledge and level of skills for all directors within a short period of joining a trustee board’ and a mandated annual performance review or appraisal of trustee directors and senior management.

Endnotes

1. Discussion Paper: ‘Optional Capital Gains Tax Roll-over for Complying Superannuation Funds with Capital Losses’ 
2. IFSA Guidance Note No. 11.00
3. Survey of Company Directors 
4. Council of Australian Governments’ Meeting, 29 November 2008 
5. (1996) 41 ALD 127 
6. (1984) VR 161 
7. (3 April 2000), BC 2000 01407 
8. Justice Campbell presented this paper at the Law Council of Australia’s Superannuation Conference of 2008. 
9. Telstra Super Pty Ltd v Flegeltaub [2000] VSCA 180 at [30] 
10. [2009] NSWSC 315 
11. Superannuation Update June 2009
12. Cooper Review Terms of Reference 
13. Phase One Governance Issues Paper 25 August 2009 
14. Phase Two Operation and Efficiency Issues Paper 16 October 2009 
15. Phase Three Structure Issues Paper 14 December 2009 
16. Media Release: ‘A new member-oriented model for super? Super System Review releases governance phase preliminary report’ 
17. Clearer Super Choices: Matching Governance Solutions Phase One – Preliminary Report 14 December 2009 
18. Henry Review Terms of Reference 
19. Parliamentary Joint Committee on Corporations and Financial Services – Inquiry into financial products and services in Australia 
20. Media Release: ‘Government Welcomes Report into Financial Services & Products’

More information

For information regarding possible implications for your business, contact a member of the Superannuation team.