Superannuation Submission

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					Superannuation Submission
A clean sheet approach is preferred with a program to transition to that.
Superannuation policy should move to be all embracing of persons rather than aimed
at employees. An additional levy is required.
Investment choices should be constrained to provide for less risk of inadequate
retirement income.
A government retail superannuation agency should be established which front-ends all
investment options other than for SMSFs or member based (industry) funds. The
evidence is that very little value is being added by financial advisors and fund
manager intermediaries. Financial advice must be totally separated from product
alignment. Fees must be performance based to a much greater extent than FUM.
An Expert System should be developed and evolved to reduce advice costs and
present less confusing options and simpler choices for investors in most cases.
All tax related consequences should be at the time of contribution, once.

An over-riding process issue
Only where the transition costs exceed the benefits should the Panel modify the clean
sheet solution to accommodate a less ambitious goal in its recommendations. It is not
necessarily the case that addressing a number of aspects of an overall matter of
concern (the Issues Paper) will lead to the best resolution of that overall concern or of
possible outcomes.

An overriding equity issue
Superannuation policy is predicated on concepts like “member”, and “employee”.
The background paper states:
“For example, from a Government perspective, an efficient superannuation system is one that
imposes the least demand on its fiscal position via the aged pension and its regulatory and
taxation systems, while still achieving the Government's policy objectives.”
If the Panel takes that as a requirement to meet in its recommendations, it should step
back from any restraining concepts inherent in legislation. For example, economists
impute a wage to carers and homemakers, so the Panel should consider how to
provide retirement income to all persons based on an imputed wage or actual income,
and how government can provide that. The short answer is to fully fund retirement
incomes from an additional levy.
The government should raise a levy on all income receiving persons as part of an
adjunct to superannuation, whereby all persons receive benefits equally to an
extent which satisfies imputed wages in general.
That scheme should be administered as part of a new superannuation scheme in which
persons are pre-eminent rather than employees. It is expected that such a scheme
would eventually require a levy of 7% above the SGC to get over the generation gap
effects without impacting on current budget provisions for aged income. That could
be achieved in a ten year time frame.

G. Jensen                                                                         Page 1 of10
What risks not to take
Superannuation policy encourages individuals to provide for retirement with
substantial tax concessions. Governments expect prudent investment in return for
those concessions so that there is a high probability of achieving reasonable returns.
Speculative or leveraged investment should be precluded from allowed
superannuation investment. It should not be lost in terms of evaluation that lower
returns through possibly higher holdings of deposits aids the economy generally and
contributes to capital formation and increased real wealth, providing greater value to
retirees in general. Nor should one overlook reduced volatility as a contributor to
more certainty about investment prospects, and indirectly to more investment taking
place because of that.

Key questions: (4)
Superannuation is special because it receives tax concessions for what in effect
individuals should be doing on their own behalf. Because of those concessions,
government has every right to impose conditions.

Reducing the burden on year to year government finances:
Government is the provider of a safety net for retirement income. Superannuation
mitigates the ongoing fiscal burden of that social obligation. The government
currently provides for aged income through current revenue, yet it would be better for
fiscal outcomes if forward provisions were made. There is a projected substantial
increase in the aged income fiscal burden which current policy seems to hope that
population increase will cover, but it may not. There is a clear need for making
forward provisions at a level which eliminates any additional burden on the budget.
The Panel should determine what that is for reasonable scenarios of population
demographics ahead. An appropriate modelling tool is at:
I made a recent submission to Treasury in regard to retirement incomes along those
lines that concluded a levy was required if population was somewhat lower than the
Treasury prediction.

Investment Efficiency, gross and costs
“The Review Panel takes the view that wholesale investment markets are fairly
If the Panel thinks that chaos is fairly efficient, maybe, but I question whether the
prospect of market collapses exceeding 35% every 20 years or less, or alternatively
several years of inflation exceeding real returns within 20 years, are fairly efficient. It
would be better if “The Review Panel takes the view that wholesale investment
markets experience occasional severe decline or extended periods of poor
performance”, and sought a policy mix which mitigated such outcomes for
Barely 1/3 fund managers beat the market average by a modest margin before fees,
and after fee incomes are rarely properly attributed. (Reference the Issues Paper table
7.3). The Panel needs to be unequivocal about what efficient means in terms of
acceptable deviation from real trend growth over a rolling say five-year period. Set a
target and ask what policy mix will achieve it. I would say that funds invested with re-

G. Jensen                                                                     Page 2 of10
invested income should not decline by more than 10% over any five years from any
peak followed by a fall of more than 10%, and that ten year growth should always
exceed the bond rate by 2% after fees. It isn‟t good enough to settle for a form of
words, there needs to be a measurable numeric benchmark. Fund manager fees should
be aligned with that sort of performance, and a significant part of fee income should
be deferred to allow for any periods of underperformance (they can invest it in term
deposits). Those who want to gamble with their investments can do so outside
superannuation. The concessions provided for superannuation are to ensure with high
probability that a person has adequate retirement income; leveraged plays and
speculation don‟t take enough account of downside risk.

What forms of investment?
One issue related to efficiency of returns is in what assets or derivatives may funds be
invested. Current legislation seems to favour, “anything”. Efficiency would be
improved by limiting what investments are allowed, to shares, deposits, bonds, real
estate in broadly subscribed trust funds, because these tend to be widely researched
and reasonably liquid.
Collectibles and owned-business investment should be precluded.

Source of efficiencies.
There is a plethora of funds open for investors. Much of the performance is mediocre.
When one firm‟s particular fund isn‟t doing so well it is closed, and another is
invented. Too much of a fund‟s costs are associated with getting the business.
It is well known that retail funds have higher fees than wholesale funds.
What‟s needed is a government agency which displaces all retail superannuation
funds other than member based (industry) and has the long-term view outlined above
and which calls tenders from wholesale providers. The public interface would
resemble the “YourSecurity” offering of MLC which NAB dropped. This effectively
provided wholesale pricing to retail customers, or nominees. Funds in Denmark and
Netherlands charge about 1/3 of what Australian Industry funds charge. The Panel
should only recommend solutions which do as well for all participants in
superannuation: no participant as superannuation adviser or fund manager is owed a
living beyond what is available elsewhere.
Of course it may be argued that if you pay more, you may get more. By all means
support that, but make sure that fees are averaged, by providing in advance for market
risk. Fee catch-up provisions do not work, the fund managers disappear or the funds
are closed. 20% of fee income should be set aside as provisions in the form of term
deposits each year, until they reach a previous peak fee payout, and these should only
be able to be redeemed partially in times of underperformance, and at 20% each year.
The concessions provided for superannuation are to ensure with high probability that
a person has adequate retirement income; leveraged plays and speculation don‟t take
enough account of downside risk.

Reducing costs:
There is considerable complexity due to the legislation over pre and post 1983,
taxable and non-taxable components, in relation to pensions being non-taxable in
most circumstances. All those provisions and distinctions should be ditched, and it
should only matter as to the terms of future contributions in the year in which the
contribution is made, and the person‟s age, and prior contributions as an absolute

G. Jensen                                                                   Page 3 of10
amount (ignoring pre and post tax to this point in time, ie we have pre and post 2010,
but only in relation to contributions in the year in which they occur).
There is also a deal of complexity relating to concepts taken over from life insurance
and associated annuities and their tax treatment outside superannuation. Some
complexity relates to aged income concessions and what part of superannuation assets
or pension components have what bearing. Different forms of benefit should be
collapsed into the single original concept of an allocated pension. That is to say,
defined benefits and TAPs should be rolled over to allocated pensions on an actuarial
basis supported by some ATO software. The current person balance and the current
person pension should be the only considerations relevant to other welfare programs.
The general concept should be “you can take out what you put in at a certain rate after
a certain age”. Any tax consequences should be dealt with in the contribution year,
that is to say, once.

Professional Service Providers
Fifty years ago draughtsmen supporting architects and engineers were commonplace.
Now there are not so many. The Panel doesn‟t owe the professionals engaged in the
industry any security of tenure. The industry needs to change from commission basis
to advice basis. It is not reasonable to expect an individual planner to be across all
shares and all fund offerings. I suggest that the proposed government agency fund
financial planners to undertake research on behalf of clients in respect of selected
offerings of that agency. That is, some number of financial planners might make up a
panel to evaluate a particular listed entity or trust fund and rate it in much the same
way as a rating agency does. The government funding to planners should be in the
form of a graduated tax allowance or subsidy or fee vouchers per person with some
regard to assets and age, offset against fund assets. Actuaries should be employed to
build prospective risk profiles for asset class mixes. In this way the industry focus
would be directed towards better evaluation of investment alternatives, resulting in
better value to its clients.
An area of the IT industry specialises in expert systems. The Panel should recommend
the development of an expert system supporting all superannuation advice, which
becomes more sophisticated and comprehensive over time.

Efficiency Summary
 Superannuation investment should be allowed for only a restricted range of asset
    types, and exclude direct leveraging. Funds which employ leveraging or
    derivatives over part of a portfolio should have liquid assets (deposits, bonds)
    covering the amount leveraged. The only way an SMSF could invest in a
    leveraged manner would be through a fund which held cash or deposits to cover
    the extent of the leveraging.
 Investment should be either direct ownership of a particular asset in an approved
    asset category or through a “YourProsperity” type aggregation of wholesale
    funds, or direct to a fund manager.
 In order to take on superannuation investment, fund manager fees should have
    forward provisions to offset years in which underperformance occurs. All fees
    should be based on incremental performance over a period of years, not on funds
    under management.
 Administrative costs can be reduced by treating superannuation as “you can take
    out what you put in at a certain rate after a certain age” by collapsing various

G. Jensen                                                                  Page 4 of10
    pension options into an allocated pension scheme, and by restricting all tax
    consequences to the contribution year.
   Industry commissions should be ditched, and financial advisers incomes should
    be partly re-directed to evaluating investment alternatives funded by the
    government out of a levy against fund assets.
   The proposed government agency should manage all of the proposed retirement
    income levy that is additional to the current 9% levy.

Design/Architecture (6)
First of all the superannuation legislation needs to be simplified. I suggest a clean
sheet, with an actuarial based conversion to the new framework, and forgiveness of
previous distinctions which have negligible overall tax consequences.
There are many software options available now to tax accountants and financial
planners and fund managers. The suggested government agency should negotiate for
taking those over after a new scheme is implemented based on revenue earned and
audited costs, and converge the technologies where there are cost reductions to
participants. Tax accountants, individual financial planners and SMSFs should be
offered legislation conforming software at maintenance level cost.
6.1.3: points 1 and 3,yes, point 2 no, audited daily pricing isn‟t required, but
approximate pricing based on current daily quoted prices where applicable, should not
be a problem.

6.2 Default Funds and Investment Options
Persons should be able to pick one of several of the proposed government agency
funds. Under no circumstances should an employer be able to direct funds to the same
business or related party, except indirectly through an unrelated fund manager. The
Issues Paper sub-sections tend to have inter-relationships which I find easier to deal
with under different headings.

Prudent Investment
Different people are more inclined towards security or risk. Very few, including fund
managers and analysts get it right over cycles which include down-turns. Too much
choice can be confusing. It is quite apparent from recent events that many people do
not properly understand or evaluate downside risks.
The options being offered as defaults by various fund managers are highly
duplicative. At the other end of the market there are long-short funds, hedge funds and
leveraged investments such as instalment warrants, or CDOs. I have already indicated
the latter should be severely circumscribed in terms of use for superannuation
investment. I have also argued for aiming for less above deposit rate returns in the
expectation of less volatility.
Default funds need both some more diversity, and some constraints. I suggest that the
proposed government agency establish default funds which allow some proportion to
be allocated across criteria like:
 Revenue growth or outlook is positive
 Profit growth or outlook is positive
 Analyst assessed financial health is sound
 Market value has increased over last twelve months
 Some market segments to have up to x times the average
 Some market segments to have down to 1/x times the average
 A minimum proportion to be held in a mix of liquid interest bearing securities

G. Jensen                                                                  Page 5 of10
 A maximum limit as a proportion should be set for any asset category
The actual criteria to be offered as choices should be determined by actuaries. An
actuaries‟ panel should be established to oversee this. The allocation to individual
fund managers would reflect the composition of their portfolio that corresponds to the
selection criteria. The constraints should be how close the allocation needs to be to
meet actuary determined criteria for reward/risk over bond rate. It is within the
capabilities of a panel of actuaries to specify the software required.

Dynamics of Portfolio Change
Individuals should have the option of moving towards cash or moving towards more
risky investments if they wish, over time, depending on age. There is some case for
“life-cycle investing”, in essence being more inclined to be risk-taking earlier on, and
less so later on. However, it is probably better to show persons the downside risk
scenarios and average of portfolio policy against the average of upside gains to
encourage persons to make more prudent choices rather than oblige them to do so.
Even so, it may be that the government may require that varying percentages of
contributions or accumulated funds be placed in term deposits or bonds from time to
time as a means of better economic management, and more prudent management of
superannuation assets.
The main fee issue relates to the degree of active management. ETF funds have low
fees and generally mediocre but adequate performance. What‟s worse is that they sell
when shares are going down and buy as they rise. This can give rise to systemic
effects: it might be alright when the total value of the ETF funds to the total market is
modest but it is a very bad thing for a whole superannuation industry.
Trust funds usually allow for redemptions but often have a „closed for redemptions‟
provision. Listed Investment Companies often have gaps between Net Tangible
Assets and share price, but are readily tradeable. Some unfortunately have not so
transparent fees payable to other entities under long term contracts to corporations
managed by related parties of Directors. Entities having such arrangements should be
designated as not suitable for superannuation fund investment.
It is fairly clear that those persons who have income linked to fees from transaction‟
volumes, or for funds under management should not have any say in directing
portfolio mix across asset classes.
This leads to different type of investment vehicle to be allowed as an aggregation
point for superannuation funds: a “Superannuation Investment Trust” having a single
legislated framework and fee structure, aligned to preceding considerations. The fee
structure benchmark is based on a margin to averaged long term bond rate, and a
performance fee above that margin. Specifically, any ETF or index following
investment, or any LIC with outsourced management contracts, is excluded. Because
superannuation is a long term investment, redemptions should be constrained except
for persons nearing retirement.

A default investment strategy
Investments typically offer some periods of asset value increase, and income. There is
a general alignment between long term volatility (beta) and long term (perceived)
risk. Section 7.3 deals with Investment Manager performance. At this point we can
say it is unsatisfactory.
The half “Kelly” criterion indicates how much to invest to obtain certain outcomes,
for which |1-beta| is an indicator of risk, but not necessarily an accurate measure. If
that criterion is only applied to increased net asset value before contributions, and the

G. Jensen                                                                    Page 6 of10
remainder goes to cash, until there is a proportional cash holding reached, set by the
individual or fund manager, then the portfolio is adapting to its inherent risk profile
while placing a prudent amount in cash. The riskiness of a portfolio strategy can then
be compared to a benchmark strategy such as the All-Ords accumulation index. Fund
managers pursuing more risky strategies should receive lower fee income for a given
level of out-performance than managers choosing a less risky strategy.
It may be worthwhile to require funds to gradually build to a point where pensions
can be paid out of term deposits for the next 18 months or so.

Minimum and maximum withdrawal rates
Investment strategy is partly conditioned by the term over which pensions may be
paid. The current scheme allows for double dipping by extracting funds as lump sums,
or at too high a rate. There should be no minimum pension rate, and the maximum
rate should be based the higher of a five year average percentage and an annual
percentage equal to the old allocated pension rate.

6.3 Regulation
Simplifying the overall structure makes regulation simpler, less intrusive and less
burdensome. ATO should have the lead role, with persons assigned from other
agencies to ensure that any issues under legislation are referred back to those other
agencies. Over a period, all superannuation legislation should be separated out and
assigned to ATO.
It has become fairly clear that some corporations are not being managed with
appropriate risk management, and that there is a tendency to “sail closer to the wind”
than prudence would require in terms of solvency or cash flow. The proposed
government agency should have full access to a company or investment fund‟s
financial affairs, at any time.

6.4 ERFs etc
The proposed government agency should take over all the cases mentioned in the
issues paper.

I am proposing a person based approach where funds are contributed by employers or
by individuals. Inactive person (member) accounts should automatically default to the
proposed government agency. Persons having more than three accounts should be
offered the opportunity to roll over one or more to their chosen account, or have the
oldest non-current contributing account automatically rolled over to the default
government fund.
7.2 Administration
The ATO should provide internet based software to both employers and individuals to
provide necessary or optional data. Employer software should allow reporting on any
periodic basis, whether n days, weekly, fortnightly, monthly. Direct debiting should
be supported, or EFT. In either case, appropriate security should be provided so that
funds can only go to ATO authenticated funds.
Employers should not have any further involvement in funds administration other
than getting the money to the ATO who then assign it to where a person wants it to

G. Jensen                                                                  Page 7 of10
There should be only one data format, prescribed by the ATO. Fund managers should
“get on board”. The ATO should however gather the funds, and place any doubtful
cases in suspense. When a person becomes an employee, there should be a
notification of a TFN to ATO. At some stage ATO should assign each person with an
id, not based on TFN, but on personal data, which allows that person to access
superannuation information, with the TFN as one of two passwords, the other chosen
by the person.

7.3 Investment Managers
Fund Managers aren‟t worth what they are paid, and neither are financial planners
who are paid commissions. The evidence from the tabulated actual results for fund
managers is that a child with a dart could do as well as the average fund manager or
financial adviser before fees, and better after fees. Preceding sections in this
submission argue for a default fund structure, a government agency managing retail
and default funds, and a panel of actuaries setting portfolio structuring criteria. Active
managers should be paid lower and deferred fees for any level of out-performance.
There should be no payment if returns are less than term deposit rates.
In any case, funds with less than a five year history or investments (other than
physical real estate) with less than a three year history should not be approved for
superannuation purposes.

7.4 Administration
The responsibilities of administrators, custodians, nominees and fund managers need
to be rationalised so that the interests of members are pursued. The Corporations Act
allows for nominees (etc) to too easily pass responsibilities by default to a chairperson
or other proxy without taking responsibility for the interests of members. Either the
Act needs to be amended so that nominees etc, are required to exercise prudent voting
on behalf of beneficiaries, or the proposed government agency should appoint persons
to Act in the manner.
7.4.3 Identity Issues
See 7.2.2.
7.4.4 TFNs
A complementary identification system can be established with a personal ID which
has a 1:1 mapping to TFN but which is allowed to be quoted. Only the ATO would
know what PID matched what TFN. For example, 6 characters of a persons name (3
each of surname, given name) and a 2 digit hash of YY/MM/DD and a 4 digit code
assigned by ATO would provide a unique id which was not too difficult to remember.
7.5 Value chain
As mentioned, fee income should be directed to establishing expert systems to cater
for most investment advice, reducing costs in conjunction with reduced investment
options. Firms such as AFI, ARG, BKI have a long history of outperforming the ASX
index, at overall costs significantly less than even ETFs (typically those companies
average 0.3%).
The structure and fees of our superannuation industry are inappropriate. There is no
need to pay above 0.3% for fund management, with 0.1% available for out-
performance, and .1% for advice. A clean sheet is required with a transition program.

G. Jensen                                                                     Page 8 of10
Other Questions
Comparative Reporting
All funds should be rated by after fee returns and an actuarial based risk factor which
adjusts prospective earnings according to the risk of the asset class of the investment.
Then you can apply the traffic light proposal.
All funds should be compared to an actuary selected range of a half dozen portfolios.

Expert Systems
There are several thousand financial planners. The IT industry knows how to build
expert systems. However it takes time, because there are so many variables. A
feasible program would take years. It should start with a small subset of investment
types and personal needs categories and take on more cases each year. Rather than the
government calling for tenders for a fully specified system beyond anyone‟s
comprehension, it should fund an on-going prototype enhancement project in
consultation with a small number of actuaries and industry experts.

Direct Costs (9)
Having a single retail fund will achieve economies of scale. The absence of direct
commercial product as seen by the retail client will provide the means for separating
advice and product.
The default investment categories mentioned above (6.2 – Prudent Investment) can be
compared to the KiwiSaver model and reduce complexity.
Building an expert system will reduce advice costs.

It seems that the Panel are of a mind to fix the system by taking action on individual
aspects. I want to emphasize that it‟s the totality that is the problem and what is
required is a clean sheet. There needs to be a complete break between financial advice
and products. Financial advice should supported by a voucher scheme available only
to truly independent advisers.

Investment Horizon (10)
A flaw in our system is the failure to invest in the manner of Canadian Trust funds
which have bought fund management in house, and which actively pursue direct
investment in large projects or acquire companies needing patient capital. This failure
is due to the structural separation of fund management and superannuation
I have made earlier comments on the need for custodians to be required to exercise
prudent voting on behalf of their clients in respect of company resolutions. Super
funds should be required to ensure this happens.
Super Funds should be encouraged to bring fund management and custodian services
Fees for out-performance should only be allowed from a pool of five year
accumulated such fees, at 1/5th in any year, thereby diminishing the emphasis on short
term investment.

Other (11)

Death benefits & Exempt Status

G. Jensen                                                                   Page 9 of10
There is a flaw in the recent (2006-7) legislation with respect to exempt status. For a
pension based solely on non-deductible contributions which had grown in value the
exempt percentage does not reflect that tax had already been paid.
Death benefits should automatically flow as described in the Issues Paper, unless
invalid at law.

As mentioned earlier, all tax related implications should be dealt with at the time of
contribution, once.
All previous tax related distinctions should be dropped, and a one time conversion to
a new allocated pension only scheme should be adopted. The ATO should trial
supporting software and provide feedback to the Parliament to make changes which
improve usability and effectiveness of the conversion.

The Panel should recommend that budget software be provided for the data entry of
transactions in a standard format that reduces administration costs.

G. Jensen                                                                  Page 10 of10