Superannuation Update April 2010

General update

Federal Parliament update

• On 15 March 2010 the Senate Economics Legislation Committee released its report¹ on the government's proposed superannuation clearing house measures contained in Tax Laws Amendment (2010 Measures No 1) Bill 2010.² The committee recommended that the Senate pass the Bill but that the threshold value for small businesses be monitored for appropriateness. 
• The Tax Laws Amendment (2009 Measures No. 6) Bill 2010³ received Royal Assent on 24 March 2010 as Act No 19 of 2010. Schedule 2 to the Bill ‘removes significant income tax impediments to mergers between complying superannuation funds by permitting the rollover of capital losses and transfer of revenue losses (including losses realised under the merger and previously realised losses). This loss relief will be available for complying superannuation funds and approved deposit funds (ADFs) that merge with a complying superannuation fund with five or more members’.
• On 10 March 2010 the Minister for Financial Services, Superannuation & Corporate Law announced⁴ ‘that the Government proposes to amend the Corporations Regulations 2001 to provide that certain borrowing arrangements by superannuation fund trustees permitted by the Superannuation Industry (Supervision) Act 1993 (the SIS Act) are financial products under the Corporations Act 2001’. On the same day the Minister also announced the proposal ‘to amend the tax law so that a superannuation trustee who enters into a limited recourse borrowing arrangement to purchase an asset, as permitted under subsection 67(4A) of the SIS Act, will be treated as the owner of the asset for income tax purposes’ and the Assistant Treasurer announced that the ‘Government will introduce legislation to amend the income tax treatment of “traditional instalment warrants”’. A discussion paper⁵ outlining the proposed design of the income tax treatment of instalment warrants has been released. Submissions were due by 9 April 2010.
• On 17 March 2010, the Trade Practices Amendment (Australian Consumer Law) (No. 1) Bill 2010 (previous citation Trade Practices Amendment (Australian Consumer Law) 2009) was passed by the Senate, with amendments. The House of Representatives agreed to the Senate’s amendments on 17 March 2010 and the Bill received Royal Assent on 14 April 2010 as Act No 44 of 2010. The Bill seeks to create a ‘national unfair contract terms law’ and impose fines for companies which engage in unconscionable conduct or make false or misleading representations.⁶
• On 17 March 2010, the Trade Practices Amendment (Australian Consumer Law) (No. 2) Bill 2010 was introduced into the House of Representatives. The Trade Practices Amendment (Australian Consumer Law) (No. 2) Bill 2010 completes the Australian Consumer Law amendments to the Trade Practices Act 1974, which is to be renamed Competition and Consumer Act 2010.
• The Minister for Financial Services, Superannuation and Corporate Law has also released an ‘Options paper’⁷ on unfair terms in insurance contracts.

ATO update

TR2010/1 Income tax: superannuation contributions

On 25 February 2010, the ATO issued final Ruling TR2010/1 Income tax: superannuation contributions.⁸ The Ruling discusses what constitutes a contribution made to a superannuation fund.

The Ruling states that the ordinary meaning of a contribution in the superannuation context is ‘anything of value that increases the capital of a superannuation fund provided by a person whose purpose is to benefit one or more particular members of the fund or all of the members in general’.

Part A of the Ruling deals with ‘General superannuation contributions concepts’ and applies before and after 25 February 2010. The determination of the purpose of the payment is a new concept and the Ruling offers the following key instruction on this issue:

• Not every increase in the capital of a fund is a superannuation contribution. 
• ‘A person's purpose is the object which they have in view or in mind. Generally, a person will be said to intend the natural and probable consequences of their acts and likewise their purpose may be inferred from their acts. This is a determination of a person's objective purpose, not their subjective intention’. 
• ‘A person will not normally have a purpose of benefiting a member of the fund if the transaction they carry out is in no way dependent upon the identity of the other party as a superannuation provider or they are simply fulfilling the terms of a contract or arrangement entered into on a commercial or arm's length basis’.

A superannuation contribution will normally be considered to be made when the funds are received by the superannuation provider. Paragraph 13 includes a table which summarises the ways in which funds are commonly transferred and when the contribution is taken to have been made.

The Tax Ruling states that a payment may be characterised as a contribution even if the payment is not made directly to the superannuation fund. For example, an employer paying an expense of the superannuation fund to a third party can be characterised as a contribution. The ATO’s ‘preferred approach is for all superannuation fund expenses to be paid directly out of the fund itself and for superannuation contributions to be made directly to the fund’. This will be a significant issue for an employer who currently directly subsidises some of the expenses incurred by their superannuation fund.

Part B of the Ruling deals with ‘Specific rules about deducting superannuation contributions’ and applies to the 2007-2008 and later income years. A series of examples are provided in paragraphs 73 to 102.

Taxpayer Alert TA 2010/2 Circumvention of Excess Contributions Tax

On 29 March 2010 the ATO released Taxpayer Alert TA 2010/2 Circumvention of Excess Contributions Tax.⁹ By corresponding media release,¹⁰ the ATO warns that the ATO has looked at SMSF ‘trust deeds that include clauses that seek to avoid excess contributions tax’ and ‘considers that they are ineffective’.

The Alert applies to arrangements with the following features:

• The trust deed of an SMSF includes a clause which seeks to prevent a member from ever being subject to excess contributions tax by providing that a trustee who is in receipt of excess contributions from a member holds the contributions in a separate trust and the trustee is obliged to repay the excess contributions with earnings to the member. The Superannuation Industry (Supervision) Act 1993 (SIS Act) does not allow a trustee to return excess contributions to members except in limited circumstances.
• The contributions are intermingled with the SMSF’s assets.
• When the trustee becomes aware of excess contributions made by a member, the trustee and the member assert on the basis of the clause in the SMSF’s trust deed that the excess contributions are held in a separate trust, despite the fact that the contributions are intermingled with the SMSF’s other assets.

The Taxpayer Alert issues a warning, saying that the ATO considers these arrangements ineffective in creating a separate trust and avoiding excess contributions tax. Further, the ATO states that any entity involved in the arrangement ‘may be a promoter of a tax exploitation scheme’ and the arrangement may breach preservation and sole purpose test requirements under the SIS Act.

APRA update

On 18 March 2010 APRA released a discussion paper, ‘Supervision of conglomerate groups’.¹¹ According to the media release,¹² ‘the global financial crisis has highlighted the importance of taking a broad, group wide view of prudentially regulated entities’. Conglomerate groups are ‘groups with APRA-regulated entities that have material operations in more than one APRA-regulated industry and/or have material unregulated entities’.

The supervisory framework is referred to as ‘Level 3 supervision framework’. Level 1 supervision applies to ‘individual operating entities authorised by APRA’ and Level 2 supervision applies to groups headed by an approved deposit-taking institution, general insurer or authorised non-operating holding company. ‘The purpose of group supervision is to ensure that a group is financially sound and that group activities, intra-group relationships and intra-group transactions do not jeopardise the financial soundness of APRA-regulated entities within the group. In other words, group supervision is designed to protect individual APRA-regulated entities from contagion risk.’

APRA is keen to address the possible risks associated with membership of a conglomerate group, including financial risks, reputation risks, moral hazard risks, operational risks and governance and strategic risks.

Submissions will be accepted by APRA until 18 June 2010.

Update on the Super System Review

In recent weeks, two preliminary reports have been issued as part of the Super System Review (‘Cooper Review’). The final report is due to be submitted to the government by 30 June. As part of the very transparent approach taken by the Cooper Review, the release of these preliminary reports together with earlier reports and one further preliminary report to come give the industry a good idea of what the final recommendations will be like.

The first recent report deals with back-office administration of superannuation. The report contains entirely sensible suggestions about better use of e-commerce in superannuation. The report is not controversial and met with broad agreement from the industry when it was released, although the recommendations for tax file numbers to be used more extensively will challenge existing sensitivities over the use of personal identifiers.

The second report contains recommendations which are far reaching and could revolutionise the superannuation  industry as we know it. Responses to it have been polarised and politicised. However, the premise on which the report is predicated, providing a simple and cost-effective superannuation product for the vast majority of Australian workers, can hardly be criticised.

Phase Two Preliminary Report

On Monday 22 March 2010, the Cooper Review released its Phase Two Preliminary Report SuperStream: Bringing the Back Office of Super into the 21st Century¹³, which focuses on the 'back office' of the superannuation system. The focus of the Report is on improving efficiency and minimising costs. The Report identifies seven main problems with the current back office of the superannuation system:

1. a lack of industry data standards
2. multiple technology platforms
3. manual and disparate processes 
4. a lack of a robust member identifier 
5. the high number of employers who are required to contribute to multiple funds 
6. misalignment of pay and contributions cycles, and 
7. overly complex switching and consolidation of superannuation entitlements.

Following are the key preliminary recommendations made in the Report:

• Improve data quality from employers by requiring employers to provide adequate information in order to satisfy their superannuation guarantee obligations or imposing a fixed administrative penalty on an employer who fails to provide adequate information when making contributions. 
• Reduce administration costs through standardised data transmission, such as mandating the use of prescribed forms. There is also support for the use of the TFN as a universal identifier. 
• Encourage more efficient use of technology and e-commerce to reduce transaction costs. This would be done by encouraging more extensive use of e-commerce facilities through the imposition of a fee for those who make contributions other than in electronic form and by requiring licensed trustees to provide e-commerce facilities to all employers. The Panel advocates the use of ‘straight-through processing’ with appropriate risk control and the development of ‘Standard Business Reporting’ compatible standards.
• Recognise the importance of the large corporate administrators and clearing houses. The Panel will give further consideration to whether superannuation administrators should be licensed by APRA and recommends that clearing houses be required to provide linked member and funding data to superannuation funds.
• Extend the use of personal information, particularly TFNs, to promote efficiency in the superannuation system. This would include allowing TFNs to be used to link contributions and rollovers with member accounts.
• Improve portability and consolidation of accounts. This would include requiring the ATO to develop an electronic means to display all of the superannuation funds relating to an individual, validation of TFNs by fund administrators and clearing houses upon establishment of a new member account along with checks to ascertain whether unclaimed money is held for that member and simplification of the mechanisms for rollovers. Further, it is proposed that member protection rules be abolished and the RSE licence for each trustee of an eligible rollover fund be subject to a condition that the trustee actively attempt to cross match members with active superannuation funds.

Second Phase One Preliminary Report

On 20 April 2010, the Cooper Review released the Second Phase One Preliminary Report MySuper: Optimising Australian superannuation.¹⁴ (You will recall that Phase One of the Review deals with governance). As detailed in the corresponding media release,¹⁵ this report ‘provides more detail on the choice architecture outlined by the Review Panel in its Phase One preliminary report Clearer Super Solutions¹⁶ released late last year. ‘MySuper’ is the new name for the universal fund concept proposed in that report’. MySuper forms only one part of the ‘choice architecture model’ proposed by the Review Panel. 

The aim of MySuper is to provide a ‘simple, cost-effective product with a diversified portfolio of investments for the vast majority of Australian workers (shown to be above 80 per cent of members) who are invested in the default option in their current fund’. The Panel believes that MySuper would also be an attractive option for presently engaged investors due to its greater transparency, comparability and economies of scale combined with the ongoing protection afforded by the traditional trustee obligations and lower costs. The Report emphasises that ‘MySuper has nothing to do with establishing a single national default fund’; instead, it is a product which existing superannuation fund trustees can provide through either ‘a separate fund or an identifiable pool of assets within an existing superannuation fund’.

General principles

It is proposed that trustees would need to obtain a MySuper APRA licence. Further, there would be the following additional regulatory requirements for MySuper products:

Soft principles

Three new ‘high level, principles-based’ trustee duties would be inserted in the SIS Act and could not be diluted, being the following:

• the trustee would need to provide members with an investment strategy which optimises their financial best interests having regard to the overall cost and net investment return over the long term 
• the trustee would need to design ‘a single investment strategy with an appropriately diversified allocation of growth and defensive assets’, and
• the trustee would need to consider, on an annual basis, whether its MySuper product has sufficient economies of scale on its own. Mergers or pooling of MySuper members or products may be required.

Hard principles

A MySuper product would need to:

• accept all types of contributions allowed by law
• use electronic disclosure and e-commerce
• ensure no direct or indirect cross-subsidisation of costs between products
• provide a post-retirement product
• limit fees, including no entry or contribution fees, exit fees only on a cost recovery basis, buy and sell spreads limited to demonstrable costs and switching fees to be paid to the fund only. All fee schedules and discounts would need to be explicit and not subject to negotiation or rebates.

It is also proposed that MySuper products would have to provide death insurance at a default level on an opt-out basis and provide the ability for members to elect higher levels of cover. Trustees would also have the option of offering members voluntary insurance for total and permanent disability and salary continuance.

In terms of disclosure, it is proposed that because of the simplicity of a MySuper product, as well as the central duty of the fund trustee in overseeing a MySuper product, there would be reduced member disclosure obligations. In fact it is proposed that product disclosure statements would not be required.

Advice

• Advice in relation to MySuper products could not be bundled with personal advice and could only be provided upon member request.
• Trustees of MySuper products must provide access to intra-fund advice, with costs shared across MySuper members or charged to those who use the service.
• Advice would be on a fee-for-service basis for personal financial advice sought by MySuper members outside the intra-fund model. This fee would be negotiated between the member and the adviser and could not involve trailing commissions or ongoing payments. Fees for advice about superannuation would be able to be paid from the member’s account. There would be a requirement to renew such arrangements annually.

Default funds

• Accumulation funds would need to offer a MySuper product in order to be an employer’s default fund for SG Act purposes.
• Defined benefit funds would automatically be default funds for SG Act and award purposes and would generally fit into the MySuper model given that members with defined benefits ‘are protected in a way broadly consistent with a MySuper product’. 
• Hybrid funds with an accumulation division which is used to satisfy an employer’s superannuation guarantee obligations would be required to offer a separate MySuper product in order for the fund to be a default fund for SG Act purposes.

The business of being a trustee – Indemnification of directors

Rickus case

There has been another chapter in the long running dispute between Mr John Rickus (the former chairman of the board of directors of the Trustee of the MTAA Industry Superannuation Fund) and Motor Trades Association of Australia Superannuation Fund Pty Ltd (the Trustee company itself). This time the focus of the Federal Court was on indemnification of Mr Rickus’s legal costs by the Trustee.

In the 2008 judgment Motor Trades Association of Australia Superannuation Fund Pty Ltd v Rickus (No 3) [2008] FCA 1986, the Federal Court considered whether Mr Rickus as a director of the Trustee had an obligation to produce documents to the Trustee upon request. The context to the dispute between the Trustee and Mr Rickus was that, while a director, Mr Rickus had received a notice from APRA to produce certain documents as part of its investigation and he had complied with this notice. The documents included personal notes and correspondence. After unsuccessful attempts to obtain the documents from Mr Rickus, the Trustee commenced legal proceedings against Mr Rickus to require him to produce the same documents to the Trustee. The Federal Court decided that Mr Rickus:

• had a duty to provide to the Trustee copies of documents which the Trustee requested in order to allow the Trustee to respond to APRA’s investigation, and 
• this obligation arose because of a director’s duty to act in the best interests of the Trustee company.

Recently, the Full Federal Court considered this dispute again in the context of Mr Rickus’s claim for indemnification of his legal costs by the Trustee in Rickus v Motor Trades Association of Australia Superannuation Fund Pty Limited [2010] FCAFC 16.

This dispute arose when the Trustee commenced separate proceedings against Mr Rickus on 3 September 2007. The Trustee’s action made many claims including that Mr Rickus was required to produce to the Trustee the documents which he had provided to APRA pursuant to the notice. When the Trustee reduced the number of its claims, a hearing fixed for November 2007 was abandoned.

On 26 November 2007, Justice Flick ordered the Trustee to pay to Mr Rickus the taxed costs incurred by Mr Rickus in defending the Trustee’s proceedings on an indemnity basis up to 26 November 2007 (see Motor Trades Association of Australia Superannuation Fund Pty Limited v Rickus [2007] FCA 1878).

On 1 February 2008, Mr Rickus filed a cross-claim in the Trustee’s proceedings seeking indemnification by the Trustee for legal costs he incurred in defending the Trustee’s action.

On 28 July 2008, the court granted leave to the Trustee to discontinue its proceedings. However, Mr Rickus’s cross-claim remained unresolved.

On 24 December 2008 in Motor Trades Association of Australia Superannuation Fund Pty Limited v Rickus (No 3) [2008] FCA 1986, Justice Flick ordered that the cross-claim be dismissed with costs and that both parties bear their own costs from 27 November 2007. Mr Rickus appealed this decision and sought an order that the Trustee pay his costs on an indemnity basis in relation to the Trustee’s proceedings.

The Full Federal Court determined this appeal and held that the Deed of Indemnity given to Mr Rickus by the Trustee and the Trustee’s Constitution provided indemnity for Mr Rickus’s legal costs but would not have provided for indemnification for any liability owed by Mr Rickus to the Trustee. This was in part due to the restrictions on indemnification imposed by the Corporations Act:

• Indemnification for liability owed by a director to a company is prohibited by section 199A(2) of the Corporations Act, which provides:
  
  ‘A company or a related body corporate must not indemnify a person … against …a liability owed to the company or a related body corporate…This subsection does not apply to a liability for legal costs.’
  
• Indemnification for certain legal costs is prohibited by section 199A(3) of the Corporations Act, which provides:
  
  ‘A company … must not indemnify a person … against legal costs incurred in defending an action for a liability incurred as an officer …of the company if the costs are incurred:
  
  (a) in defending or resisting proceedings in which the person is found to have a liability for which they could not be indemnified under subsection (2) [see above]’.

The Full Federal Court held that indemnification of Mr Rickus’s legal costs was not precluded by Corporations Act section 199A(3)(a). While the primary judge held that Mr Rickus was under a duty to provide a copy of all the requested documents to the Trustee (and this obligation was a liability owed to the Trustee within the meaning of Corporations Act section 199A(2)(a)), these findings were not made in the Trustee’s proceedings as the Trustee’s proceedings were discontinued before such a finding was made. Rather these findings were made in consideration of Mr Rickus’s cross-claim. The court held:

‘Although it may have been the case that, had the Trustee pressed its proceedings to finality, the appellant would have been found liable to it as alleged, that is not how events unfolded and no finding of liability was ever made in the Trustee’s proceedings.’

It is worthwhile noting that the court in determining the cross-claim did not consider whether the primary judge was correct in his articulation of the duty owed by Mr Rickus to the Trustee.

On 22 April 2010, in Motor Trades Association of Australia Superannuation Fund Pty Ltd v Rickus (No 6) [2010] FCA 383, Justice Flick gave further direction on the application of the costs order whilst expressing the view that this ‘will, hopefully, be the last judgment required to finally dispose of the present proceeding’.

Corporations Act

Directors of trustee companies typically rely on indemnification from many sources, including the superannuation fund’s trust deed, the trustee company’s constitution, deeds of indemnity and insurance policies. While Mr Rickus was successful, this recent decision emphasises that indemnification of a director is not available in certain instances. These instances include:

• A company cannot indemnify a director for liability, other than legal costs, where the liability is owed to the company or a related body corporate, a liability for a civil penalty order under the Corporations Act or a liability which arises from conduct involving a lack of good faith.
• A company cannot indemnify a director against legal costs incurred:
  • in defending or resisting proceedings in which the director is found to have a liability for which they could not be indemnified under section 199A(2) of the Corporations Act
  • in defending or resisting criminal proceedings where the director is found guilty
  • in defending or resisting proceedings brought by ASIC or a liquidator for a court order if the grounds for making the order are found by the court to have been established (note this does not include an ASIC investigation before the commencement of proceedings for a court order), or
  • in connection with proceedings for relief for the director under the Corporations Act in which the court denies the relief.
• Indemnification from the assets of a superannuation fund are prohibited where the director has acted dishonestly, the director has intentionally or recklessly failed to exercise the degree of care, skill and diligence that the director is required to exercise or the liability is a monetary penalty under a civil penalty order under the Superannuation Industry (Supervision) Act 1993 (Cth).
• Insurance policies will generally exclude cover in certain circumstances, including dishonesty and fines or penalties.

The various Rickus cases also emphasise the importance for trustee companies to ensure that there are adequate arrangements for the retention of board papers and supporting documentation. Unless the company directs, board papers remain the property of the individual director once they leave the board room. Directors also have certain rights under the Corporations Act to access board papers and these rights may be entrenched in a Deed of Access.

Freehills update

• Freehills has topped the 2010 list of Australia’s best lawyers, compiled by an independent survey in which thousands of leading lawyers confidentially evaluated their professional peers. The list, created by the legal benchmarking group Best Lawyers International, includes 120 Freehills lawyers, not only the largest overall number of ‘best lawyers’ than any law firm in Australia, but also 17 more lawyers than last year.
  
  Freehills also ranked number one in Australia in the area of superannuation law with Terry Brigden, David Cooper, Natalie Gullifer, Peggy Haines and Michael Vrisakis all named as ‘best’ in the field.
  
• An article by Michael Vrisakis ‘Return of superannuation contributions under the doctrine of mistake’ was published in the Financial Services Newsletter Vol 8 No 9 March 2010. Michael’s article ‘Life Product Rationalisation’ was published in the Financial Services Newsletter Vol 8 No 8 February 2010.
• Natalie Gullifer and Beth McConnell’s article ‘Reflections on the superannuation industry’ was published in Investor Weekly March 2010 Quarterly Issue.
  

Endnotes

1. Senate Economics Legislation Committee Report on Tax Laws Amendment (2010 Measures No. 1) Bill 2010
2. Tax Laws Amendment (2010 Measures No 1) Bill 2010 
3. Tax Laws Amendment (2009 Measures No. 6) Bill 2010
4. Media Release, ‘Financial Services Consumer Protection Framework Extended to Superannuation Borrowing Arrangements’ 
5. Discussion Paper – Income Tax Treatment of Instalment Warrants
6. Freehills article, ‘The new Australian Consumer Law – it has arrived!’
7. Options Paper: Unfair Terms in Insurance Contracts 
8. Ruling TR2010/1 Income tax: superannuation contributions 
9. Taxpayer Alert TA 2010/2 Circumvention of Excess Contributions Tax 
10. Media Release, ‘SMSFs and excess contributions tax’ 
11. Discussion paper – ‘Supervision of conglomerate groups’ 
12. Media Release, ‘APRA consults on proposals for the supervision of conglomerate groups’ 
13. Super System Review Phase Two Preliminary Report, SuperStream: Bringing the Back Office of Super into the 21st Century
14. Super System Review Second Phase One Preliminary Report, MySuper: Optimising Australian superannuation
15. Media Release, 20 April 2010, ‘Super System Review releases latest preliminary report: MySuper A super option designed just for members’
16. Super System Review Phase One Preliminary Report, Clearer super choices: matching governance solutions

More information

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