CHAPTER 8
THE DEFAULT FUND
Introduction
8.1 Some employees will be indifferent to exercising their right to choose
a fund. Reasons include:
- Satisfaction with their current superannuation arrangements
- Low levels of literacy or numeracy where employees lack confidence,
feeling unable or unwilling to choose.
- Lack of interest in making a choice.
- For these people, the employer will pay contributions into a default
fund.
8.2 Under the legislation, employers can choose a default fund for new
employees. Where existing employees are offered the choice of funds (although
this is not compulsory until the year 2000), the default fund is the fund
to which the employer previously contributed on behalf of the employees.
8.3 Witnesses reported to the Committee the importance of ensuring the
fund is an appropriate fund for the employees' needs.
8.4 For example, several witnesses questioned whether an RSA would be
an appropriate default fund for a young person. If the employer pays the
employee contributions into a low-growth product, these contributions
would compound more slowly than invested in a higher growth product, leading
to a smaller benefit at retirement.
8.5 The Committee also received evidence about the desirable features
of a default fund, including the provision of insurance cover.
The Default Fund - A Protective Mechanism
8.6 It is impossible to predict how many employee contributions will
be directed to default funds. Witnesses advised the Committee they expected
a considerable proportion of the population to use the default option.
While there are several reasons why this might happen, poor literacy and
numeracy levels are expected to be the major factors.
8.7 Mr Ken Lockery of Towers Perrin referred the Committee to a study
showing that up to 40 per cent of Australians have difficulty in interpreting
a bus timetable. He said that for a large part of the population, an education
campaign, no matter how well directed, will be fruitless:
I believe for a large part of the population that an education campaign,
no matter how well directed, will be fruitless... ...Those people have no chance of making an educated assessment of
superannuation choice. They will have two logical choices to make. One
is to ask to stay in the fund they are already in, if they felt happy
with that fund; the other is to accept the default fund, which is largely
what they have at present, that is, their employer puts them \DB\PGN\308into
a fund. They are the only logical outcomes for close to half of the
population because they have absolutely no chance of looking at information
that will be provided, no matter how much education is provided, and
making a sensible individual choice. [1]
8.8 For this reason, a number of other witnesses considered that the
default fund should play a protective role for people who cannot, or are
unwilling, to make an active, informed choice.
8.9 The Australian Consumers Association (ACA) saw the default fund as
the most important protective mechanism in the choice of fund regime.
Mr Peter Kell addressed the Committee:
Starting with the people who do not actively choose because we have
a compulsory system, what can we introduce to protect those people?
In our view, the most important protective mechanism is a standard for
funds that are default funds. [2]
8.10 Mr Kell expressed the view that the current choice proposal does
not provide sufficient protection, because there are no minimum standards
specified:
The problem with this system is that there are no minimum standards
specific to default funds. There are basic minimum standards applying
to all funds such as reporting requirements, but the appropriateness
and quality of superannuation investments for large numbers of people
will effectively be the arbitrary outcome of where they happen to work.
They may work somewhere where a high quality, appropriate default fund
is in operation. They may end up working somewhere where, to put it
bluntly, a dog of a fund is the one they end up in. There is nothing
in policy that prevents that sort of outcome. [3]
8.11 Mr Kell suggested that S32H of the legislation be amended to incorporate
some minimum standards for default funds. He suggested the following criteria,
in order of importance:
- long term capital growth;
- basic level of death and disability insurance;
- maximum limits on fees, in particular exit fees. [4]
8.12 Mr Brian Thomas, Financial Products Manager, NRMA, also addressed
this issue in some detail. He told the Committee that in his view, the
default fund "is a special type of fund" and needs special features:
The features we think make sense are: a free look period, similar to
life insurance contracts so you can get out of it; compulsory portability,
so that if you are in it beyond 14 days and you want to transfer your
moneys that have accumulated, you should be able to transfer your moneys
out of the fund. ... The other types of standards could be relating to fees and could be
relating to sensible investment options based on age. So you could have
a situation where, if an employee does not make a choice within a certain
time, then they are placed into what the trustees regard as a sensible
investment decision for their age - for example, a young person may
go to a growth orientated fund. [5]
8.13 Mr David Connolly of Phillips Fox, also expressed the opinion that
the default fund should incorporate insurance cover.
As it currently stands, it is quite clearly laid out that the default
fund does not have to provide insurance cover. Again, I think that is
an issue which you should address critically, because there is a strong
case to argue that the default fund ought to contain a component of
insurance cover. [6]
8.14 Committee members and several witnesses questioned whether low growth
products should be permitted as default funds. RSAs, which can be set
as the default fund, were particularly singled out for mention as inappropriate
products for default fund purposes. However, other witnesses disagreed
with this view.
8.15 IFSA representatives advised the Committee they "would not
advocate RSAs as default funds". However, IFSA's Acting Chief Executive
Officer, Mr John Maroney, suggested that with appropriate education and
disclosure, there was no reason why RSAs should not be set as the default
fund:
That would not mean, to my mind, barring RSAs from being a default
choice or really barring any type of fund that is provided at the moment
from being available, provided we have the right rules on disclosure,
information availability and provision of advice. [7]
8.16 Mr Maroney went on to say that, given that employees have the option
of making a new choice once a year, IFSA would generally resist the idea
of setting default fund standards because this `tends to work against
the underlying competitive pressures'. He concluded:
If the government mandates these other parameters, that will cause
the market to lock in on those parameters, even if those parameters
are not really ideal from what you would really want to offer in the
range of benefits, costs and services to different sorts of customers.
Some customers like very low costs and are quite happy with infrequent
and standardised service. Others would prefer to have a more premium
type arrangement where you can get personal advice at the end of a phone
call. We would say the better way to do that is to make sure it is very
clear what people are getting into through disclosure, that there are
good levels of advice around and that people have flexibility which
the annual choice provides so that they can pick what suits them best.
[8]
Setting the default fund
8.17 The Committee found there is a diversity of opinion about how the
default fund should be selected and by whom. Representatives of the trade
union movement strongly held the view that the default fund should be
the award fund. Ms Linda Rubinstein, Senior Industrial Officer, ACTU,
told the Committee:
...we would recommend that the default fund should be in accordance
with the award. Where there is no award, one of two methods could be
adopted. The first is that it could be the fund to which the majority
of the employees are already belonging and the second is to pick up
something from the Workplace Relations Act. Where you do an AWA or a
certified agreement under the Workplace Relations Act, if there is no
award in place the commission or the Employment Advocate designates
an award for the purposes of measure_ment of the benchmark. That same
principle could be used. [9]
8.18 Other witnesses however were of the view that the legislation, as
it currently stands, is too restrictive. Coopers & Lybrand and IFSA
representatives both advocated allowing the employer to change the fund
for existing employees as well as setting it for new employees.
8.19 Mrs Louise Matthews of Coopers & Lybrand told the Committee
that the employer should have the right to both set the default fund in
respect of future contributions, and to move existing balances to protect
employees and employers against poor performing funds:
I am not suggesting that they have carte blanche to go about transferring
account balances from chosen funds. But, for instance, if a member has
not exercised choice and a default fund is in place, and 12 months down
the track the employer sponsor is not happy with the performance of
that default fund, currently the legislation only provides for that
employer to change the default fund in respect of future contributions
and there is not an ability of the employer sponsor to move the account
balance from the old default fund to the new default fund. [10]
8.20 Ms Matthews considered that if employers could not move balances,
there would be a proliferation of member accounts. She also held the view
that allowing employers to move balances should reduce administrative
costs, as employers could consolidate past and present accounts. [11]
8.21 IFSA representatives made similar observations. Ms Lisa Chadwick,
a member of the Retirement Savings and Incomes Forum, IFSA, informed the
Committee:
...there will always be some percentage of people who do not feel able
to make a choice and just want to go along with whatever the employer's
choice is. The problem with the legislation, as we see it, is there
is no ability for the employer to change that default fund. We are suggesting that the employer be allowed to change that default
fund to protect those very employees who do not feel able to make the
choices. There has to be a protection there for those people who prefer
the default fund. We are suggesting that they be allowed to actively
remain with the default fund if they want. For all those people who
are never going to tick a box, because they are just not interested
in the whole thing, let the employer take over if they so desire. [12]
Conclusions
8.22 The Committee is of the view that there is a strong case for setting
minimum standards for default funds. The Committee considers it is likely
that significant numbers of superannuation accounts will default to these
funds.
8.23 The Committee is particularly mindful of the evidence put forward
by Towers Perrin and other witnesses, cited elsewhere in this Report,
about levels of literacy and numeracy in the Australian population.
8.24 The Committee considers that while choice is important for those
who can exercise it responsibly, it is also important to ensure that default
funds protect the interests of employees who are unable to protect their
own long-term interests. These people should not be disadvantaged through
being placed in inappropriate investment products. The Committee is unconvinced
that education and disclosure will be sufficient protection.
8.25 It is also important to remember that the fundamental purpose of
a compulsory superannuation system is to decrease future public dependence
on the age pension. If significant numbers of people find themselves in
inappropriate, low growth products because of decisions about default
funds taken by employers, the objectives of the superannuation system
may be compromised.
Footnotes
[1] Evidence, p. 307.
[2] Evidence, p. 339.
[3] Evidence, p. 339.
[4] Evidence, p. 340.
[5] Evidence, p. 317.
[6] Evidence, p. 255.
[7] Evidence, p. 379.
[8] Evidence, p. 379.
[9] Evidence, p. 131.
[10] Evidence, p. 276.
[11] Evidence, p. 276.
[12] Evidence, p. 378.
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