Keeping on top of the latest financial services regulatory & compliance trends?
Investing time in your professional development within a rapidly changing financial services industry is challenging. To meet that challenge, the Australian regulators weekly wrap is designed to keep you at forefront of your practice by quickly setting out the top 5 developments from the past week, analysis and practical considerations for the future.
- APRA priorities (APRA): the prudential regulator has released its policy and supervision priorities for the next 12 to 18 months. Policy priorities for 2022 include: a major multi-year initiative to modernise its prudential architecture; improving crisis preparedness, including finalising two new prudential standards on contingency and resolution planning; implementing the bank capital reforms that were largely finalised in 2021, to embed “unquestionably strong” capital ratios and the Basel III reforms; strengthening core requirements for strategic planning and member outcomes in superannuation, to align with and reinforce the Government’s Your Future, Your Super reforms; and, completing comprehensive reforms to the insurance capital standards, primarily to ensure they align with the new accounting standard AASB17. You can read the paper here.
- Senate economics committee — FAR (Parliament): on 27 January 2022, the Senate Economics Committee met to discuss the FAR bill. There was less coverage on the FAR proposals than Compensation Scheme of Last Resort (see below); however, CHOICE, who had the largest submission, made some recommendations regarding FAR. CHOICE had recommended reintroducing civil penalties into the FAR bill, as was initially proposed by the Ramsay Report in 2015. The Committee had concerns; one concern was authorised persons indemnifying themselves from the company or insurance to cover the cost of the civil penalty. This means the cost is borne by the shareholders (not executives). CHOICE argued that it would still be a significant individual deterrent as the industry would consider a civil penalty a black mark against that executive’s name. Further, indemnification could be legislated against, as notably the Corporations Act already has carveouts for what behaviour indemnities can cover. Some submissions addressed amendments to the proposal of deferred remuneration, hoping for increased punitive measures for variable remuneration. Senator Scarr raised the issue that Executives will simply increase their base pay, which then has the effect of less incentive to adhere to the guidelines (because there are fewer financial consequences for malfeasance). It was submitted that short and long term incentives are there to drive the correct behaviour (align senior executive’s performance with the company overall). In response, CHOICE went back to the issues that have caused the creation of the legislation: those short-term incentives encourage behaviour to fulfil short-term performance metrics. Deferred Remuneration in FAR would not seek to ban, just be clawed back when breached, similar to the approach taken in the UK. ASFA also had submissions relating to deferred remuneration under FAR, arguing that the current regulations under CPS 511 do not align with the proposal in the bill. Noting that, CPS 511 is being reviewed this year but pointing out that one takes a backward-looking approach and the other forward-looking approach. ASFA recommended that the legislation comes into line with CPS 511. APRA’s submission was published and is here, which stated: ‘The BEAR has been a key regulatory lever for APRA to drive action by ADIs through the identified accountable persons and to transform governance, risk culture, remuneration and accountability outcomes across the banking industry. APRA uses the BEAR in its day-to-day supervision to influence preventative or remedial action to be taken by ADIs and accountable persons well before there is a threat to the ADIs’ financial viability. APRA has seen positive outcomes from the BEAR and supports the broadening of the regime to all APRA-regulated entities. This will extend the coverage of an accountability regime aimed at improving risk and governance cultures from 143 ADIs under the BEAR to approximately 435 entities under the FAR.’
- Senate economics committee — FAR (Parliament): the Committee also considered the CSLR, which took up more time. The submissions repeatedly addressed the narrow scope of the CSLR, namely the exclusion of Managed Investment Schemes. This was raised in almost all submissions for that sub-sector’s responsibility in creating ‘Black Swan’ events which have financially impacted some Australians. The scheme, at present, is limited mainly to financial advice. In response, the Committee raised the question that the scope of the current scheme was broader than that proposed in the Ramsay Review & Financial Services Royal Commission. CHOICE CEO Alan Kirkland, a member of the 2015 Ramsay Review, raised the point that the bill is narrower in several key areas such as compensation caps and the lack of consideration of Court and Tribunal decisions for consumer compensation. Yet Mr Kirkland agreed that a greater cross-section of sectors are subject to the proposed bill, and this is because there have been several issues coming to light in those sectors since then. The number of Australians who would be left vulnerable without the coverage of Managed Investment Schemes is challenging to quantify as it was the second-most under covered sector in Ombudsman’s reports, and CPA Australia’s data had the sector as the second biggest contributor to claims. Given the broad customer base of many of these schemes, Senator Chisolm questioned the possibility of a moral hazard, but this was rejected out-of-hand on the basis that in all case studies, consumers do not have a grasp on the complex legislation and investing in a Managed Investment Scheme is a ‘big leap of faith’. It was put to the Financial Planning Association by Senator Scarr that the procurement of financial advice could be mandated for Managed Investment Schemes because of his involvement in reviewing the Sterling First Collapse. While the body welcomed the procurement of financial advice, it admitted mandating it is a significant step to take. However, it did say increased financial education for the community would aid this because consumers would learn the risks of the scheme and, more importantly, the complexity that encourages them to seek financial advice. Questions were also raised about the exclusion of Debt Management Firms. The Committee wanted to know the reasons behind the submissions to include Debt Management Firms. In response, CHOICE noted that despite the relatively small claim size (e.g. $10,000-$15,000 per person), the class of persons subject to the scheme means a cost of this amount has a devastating financial impact. As the scheme is for last resort instances only, the Committee first attempted to clear up the other ways in which victims can recover before accessing the CSLR. Senator Bragg raised a hypothetical that pointed to how the CSLR functions. Is the first port of call insurance, the licensee or regulators? The answer is that the firm must pay the order of compensation. The firm is legally required to store enough cash. So, the first port of call is the owner. Then this can be indemnified by insurers, and additional regulatory action may be taken. The structure of the compensation pool is such that sectors with higher levels of claims have a greater proportion of the contribution. Notably, different interest groups took a different attitude towards the structure of the pools. CPA Australia, for example, held the belief that the broader the pool, the greater the impetus for the financial services industry to take a shared responsibility. Senator Scarr asked the question that he said many stakeholders were interested in: how do we protect sectors or sub-sectors doing the right thing? How do we ensure that fly-by-night operators do not enter the sector and leave everyone else to pay? It was responded that the scheme is subject to caps for individual instances, several claims will be significantly below the caps, and the bill proposes a $250 million annual cap on payouts as a whole which the Minster has the power to change. Furthermore, it is critical to legislate the floor of the behaviour correctly; then, the scheme would only kick in if the firm was unable to pay (i.e. disappears or insolvent). ASFA’s Black Swan event levy proposal could also ease the burden in periods where there are no claims. Senator McDonald raised the issue of regulatory creep to superfunds who currently are outside the scheme. Stakeholders responded by saying that levies are payable by each subsector and superfunds are not presently defined as a subsector however, there is the risk of increased cost to financial advice sectors that could be passed on to superfunds when seeking advice. Market-driven factors which prevent the payout of insurance claims, such as excesses exceeding claims payouts, meaning the victim does not receive compensation — present a risk to the effectiveness and feasibility of the scheme. John Maroney of the SMSF Association believes this is a regulatory question to ensure licensees have adequate cover, even proposing an annual insurance declaration. The Government’s current review into professional indemnity insurance was supported, advocating for fit-for-purpose professional indemnity policies and insurance pools based on jurisdiction to ease cost in areas that are not claiming. CHOICE recommended a broad definition of when a firm cannot pay the scheme should be allowed to step in where AFCA orders compensation. The scheme should step in, for example, when the consumer paid out under insolvency did not get paid out because of an excess in a firm’s professional indemnity insurance policy. For the scheme to be feasible, insurers need to play a role in subsiding the scheme by providing proper coverage and claims payouts; if insurers fall back on the CSLR, it will become too costly. In response, the SMSF Association submitted that this would require greater regulatory coverage.
- Information matters (OAIC): the privacy regulator has released a paper outlining its regulatory priorities for the year ahead. It has stated that its collaboration and joint regulatory actions with international regulators will remain central to ensure Australians’ data is protected wherever it flows, and that it will be active in forums such as the Global Privacy Assembly, Asia Pacific Privacy Authorities Forum and International Conference of Information Commissioners. It also plans to focus on collaboration with domestic regulators will as it co-regulates the Consumer Data Right with the ACCC, and prepare for an Online Privacy Code following the government’s release of the Privacy Legislation Amendment (Enhancing Online Privacy and Other Measures) Bill 2021. Finally, OAIC stated that it will continue to support government agencies to reduce freedom of information (FOI) applications through proactive publication and through its resources to support good decision making. OAIC’s priorities have been set out to: ‘advance online privacy protections, influence and uphold privacy and information access rights frameworks, encourage and support proactive release of government information, and operate as a contemporary regulator’
- Responsible entity governance review (ASIC): ASIC has released findings from a high-level review of the governance practices of 10 large responsible entities of managed investment schemes. ASIC undertook the review to explore specific aspects of responsible entity governance and gain some early insights. Some of the key findings were: 1. Five of the 10 responsible entity boards had a majority of executive directors and one board had an equal number of executive and non-executive directors. Six boards had a majority of non-independent directors. 2. The average length of tenure for a director across the 10 responsible entities was approximately 4.5 years. 3. A director held on average 6.7 additional roles that were external to the responsible entity, including directorships and committee positions at other entities (including entities in the same corporate group as the responsible entity). The average estimated time commitment for a director’s external roles was 10.1 days per quarter. 4. Eight of the responsible entities obtained all of their staff resources from other entities in the same corporate group. These eight responsible entities did not employ their own staff. 5. The responsible entities had documented delegation and reporting frameworks. 6. The number of outsourced service providers the responsible entities engaged during the relevant period ranged from five to over 150. The responsible entities had arrangements to monitor outsourced service providers. 7. The responsible entities demonstrated an awareness of managing conflicts of interest.
Thought for the week: some dense wording on the Senate Economics Committee deliberations regarding FAR and CSLR this week! Important though, to my mind — there was a sense in some quarters that the ancillary civil penalties would be rolled back. That is clearly not going to happen, and I think that the FAR in its present form is likely to be passed imminently. Now banks, insurers and super funds need to turn to implementation, which is much more practically difficult than might be thought. We are running a practical session on FAR implementation on 2 March- for those interested, sign up here!