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PC News - May 2017

How should default superannuation products be allocated to employees?

In stage two of a three-stage review of the superannuation system the Commission has identified alternative models for allocating superannuation products to those workers who do not choose their own.

Businessman putting a coin into pink piggy bank

Under the Superannuation Guarantee, introduced in 1992, employers are required to make superannuation contributions for their employees. While most working Australians are now covered by superannuation, many do not actively choose where their super is invested — surveys suggest this to be about two thirds of working Australians. Under current superannuation arrangements, some employees are restricted from choosing their super fund (according to some estimates, 20 per cent of the workforce fall into this category). Of those who can choose, most employees do not choose a superannuation fund. They leave the decision to their employer and become a default member of their employer's chosen fund. Because most people change jobs regularly, this has led to significant account proliferation. Well over 40 per cent of super fund members have multiple accounts.

While some (mainly larger) employers may be well-placed to choose a default product and negotiate favourable arrangements for their employees, many (mainly small and medium-size) employers are not well placed to select a default product. Some employers may also be limited in their fund choices by long-standing workplace agreements. The combined lack of willingness, capability and opportunity for employees and employers to engage has resulted in a lack of price-based competition in the superannuation system.

As the second stage of a three-part review of the efficiency and competitiveness of the superannuation system, the Australian Government has asked the Productivity Commission to develop alternative models for a formal competitive process for allocating default fund members to superannuation products. The aim of the alternative models is to improve the efficiency of the superannuation system by reducing account proliferation and improving price-based competition.

Changing default member definition and extending choice

Under existing arrangements, an employee acquires a new default super account every time they start a new job and do not nominate a superannuation account. Over their careers, some workers could acquire multiple superannuation accounts, paying multiple sets of fees and insurance premiums, and ultimately retiring with less money. There is no inherent policy logic to support this proliferation.

The Commission considers that employees should only acquire a new default super account if they do not already have one. It is estimated that changing the definition of a default member in this way could result in system-wide savings of approximately $150 million per year, once fully implemented. To facilitate this process, the Australian Taxation Office should establish a central online information service to enable both employees and employers to identify existing accounts.

The Commission has developed four alternative models

The Commission has developed four alternative models, each with different degrees of product filtering (based on product quality) and methods for allocating employees to superannuation products (figure 1). Some models are purely administrative, while others involve a market based solution.

Figure 1: The building blocks of the allocation models

  • Figure 1 The building blocks of the allocation models. This figure shows how the baseline and four models vary according to the degree of filtering, the type of filtering and who allocates the member to the product.

The four models are:

  • Assisted employee choice — Employees are required to nominate their own product — there are no defaults. However, employees are assisted by a government-provided advisory shortlist. This shortlist would list 4-10 carefully selected 'good' products, along with some basic information about each one to allow for easy comparison by employees. This model also contains a voluntary system of product accreditation (to encourage a broader pool of funds to provide simple products and to make comparability easier) and a 'last-resort' fund (to provide a temporary holding account for employees that fail to nominate a product).
  • Assisted employer choice (with employee protections) — Employers choose a default product from one of two lists for their employees who do not exercise choice. A long list would contain all basic default products that meet a set of minimum standards — an improved MySuper list. Employers must choose from this list. Within that larger grouping, a much smaller group of preferred products would also be identified. Thus employers better able to bargain on behalf of their employees would have the flexibility to choose from a longer list of products; and employers not interested in that task would choose from the small preferred list. In both cases, the employer obligation to act in the interest of employees would be enhanced.
  • Multi-criteria tender — Funds compete in a multi-criteria tender for the right to receive a share of new default members. An independent panel would assess and choose the products which best meet members' needs, drawing on a set of predefined criteria. These criteria would relate to the past performance, member satisfaction and fee levels, amongst other criteria. Default members would be allocated sequentially across the winning funds.
  • Fee-based auction — Funds compete in an auction for a share of new default members by bidding on fees (a composite of investment and administration fees). The winning fund(s) are those offering the lowest fees. To participate, funds need to pass a pre-qualification stage, to demonstrate they can deliver a minimum level of services for their products.

Assessing the models

The Commission considers that each of the four models is clearly practical and workable. To explore their relative merits, the Commission compared them against a baseline of minimal government intervention — unassisted active choice. This zero-based benchmark assists in exposing the true purpose of a default system, rather than focussing on perceived weaknesses in the current model.

The Commission issued its draft report in March, and is seeking feedback from interested parties. The final report is to be sent to the Australian Government in August 2017.

Figure 2: The framework for assessing alternative models

  • Figure 2 The framework for assessing alternative models. This figure provides an outline of the assessment criteria and how they relate to the inquiry’s objectives. The inquiry objective is to develop a new workable model, or models, that could be considered following a future review of the system. Based on the inquiry’s objective, the relevant objective for any new alternative model is to promote community-wide wellbeing in the scope of the superannuation system. This is equivalent to a model which promotes members best interests. Accordingly, we evaluate each model using five assessment criteria; member benefits, competition, integrity, stability and system-wide costs.

Superannuation: Alternative Default Models

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