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Compulsory APRA licences for all APRA regulated super funds: what is expected of trustees?



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APRA Speech

COMPULSORY APRA LICENCES FOR ALL APRA REGULATED SUPER FUNDS - WHAT IS EXPECTED OF TRUSTEES?

Greg Brunner Thursday, 10 April 2003

The topic of this presentation is “what is expected of trustees” in relation to licensing.

Today I will give a birds-eye view of APRA’s proposals regarding some of the key aspects of the superannuation reform. All this work, however, is subject to legislation, so my comments today are necessarily somewhat preliminary until Parliament approves the Bill and associated regulations.

The primary purpose of superannuation trustee licensing is to ensure that all superannuation trustees have the capacity, competency and means to look after the interests of superannuation fund members. Trustee licensing also intends to place more emphasis on the responsibilities of the trustee to ensure it complies with the obligations that the legislation places on them as trustees. This means that it will be up to the licensed trustee to demonstrate it has the competency and adequate means to carry on the type of trustee business it intends to operate on an on-going basis.

What a trustee will need to do in order to demonstrate its capacity to carry out trustee business will depend and vary according to the type of the trustee business it intends to operate, the size of its business and the complexity of its operations. This phrase is intended to reflect the reality that there are numerous kinds of superannuation funds that do vary and that these differences will need to be reflected in the type of licence trustees may need to obtain.

Licensing will be introduced via the Superannuation Safety Amendment Bill 2003, which is being drafted by Treasury in close consultation with APRA and other superannuation regulators. Timing is still a little bit unclear but consultation on this Bill likely to be conducted from late April for about a month. The Bill will need to be introduced to House of Representatives by 26 June and pass both Houses of Parliament fairly quickly if the Government’s current timetable is to be met.

If this deadline is achieved, there will be a 2 year transition period from 1 January 2004.

Licensing

After the end of transition period, all trustees will be required to be licensed by APRA before they can act as a trustee of what will be known as a registrable superannuation entity (RSE). Trustees will need to apply for a license from APRA and the license will only be granted by APRA if it is satisfied that:

❍ The applicant will not fail to comply with the laws applying to trustees and the conditions imposed

on the license ❍ The application meets requirements such as form, submission of certain material, fee (etc)

❍ The applicant meets the fit and proper requirements outlined in the applicable operating standard

(more on this later) ❍ The applicant’s Risk Management Strategy (“RMS”) complies with the RMS requirements

❍ The applicant meets the capital requirements (where applicable)

I will address some of these requirements in more detail shortly, however it is important that I outline the types of license for which a trustee may apply first. Our current expectation is that there will be three license tiers. The key themes in licensing will vary by tier.

The unrestricted tier, known as tier one, is roughly equivalent to trustees of public offer funds. Tier 1 licensees will need to demonstrate that they can safely run a large and complicated business, with sophisticated investment

management, operational risk, and other systems. Tier 1 licensees must be constitutional corporations. Trustee activities under this tier will be unrestricted with comprehensive license conditions reflecting the more rigorous management system requirements, including a capital requirement, and a detailed supervision approach by APRA

Tier two is focused on non public offer multi-employer funds and larger single employer group funds. Licensees may be a constitutional corporation or a group of individual trustees in both of which equal representation requirements must be met. Tier 2 entities will normally require good outsourcing management, and will have a sophisticated investment management strategy, carried out with appropriate controls. Trustee activities under Tier 2 may be restricted (such as only acting as trustee for one fund), with comprehensive license conditions, excluding a capital requirement, and a moderate supervision approach by APRA.

Tier 3 licensees will be authorised to operate only one superannuation fund that is not for public offer (generally a single employer sponsored fund). In tier 3 we expect to see a lot of outsourcing, including to employer sponsors and this outsourcing will need reasonably tight management. Overall, APRA’s expectations are that tier 3 licensees will have basic but solid business plans and risk management strategies.

It should be clear from these descriptions that licensing expectations will vary somewhat by tier, with smaller funds subject to less demanding licensing arrangements and larger and more complicated funds subject to more demanding arrangements. This position is not due to any APRA aversion to larger and more complicated funds. Rather, we observe that equal representation provisions work best in funds that would fall into the third tier, work reasonably well in the second tier, and are generally not applicable in the first tier. The balance between APRA licensing demands and equal representation protection is intended to lead to roughly equal regulatory safety for every Australian superannuation fund member, no matter the size or type of regulated fund that the member belongs to.

Choice of license tier will rest with the trustee. However, APRA will have the final say based on our assessment of the structure and complexity on the trustees business.

Fees

Trustees will be required to pay an application fee (the fee is attached to the application, not the granting of the therefore it is not refundable if the application is not successful). This is no change from the current requirements applying to Approved Trustees. This fee is designed to simply cover the cost incurred by APRA attributable to the licensing process. Fees levels are currently being explored in line with the Productivity Commission guidelines on cost recovery. Our expectation is that fees will be linked to the license tiers to reflect the amount of resources involved for APRA to assess the application. Proposals for the level of fees will be subject to the usual Treasury consultation process.

Risk Management

The need for Risk Management Strategies (RMS) and Plans (RMP) is set out in the legislation and in a more detailed Operating Standard. The key requirements of this Operating Standard are for all Trustees to establish and maintain:

o a documented RMS that clearly outlines the Trustee’s governance structure and risk management framework; and

o a RMP that outlines the framework to address the risks specific to each Fund operated by the Trustee.

Trustees will be required to formulate, document and provide to APRA a Risk Management Strategy as part of the trustee’s application. An RMS must set out reasonable measures and procedures that the trustee uses to identify measure and monitor the risks that arise in relation to its activities as a trustee, including but not limited to:

o Governance and decision making

o Business objectives and how they will be achieved

o Changes in the law that applies to trustees

o Managing fraud

o The audit of risks

The RMS may incorporate sections of an RSE’s risk management plan (i.e. the fund’s RMP) in order to avoid any duplication where it arises. The RMS must be kept up-to-date, reviewed at least yearly and modified or replaced promptly if it fails to comply with the requirements for RMSs. Any such change to the RMS must be notified to APRA

The risk management requirements would differ across three license tiers depending on the size and complexity of the operation and the conditions of the Trustee’s license. Generally, Trustee governance structures and risk management frameworks would be more complex for Tiers 1 and 2 than for Rises whose Trustee holds a Tier 3 license.

The risk management strategy and risk management plans, including the investment management plan, are expected to constitute a substantial part of the work in a license application. The business plan may also require work, and generally documenting processes and policies will take some time and effort where this work has not yet taken place. I note that all this work will help fund safety even if no licensing process were impending, so it should not be viewed as regulatory drudgery, at least so APRA hopes, but a helpful creation or update of the risk management environment.

Fit and Proper

A proposed standard will deal with the fitness and propriety of trustees. The ‘proper’ part of the ‘fit & proper’ standard is not new to the superannuation industry as it already exists in relation to disqualification provisions under the Act.

Proper refers to the general behavior and conduct of an individual. This will be assessed by reference to such things as:

o an individual’s conduct in the discharge of their duties (both past and present);

o the reputation and character of the individual including whether the individual has engaged in unlawful or improper conduct;

o other matters that APRA may deem relevant in determining an individual’s propriety to serve in the role of a Director of a Trustee or in other roles to which this standard is deemed to apply.

All individuals who wish to act in the capacity of a Trustee, and other responsible officers will be required to meet the proper requirements set out in the proposed operating standard.

‘Fit’ on the other hand is a relatively new concept within superannuation, although APRA has found it to be a useful regulatory tool within our other industries

Fit refers to the qualifications and competence of an individual.

The matters that the Trustee should, and APRA will, have consideration of with respect to the fitness will include:

o A person’s competence, experience, and ability with respect to the duties for the role for which they are being considered for, including:

o consideration of the skills, knowledge, expertise, experience, diligence and soundness of judgment to undertake the duties and responsibilities of the role in question; and

o the competence or lack thereof demonstrated in the performance and discharge of previous and / or existing responsibilities as relevant.

The application of these requirements will differ according to the tier of license:

· For tier 1 licensees, each director of the constitutional corporation that is the Trustee and any other person identified as a person to whom the fit and proper criteria apply will be required to meet the fit criteria in its entirety.

· By the time we get to tier 3, whilst it would be desirable for trustees to meet to fit criteria, it will also be possible for them to rely on a key person to meet key or critical fit requirements. This person can be an external party.

Who do we expect to be licensed?

The great majority of license applicants will receive a license. Among the applications received by APRA, however, an unknown but substantial number will require amendment. Some amendments will be to the application itself, and should not present many concerns. APRA will also expend considerable effort to remediate issues with applicants who do not have sufficient risk management systems in place upon applying, but who could remedy the identified issues and therefore subsequently receive a license.

The proposed legislation also aims to introduce some changes to the Act to ease transfer of funds in certain circumstances, such as failure to be licensed.

APRA intends to provide considerable guidance in the licensing process. We have for example drafted license application outlines, possibly including pro forma risk management plans, and will doubtless provide more material as we move forward.

APRA will be seeking considerable cooperation from industry to ensure that licensing goes smoothly. The Government has announced that the new regime will have a 2 year transition period but it has also accepted the SWG recommendation that consideration will need to be given to how the licensing process can be smoothed administratively during the transitional period to ensure that all applications are not received at the end of the 2 years. In order to make the licensing process as efficient and cost effective as possible APRA would like to link licensing to the conduct of its regular on-site visits to funds. APRA is currently examining with Treasury the best way to facilitate this and give trustees the flexibility that some may need to prepare for licensing.

Australian Prudential Regulation Authority www.apra.gov.au