Federal Register of Legislation - Australian Government

Primary content

SLI 2010 No. 135 Regulations as made
These Regulations amend the Corporations Regulations 2001 to prescribe the form and contents of short and simplified Product Disclosure Statements for margin loans, superannuation products and simple managed investment schemes.
Administered by: Treasury
Registered 21 Jun 2010
Tabling HistoryDate
Tabled HR22-Jun-2010
Tabled Senate22-Jun-2010
Date of repeal 09 Aug 2013
Repealed by Treasury (Spent and Redundant Instruments) Repeal Regulation 2013

REGULATION IMPACT STATEMENT (RIS) –

FINANCIAL SERVICES DISCLOSURE REFORM

1.      The Minister for Finance and Deregulation and the Minister for Financial Services, Superannuation and Corporate Law are collaborating through a Better Regulation Ministerial Partnership (the Partnership) to examine ways of developing shorter, simpler and more readable disclosure documents for financial services products. Under the Partnership, a  Financial Services Working Group (the Working Group) comprising officials from the Treasury, the Department of Finance and Deregulation and the Australian Securities and Investments Commission (ASIC) has been established to take this project forward.

Problem Definition

 Background: Product Disclosure Statements

2.      The financial services market is characterised by suppliers of financial products who have substantially greater knowledge about their products than potential investors, a situation generally referred to as asymmetric information. This imbalance between market buyers and sellers can be compounded by differences in levels of financial literacy and understanding of the inherent risks of products.  

3.      The presence of asymmetric information can lead to market failure. Buyers, who are aware that they are at an informational disadvantage, and are risk averse, are more likely to not enter the market as they are wary of buying an unsuitable product. Other buyers, with a higher appetite for risk, but not necessarily a higher level of financial literacy may still invest. Without the proper level of information, however, they are more likely to make investment decisions that are not suitable for their needs.  

4.      Under this regime, product disclosure statements (PDSs) are one of the key documents used to potentially overcome some of the information asymmetry issues which can arise between the suppliers of financial products and potential investors. The current regulatory framework around PDSs is designed to ensure that consumers are provided with the pre-contractual financial information they need to facilitate informed decisions about whether to invest in a particular type of financial product.  There is concern that if consumers were not to receive a PDS, they would not otherwise have access to the information they need in order to be able to adequately assess the risks of investing in a product. This could result in uninformed decisions or turning more risk averse consumers away from the market altogether. 

5.      To address this potential for market failure, the Australian Government introduced a product disclosure regime in the Corporations Act 2001 (the Corporations Act) for certain financial services products, including for superannuation and managed investment schemes (MISs). In 2010 margin lending was incorporated into this regime, reflecting the Government’s assessment that product disclosure was also necessary for this product. That Government decision was supported by a RIS.

6.      The Government considers effective financial disclosure important so that consumers receive adequate information to make more informed and efficient choices, and have a higher level of accountability for their investment decisions. Effective disclosure then, means that the information is provided in such a way that consumers can easily locate and understand all the key information they require to make an informed decision.  

7.      Poor investment decisions due to the inadequate disclosure of financial information may in some cases threaten market integrity and lead to Government having to intervene in otherwise well functioning markets.  

8.      In recent years, there has been considerable discussion about the overall effectiveness of current PDSs. A particular concern is that the effectiveness of disclosure has been compromised by a tendency for suppliers of financial products to provide excessive information, generally over and above what the reasonable consumer would need to make a product purchasing decision. Disclosure documents can vary significantly in their length, design and structure. For example, a sample of superannuation and MIS PDSs selected for a study into consumer comprehension and engagement with current PDSs had documents which varied between 46 and 154 pages for superannuation products, and 32 and 124 pages for MIS products. [1] PDSs can also vary in the amount of jargon and other technical language they contain, and the way this information is presented.  

 

9.      There is some evidence to suggest that the current framework does not allow for comparability across products because of heterogeneity in the way information and content is presented in PDSs. These issues and the evidence are discussed below. 

 

10.  This RIS submits that Government action could improve the current regulatory framework around PDS disclosure to facilitate more informed decision making and potentially alleviate issues associated with the provision of excessive amounts of information in PDSs.

Market Failures and Evidence

11.  Research and consultation indicates that the PDSs currently being produced and provided to consumers are not fully effective in conveying the key product information to assist consumers to make informed choices.[2]  

12.  For example, research conducted by the Wallis Consulting Group for the Investment and Financial Services Association[3]  found that consumers described superannuation PDSs as  disengaging and containing too much unnecessary information for the consumer. The language appeared difficult to understand and consumers did not see the PDSs as providing easy access to the required relevant information. As a result consumers were not necessarily relying on the PDS when choosing a fund, compromising understanding of the product and meaningful comparisons between products.[4]  

13.  In a comprehensive consultation study conducted by Access Economics Pty Limited, industry representatives involved in the development of superannuation and MIS PDSs were consulted about the factors affecting this process. In general, the following key problems were identified with the current framework around PDS disclosure:[5]

·            Risk aversion.  A high level of industry risk aversion means that PDS issuers would rather include more information than less to ensure compliance with their disclosure obligations. This is clearly not compatible with the desire for issuers to produce more readable and simple documents in order to increase sales. Consultation with industry[6] identified the perception that under the current regulatory framework the benefits of producing user-friendly documents are outweighed by the costs of not complying with the legislation or having to defend such charges. In addition, the current regulations do not limit the length of PDSs which means there is little incentive for suppliers of financial products to reduce length or complexity of information included in PDSs.  

·            Principles-based legislation.  The current legislation is principles-based in nature, placing the onus on industry to interpret their obligations. Industry feedback suggests significant uncertainty about the level of detail required in a PDS.[7] For example, it is unclear how much content should be included in a PDS and how a PDS should be worded and presented to achieve a clear, concise and effective representation of the material included in the PDS (section 1013C(3) of the Corporations Act). This means that in practice there is a tendency to include more information rather than less to protect the issuer from potential liability claims.[8] The research tends to support this. The principles-based nature of the regime means that guidance provided by ASIC is at a high level, rather than more detailed prescriptive guidance that is sometimes desired by industry.   

·            The legislation surrounding disclosure is very complex as in addition to the main PDS requirements under the Corporations Act, there are also many other pieces of legislation imposing disclosure requirements. This information may not be formally required in a PDS, but in practice product issuers use the PDS as the vehicle for satisfying their disclosure obligations under other legislation. While an individual Act may not add very much to the information required to be disclosed, the cumulative effect of compliance requirements is to make PDSs longer and more crowded. Industry has also indicated that not all of this required information is helpful to a consumer making an investment decision. 

·            Problems with the Incorporation by Reference (IBR) provisions as currently provided for in the Corporations Regulations 2001 (the Corporations Regulations). The IBR mechanism is intended to allow information located outside the PDS to become legally part of the PDS by providing a reference as to what the information is and where it can be found.  This could potentially shorten PDSs by allowing information that is more detailed than a summary of the key information a consumer needs to know to be placed outside of the main PDS. 

-     Industry feedback from independent research[9] and views expressed to the Working Group indicate that the current IBR requirements are difficult to apply. Generally, PDS issuers are unsure about when and how IBR can be used, including uncertainty around how much information to include in the PDS about the incorporated information, what liability attaches to incorporated information and how IBR regulations interact with other regulations, such as the provisions for supplementary PDSs. The current requirement for the PDS to contain a unique identifier for incorporated information is widely seen as impractical as each time the incorporated information changes, the PDS must be updated to refer to the new unique identifier.  

-     However, there is a general opinion that if these implementation issues can be overcome, IBR presents the greatest potential towards moving towards a more user‑friendly disclosure regime.[10]  

·            The many parties involved in PDS development tend to have an incentive to include more information than necessary in PDSs.

·            In general, the above research supports the position that too much information is being supplied in PDSs and that the information is not easy to access, assimilate, analyse and understand. It is difficult for users to make informed decisions and make comparisons about the inherent risks associated with certain types of financial products. These problems largely stem from an inherent risk aversion on the part of industry, interacting with the current principles-based approach. 

14.  However, it is important to note, that even in cases where the presentation of financial information is succinct and assessible, potential investors approach investment decisions with different levels of financial literacy.[11] This can affect the effectiveness of disclosure and means that even if changes are made to the current arrangements the desired benefits of shorter PDSs may not materialise for every type of investor. Some consumers will never read a PDS before making an investment decision, regardless of its length. Furthermore, it is important to note that even under a more effective disclosure regime, market participants will still be subject to some risk as investment risks for most financial products cannot be completely eliminated. Very financially literate consumers may have no problems reading and understanding current PDSs no matter how they are presented. However research into consumer use and understanding of superannuation and MIS PDSs[12],[13] reveals that many consumers do have trouble understanding their PDS and do not find them easy to use.  

15.  The Wallis Consulting Group report concludes that unless PDSs are made more user‑friendly, the majority of superannuation investors will not base their decisions on the PDS or be encouraged to use PDSs to compare different products. There is a case then to improve disclosure for the average consumer who would like to read and understand a PDS but finds it too difficult.  

 

 

Reason for Government Action  

16.  Without Government action to reform the PDS disclosure regime, there is little incentive for industry to shorten or simplify their PDSs, resulting in unnecessarily complex PDSs and ineffective financial disclosure to consumers.  

 

17.  Research conducted by Access Economics Pty Limited[14] indicates substantial problems with the current PDS regulatory regime, namely, industry  uncertainty as to how to interpret requirements, the volume of information added to the PDS by different pieces of legislation, the high level nature of guidance from ASIC, and the problems with the IBR legislative provisions which would otherwise have the potential to shorten PDSs by allowing some PDS information to be located elsewhere. These problems could be addressed by government action supporting better regulatory balance which promotes lower compliance costs and better arrangements to support more effective disclosures in PDSs.  

Products for Reform  

18.  The Government has been reforming disclosure documentation in a staged process. First Home Saver Accounts (introduced in 1 October 2008) were the first product to which the Government developed and applied a new framework for shorter and simpler PDSs. The Government is now seeking to build on this and reform disclosure documentation for superannuation, simple MIS and margin lending products. 

19.  Priority has been given to these three products based on two factors: their widespread use in Australia and/or the level of risk generally associated with the product.  

Margin Lending products

20.  Margin lending describes an arrangement under which investors borrow money to buy financial products (such as listed shares, fixed interest securities and units in managed funds). The underlying financial products are then provided as security for the loan to the lender.

 

21.  Repayments (known as ‘margin calls’) are required when the market value of the investment falls below the level agreed between the investor and the lender. The investor is then required to take appropriate action which can be done by paying extra cash, selling some of the assets or giving the lender additional security.  

 

22.  There has been rapid growth in the margin lending market, with the value of margin loans growing from under $5 billion in June 1999 to over $37 billion in December 2007. This has since decreased as a result of the recent market turbulence so that as at 31 December 2009, there were about 233,000 margin loans outstanding in Australia with a total value of $19 billion.[15]  

 

23.  There have been concerns that some margin borrowers are not aware of the extent to which margin lending contracts place the risk of changes to market conditions on them. The possibility of such borrowers suffering unexpected consequences is particularly high in volatile market conditions such as those experienced in the recent global financial crisis. 

24.   For example, some clients of the collapsed financial planning firm Storm Financial who had entered into margin loan arrangements borrowed funds against the equity in their homes and used them as a contribution to a margin loan. Some of these borrowers fell into negative equity in relation to their margin loans, and had to repay outstanding amounts on the margin loans as well as continue to service the loan secured against their home. Where borrowers do not have additional sources of funds to do so, they are at risk of defaulting on their home mortgages and losing their homes. 

 

25.  Indications are that not all of these borrowers adequately understood the way that margin loans operate, including the potential consequences of margin calls. In addition, they may also not have been aware that they exposed themselves to the risk of losing their homes when they borrowed to fund the margin loan. The Storm case illustrates the risks associated with margin loans, and the fact that retail borrowers may not be fully aware of them when entering the arrangements. Borrowers are likely to benefit from more effective regulation of financial disclosure in this regard, especially in terms of clearer articulation of key risks.

 

26.  Those factors were key considerations in the decisions of the Australian Government and the Council of Australian Governments in 2008 to introduce a regulatory framework for margin lending. As a result of the Corporations Legislation Amendment (Financial Services Modernisation) Act 2009 margin loans were brought under the licensing, conduct and disclosure requirements in Chapter 7 of the Corporations Act as well as supervision and enforcement action by ASIC.  This will take effect from 1 January 2011.

 

27.   The riskier nature of the product would suggest that margin loan investors tend to be more financially sophisticated and have a greater appetite for risk than investors of superannuation and MIS products. However, as evidenced following the collapse of Storm Financial, there are margin loan borrowers who have entered into loans without sufficient understanding of their investment. Both margin loan borrowers and lenders will benefit from the improved PDS disclosure framework proposed in this RIS. The risk associated with margin loans will remain, but more effective disclosure will assist investors to make more informed investment decisions than under the current disclosure regime.  By adopting the proposed disclosure regime from the outset instead of the current PDS scheme applying to other products, margin loan lenders will not need to incur two sets of transition costs in first adopting the existing requirements, and then the proposed reforms in the future. They will also benefit from reduced publication and distribution costs compared with if the current scheme had been extended to them.

 

Superannuation products

 

28.  Superannuation is an investment designed to provide income for a person’s retirement. The level of investment in superannuation in Australia is very high when compared with other investments as the vast majority of employed Australians invest in superannuation through their employer’s compulsory superannuation guarantee contributions. A person may also choose to make their own contributions into their superannuation fund.  

 

29.  As at 30 June 2009, there were 415,252 superannuation entities with total assets of $1.07 trillion.[16] There are four basic types of superannuation funds:[17] 

·         Corporate funds, which are generally only open to employees of a particular corporation;

 

·         Public sector funds, which are for Commonwealth and State Government employees;

 

·         Industry funds, for people working in particular industries, although sometimes anyone may join; and

 

·         Retail funds, which are open to all and are run by financial institutions.  

 

Additionally, there is a separate category of self-managed funds. 

 

30.  The Wallis Consulting Group report into the role of PDSs in decisions to invest in superannuation found current PDSs to be inadequate in informing investment decisions. [18] While people recognise the importance of investing in superannuation for their future, most people are not actively engaged because of the compulsory nature of the investment. In many cases, consumers do not feel that they have pro-actively made a choice about their superannuation fund, but for convenience have taken the fund recommended, or perceived to have been recommended by their employer.  

 

31.  Of those who do make a conscious choice, the PDS was not seen as providing easy access to the relevant information. Instead investors rely on financial advisers, word of mouth or perceptions about a fund’s reputation and performance. Because people felt that the PDS was dull, too long and difficult to understand, they were not read in detail, which does not encourage understanding of superannuation or assist in comparisons between funds.[19]  

 

32.  Superannuation product disclosure was chosen as an area for reform because of its wide use by Australians and the substantial volume of funds under management. Ineffective disclosure can have an impact on a large number of market participants (directly and indirectly). The compulsory nature of this investment means that investors are less likely to engage with their PDSs. Superannuation is also more likely to involve investors with less financial knowledge than investors in other types of products. Because of these characteristics, it is important that PDSs encourage greater engagement by investors, including by being easy to understand and navigate. Given the major role superannuation will play in funding the retirement of most Australians, investors should be empowered to make decisions now about the choice of fund and investment options most appropriate for them.  

 

33.  On 29 May 2009, the Government announced a Review into the Governance, Efficiency, Structure and Operation of Australia’s Superannuation System (the Super System Review) to be chaired by Jeremy Cooper. The final report of the Super System Review will be delivered to Government on 30 June 2010. In developing the option in this RIS proposing reform to PDS disclosure for certain superannuation products, officials have liaised with the Super System Review team to ensure that it aligns with the objectives of the wider review.

 

Managed Investment Scheme Products

 

34.  An MIS operates by pooling together the contributions of many investors in a fund, which is managed on the investors’ behalf by the operator of the scheme. There are many different type of MISs investing in a wide range of assets such as cash, property, shares and fixed interest securities. Some common types of MISs include:  

·         Financial asset schemes (such as cash management trusts and Australian and international equity trusts); 

·         Property-based schemes (such as direct real property, listed property trusts and mortgage funds);

·         Agricultural schemes (such as horticulture, aquaculture, horse breeding and forestry); and

·         Other types of schemes (such as serviced strata schemes, film schemes and time share schemes).

35.  The different types of MIS have varying degrees of complexity in terms of their structure, the risks of the underlying investments and suitability for different types of investors. For this reason, the information needs of investors will vary between those investing in ‘simple’ MIS (i.e. those aimed at mainstream retail investors, such as financial asset schemes) and those investing in more complex MISs.

36.  Compared with superannuation investors, investors in MIS products must have made a pro‑active investment decision so they are likely to be more financially literate and have a greater interest in their investments. Despite this, research conducted by Susan Bell Research revealed that although current MIS PDSs may vary significantly in terms of their perceived relevance and ease of use, many consumers found that they could be difficult to understand, in particular because they contained too much jargon (57%).[20]

37.  A high priority has been placed on improving disclosure for MISs, given potentially high complexity and risk and the large amount of assets held by managed funds institutions. For example, as at 31 December 2009, the consolidated assets of public unit trusts (a common type of MIS) was $259 billion.[21]  

Objectives

38.  To improve consumer protection by developing disclosure documents that are more effective in providing consumers with the information they need to make an informed investment decision by making PDSs simpler, more readable and standardised, while reducing business compliance costs.  


Options

39.  There are many possible options for addressing the market failure associated with PDS financial disclosure. No option will ever completely solve the problem because there will always be some investors without the literacy to understand a PDS or who choose not to read a PDS before investing. In these circumstances, the best option is one that is most effective in improving disclosure documents for most consumers while achieving a reduction in business compliance cost. 

40.  At one end of the spectrum of regulatory options, the Government could choose to remove PDSs entirely and rely entirely on industry to supply product information as they see fit, but this may further widen the information gap between product suppliers and investors. This option seems quite an extreme response at this stage. It would seem more appropriate to attempt to seek to improve on the current regime and attempt to move it to a system that champions simpler disclosure. At the other extreme, the Government could move to ban financial products where it considers that the risk is not being effectively disclosed under current requirements, but this would not fix the underlying issues with financial disclosure and could adversely impact the financial capital allocation decisions of Australian investors, potentially encouraging them to look abroad to find products that match their investment preferences.

41.  Uncertainty about what needs to be included in PDSs might potentially be reduced through ASIC providing additional guidance to industry. However, guidance alone would not be enough to overcome the propensity of industry to be risk averse in the face of a regime that has strong penalties for breaches and continues to be principles based. 

42.  Another option would be for the Government to make narrow amendments to the current regime, for example, to mandate maximum page length for PDSs. However, without altering the current PDS content requirements or providing further guidance, this would greatly increase the amount industry would then spend on legal services to ensure compliance. Industry costs and uncertainty with the current regulations would increase without necessarily improving consumer comprehension of the document.

43.  Amending the legislation to address current impediments to wider industry usage of IBR could, in principle, provide a basis for shortening the physical PDS document provided to the consumer. However, by itself this option is not likely to provide sufficient incentive for a risk averse PDS issuer to be an early mover and use IBR when they are unfamiliar with its use, the benefits have not been demonstrated for their products, and the legal precedent around this area has not been built up. Even if there is greater industry uptake of IBR and the creation of shorter PDS documents, again, it may not improve disclosure and enhance consumer protection if issuers vary in the content they choose to IBR and the amount of information they choose to leave in the PDS document.  

44.  This RIS submits that a broader-based reform to the overall regulatory framework will be necessary to achieve more effective PDS disclosure. In addition to exploring the status quo, this RIS will examine the option of establishing a disclosure regime that will mandate maximum page lengths, but also improve the IBR provisions so that issuers have a viable mechanism to manage the volume of information they would like to provide but cannot fit within the page restrictions.

45.  In order to ensure improvements to the content and presentation of PDS information, the proposed reforms will introduce specific provisions detailing the structure and content requirements for PDSs for different financial services products (see the ‘Products for Reform’ section). This approach would not only ensure investors receive in a PDS a summary of the key decision-making information, but also allow for better comparison between products and product providers. The greater use of IBR and clearer disclosure provisions would operate to reduce industry compliance costs.

46.  Below is an outline of Option A, the status quo option, and Option B, the alternative of establishing a new regulatory framework with a more tailored approach to specific financial products.  

Option A – Status Quo, Keep the current Chapter 7 PDS requirements  

47.  Under Option A, superannuation, MIS and margin loan PDSs would continue to be subject to the financial product disclosure rules of the Corporations Act.  Chapter 7 of the Corporations Act contains extensive disclosure requirements for financial products.  They apply whenever a financial services licensee provides certain financial services to their clients.  The main services to which the disclosure requirements apply are the issue of a financial product and advice provided in relation to a financial product. 

48.  The current PDS requirements prescribe when a PDS must be provided, who must provide it and how.  The content requirements for PDSs are comprehensive.  A PDS must, among other things, include[22]

·            name and contact details of the issuer;

·            information about significant benefits and risks;

·            extensive and detailed information about fees, commissions and charges;

·            information about any other significant characteristics of the product;

·            information about any significant taxation implications of the product;

·            information relating to the dispute resolution scheme covering the product;

·            information relating to any cooling-off period applying to the product; and

·            any information that could reasonably be expected to have a material influence on a reasonable person in deciding whether to acquire a product.  

49.  All disclosure documents are subject to the condition that they must be expressed in a clear, concise and effective manner.  Supervision and enforcement responsibilities rest with ASIC.  

50.  As mentioned above, margin loans were recently included as a financial product under the Corporations Act by the Corporations Legislation Amendment (Financial Services Modernisation) Act 2009, and will have to abide by the Chapter 7 disclosure requirements from 1 January 2011. Most margin loan services providers, such as financial planners and lenders, would already be familiar with the Chapter 7 regime in relation to the other services they provide.  

 

 

Option B – Changing the PDS Disclosure Regulatory Framework (Limiting the number of pages in a PDS and prescribing key content)

51.  Under Option B, the Government would introduce a new PDS regulatory regime for certain superannuation, simple MIS and margin lending products. It would have the following key elements:  

·         maximum page lengths equivalent to eight A4 pages for superannuation and MIS products, and four A4 pages (not including title page and table of contents) for margin loans;

·         new provisions for incorporating information by reference to facilitate wider use of IBR by industry;

·         new provisions allowing information that is not legally part of the PDS to be referenced in the PDS; and

·         tailored PDS requirements for superannuation, simple MIS and margin lending products specifying the structure and content requirements of the PDS to provide a standardised summary of all the key decision-making information for consumers.  

Maximum page lengths

52.  The maximum page lengths would apply to the PDS document provided to the investor as a summary of key investment information about a product. It does not apply to information incorporated by reference, which is also legally part of the PDS, nor to material referenced in the PDS document. 

Incorporation by Reference (IBR)

53.  The IBR mechanism will play a key role in allowing the PDS to be kept within the prescribed maximum page lengths. Option B proposes to introduce provisions for a clearer and more workable IBR mechanism to allow information that is considered necessary to be legally part of the PDS but be located elsewhere (for example online), thus reducing the length of the PDS document provided to consumers. A consumer who receives a financial product PDS will be advised of the IBR information by a reference in the PDS document as to what information has been incorporated and where it can be found. 

54.  The IBR mechanism usually applies to information that is more lengthy and detailed than necessary for the key summary items contained in the PDS document, or may be important information that is subject to frequent change, such as a market-linked interest rate for margin lending PDSs.  

55.  The Corporations Regulations currently contain a number of sections allowing IBR.  As discussed in the problem section, industry uptake has been low due to uncertainty about the application of these provisions. Option B will introduce a new IBR regime addressing industry concerns for certain products. This will interact with the tailored PDS requirements which will clearly specify what content industry may incorporate. Together, these changes will drive wider use of IBR in a systematic manner.  

56.  To provide greater clarity about how and when IBR can be used, IBR will generally only be allowed for certain information provided for in the content requirements. The exception to this is allowance for the incorporation of material required to be provided in a PDS by other laws. Regulations will require a prominent statement at the front of the PDS, and on each page with references to IBR material, advising that it contains references to important information which the consumer should consider before making a decision. The documents containing IBR information must also state that the information is part of the PDS. This information must be publicly available, be reasonably easily and quickly accessible and clearly identifiable as incorporated material.  

57.  To address possible uncertainty about the liability regime for incorporated information, the regulations will state that incorporated information forms part of the PDS, which means that IBR material will be subject to the full range of PDS liability and enforcement provisions of the Corporations Act. The regulations will also provide that the giving of a PDS to a consumer will also be taken to be the giving of the incorporated information. The tailored disclosure regime created under Option B will generally operate separately from the existing PDS disclosure regulations, so that some elements of the current regime such as supplementary PDSs, will not apply.  

58.  There is a current requirement for the PDS to contain a unique identifier for incorporated information. This is problematic as it means that the PDS has to be updated each time incorporated material changes. Under Option B, this will be replaced by a requirement for each version of the IBR information to prominently display the date on which it was prepared. This way, a potential investor will still be able to identify the incorporated information relevant to the product they are considering, but the issuer will no longer be required to reissue the PDS each time a change occurred to IBR information.

Referenced information

59.  Option B will introduce a separate category of information that is ‘referenced’ but does not form part of the PDS. Issuers would be able to freely refer to information, such as educational material, that is potentially useful to consumers but not critical to the decision whether or not to invest in a financial product. References in the PDS would refer the consumer to an external source (such as the issuer’s website or a Government website) for this information in order to keep the PDS document itself short and simple.  

60.  Legally, the referred material does not form part of the PDS. It is therefore not subject to the PDS enforcement regime, but is subject to other provisions such as those relating to misleading and deceptive conduct in the Corporations Act and the Australian Securities and Investments Commission Act 2001 (ASIC Act). 

Tailored PDS requirements

61.  Option B will introduce specific provisions detailing the structure and content requirements for the PDSs of different financial services products. This approach will ensure that PDSs contain a common summary of key decision-making information required by the consumer, presented in a standard format to aid comparisons between products and product providers. It will also provide industry with greater certainty about the use of IBR by specifying what content can be incorporated.  

62.  The regulations will prescribe the section headings and the sequence in which the sections are arranged. Content requirements will be detailed and specific.

63.  For example, the fourth section in the MIS PDS is headed ‘Risks of managed investment schemes’ and must include statements to the effect that all investments carry risk; different strategies may carry different levels of risk, depending on the assets that make up the strategy; and assets with the highest long-term returns may also carry the highest level of short-term risk. There is a requirement to describe the key risks, with a list of several that must specifically be mentioned. This is followed by a requirement for a statement that the appropriate level of risk will vary depending on a range of factors, again, accompanied by a list of several factors which must be mentioned.  

Impact Analysis

64.  Consumers will be affected by changes in PDS disclosure requirements as they are the main users of the information provided in a PDS.  Those in industry that would be particularly affected are the providers of superannuation products, MIS products and margin loans who are required to comply with any regulations relating to PDSs, as well as financial advisers who distribute products. To a lesser extent, ASIC would also be affected because of its responsibilities as the regulator administering and enforcing the Chapter 7 regime in general, including the PDS requirements. 

Option A: Status Quo, Keep the current Chapter 7 PDS requirements 

Investors (Consumers)  

65.  Consumers will continue to be presented with PDSs with a larger amount of information upfront than the shorter, more summarised PDSs proposed in Option B. They will continue to be provided with the key information the Government has considered necessary to be in a PDS for buyers of financial products to make informed investment decisions. However, it will be presented along with extra information at the discretion of issuers that may detract from consumers being able to identify the information that is key to their investment decision.  

66.  As discussed in the problem section, current PDSs are described as containing too much information, not all of which may be relevant to consumer needs, and is presented in a way that is not easy to use.[23]  There is some evidence to support the view that the current PDS arrangements are not supporting effective disclosures about financial products. 

67.  Under Option A, this will continue, implying that consumers are receiving a lower level of protection than intended by the legislation. There will continue to be a significant cost to consumers (in terms of time and effort) in reading and understanding PDSs that are too long and complex. The evidence also suggests that consumers are deriving little benefit from these documents.

68.  More importantly, the current regime might encourage misguided decisions about the allocation of financial resources, especially for some types of consumers (e.g. those with low levels of financial literacy). There is also a cost to consumers if they would have invested in more suitable products had the PDS been more simple and easy to understand.  

 

 

 

Industry

69.  Under this option there will be no transition costs to PDS issuers. 

70.                        Superannuation and MIS providers are already developing PDSs in accordance with the existing Chapter 7 regime, so they are familiar with the current disclosure requirements. An industry cost survey conducted by DBM Consultants examined the costs incurred in the design, development and distribution of PDSs for 108 superannuation and MIS funds with a total value of around $1,034 billion.[24] The initial development costs of PDSs amounted to $35.3 million for superannuation funds and $48.2 million for MISs. As a proportion of total fund value, this is 0.146% for MISs compared to 0.05% for superannuation. This variation may be explained by issues of economies of scale as the superannuation funds surveyed had nine times the membership numbers and more than twice the funds under management than the MISs. 

71.                        Information on the cost to margin loan providers of developing PDSs under the current Chapter 7 requirements will not be available until sometime after 1 January 2011 when the new arrangements for margin loans under the Corporations Act take effect. The costs of developing a PDS for MIS and superannuation products would suggest margin loan providers would spend an even higher proportion of total fund value on development as they have less members and funds than the other two products. 

72.                        Most of the margin loan providers may already be providers of services relating to other financial services under the Corporations Act. These entities are therefore already familiar with the Chapter 7 regime, and have already established systems and processes that are tailored to that regime.  

73.                        The ineffectiveness of PDSs created under the current approach in conveying financial product information to consumers may be discouraging investment and inhibiting good issuer-client relationships.  

ASIC

74.  While ASIC, as the regulator, does not vet or approve PDSs, it is responsible for ensuring that PDSs comply with the law. ASIC has developed a body of guidance for industry and consumers about disclosure standards, both generally (eg RG 168 Disclosure: Product Disclosure Statements (and other disclosure obligations)) and on specific issues (eg RG 97 Enhanced fee disclosure regulations: Questions and answers and RG 184 Superannuation: Delivery of product disclosure for investment strategies).  However, even with this guidance, as the content and format requirements under Chapter 7 are principles-based, ASIC expends considerable time and effort on determining whether PDSs meet the Chapter 7 disclosure requirements, in particular whether a PDS meets the ‘clear, concise and effective' test. Enforcement of the PDS is made more difficult if PDS documents are unnecessarily long and complex.

 

 

Option B: Changing the PDS Disclosure Regulatory Framework (Limiting the number of pages in a PDS and prescribing key content) 

Investors (Consumers)

75.  Under Option B, consumers will be in a better position to make informed investment decisions about whether to acquire a particular financial product. This is because consumers will receive simpler, more readable and standardised PDSs that will facilitate decisions and comparisons across similar products.  

76.  A shorter document will be more user-friendly, so consumers are more likely to engage with the PDS. The use of IBR and referenced information means that consumers will be presented with a summary of the key information upfront instead of having to find it among other information and recognise it as especially important. This means they are more likely to have read and understood the key information about a financial product before investing. The proposed standardised structure of the PDS also means that they will be able to easily compare the key product features offered by different providers. The specification of a maximum page length for PDSs is likely to drive issuers to simplify the language used in PDSs, also making it easier for consumers to understand the information.

77.  Another benefit to consumers of more effective disclosure is the decrease in the time and effort it will take to read through simpler and clearer PDSs.  

78.  In examining this option and developing draft regulations for shorter PDSs, the Working Group created example PDS documents for superannuation products, MIS products and margin loans as ‘proof of concept’ and consultation documents for the proposed disclosure regimes. To ensure that these example PDSs, and hence the regulatory framework sitting behind them, were going to be effective in achieving the objective of improving financial service disclosure for consumers, each document was independently consumer tested.

79.  Participants consistently said that they liked the clear structure of the example PDSs, and regarded them as logical and easy to follow. Navigation of the margin lending example PDS was described as ‘generally excellent’ with 93% of participants able to find the items they were looking for. For the superannuation and MIS example PDSs, the question about how hard it was to locate information between 0 (very hard) and 10 (very easy) yielded ratings of 8.3 and 7.8 respectively. These results indicate that the proposed regulatory framework of structured headings and content sections will translate into PDSs that consumers will be able to use in a more effective manner. 

80.  Option B is highly likely to represent a more effective disclosure regime from the perspective of consumers. The benefit, however, will vary depending on how financially literate the consumer is already before reading the PDS. Very sophisticated consumers will not benefit as much as they are more likely to already understand the risk characteristics associated with products. The least sophisticated consumers will be able to understand more of the PDS. Previously disengaged consumers of all levels of financial literacy may become more engaged as a result of the increased user-friendliness of PDSs, but a number of people may choose not to read them before investing no matter how the PDS information is presented.  

81.  A possible disadvantage of the use of IBR and referencing under Option B is the search costs for consumers as the entirety of the PDS information is not located in one document. A poorly designed IBR approach may increase search costs. To ensure consumers are readily able to locate IBR information, the draft regulations for Option B stipulate that the online information must be reasonably accessible and clearly distinguishable from non-IBR matters. Further guidance on this will be provided to industry in the explanatory statement accompanying the regulations. The draft regulations also provide that consumers can request for a free hardcopy of IBR material to be posted to them within a specified time period.

Industry

82.  Option B will involve transition costs for the financial service providers affected as they will have to understand the new requirements and produce new PDSs and online material. The Working Group does not have precise estimates of transition costs, but has worked closely with industry on transitional issues, including by accommodating proposals for a transition period that industry advised would be appropriate.  

83.  In terms of compliance costs, Option B is likely to lead to a lighter compliance burden compared with Option A. An industry survey commissioned by the Treasury looked into the costs of developing and producing PDSs for superannuation funds and MIS. [25]

84.  The report identified significant opportunities for cost savings to the major cost centres for industry. Printing and distribution costs of paper documents account for 36.2% (initial development) and 38.4% (recurrent costs) of superannuation costs. For MIS, it is also a significant cost item at 27.9% (initial development) and 7.9% (recurrent costs). The ability to use IBR or reference information, combined with the introduction of a maximum page length in Option B would significantly reduce the length of PDS documents, leading to reduced printing and distribution costs for issuers. 

85.  A clearer and more prescriptive disclosure regime is also likely to lead to reductions in content development costs which include spending on legal services, risk and compliance, due diligence and project management. Currently, content development and review costs encompass the largest component of the overall costs of developing PDSs, for both superannuation funds (54.4% of initial development, 42% of recurrent costs) and MIS (62.2% of initial development, 80.5% of recurrent costs). Option B would have more specific and clearer content requirements than the current principles-based approach so that issuers would have more confidence they were complying with the legal requirements.

86.  Option B will promote improved PDSs by addressing many of the drivers influencing issuers to develop lengthy and complex PDSs under the current disclosure framework. As identified in the problem definition section, risk aversion by PDS issuers is a major factor encouraging the provision of excessive information. A more prescriptive legislative regime will be an effective response to this risk aversion; specifying the structure and content of the PDS will provide greater certainty to industry on how to meet their obligations.  

87.  The new IBR provisions are designed to provide greater clarity about the operation of this mechanism and be more workable than existing provisions. Clear deeming provisions will provide more certainty to industry as to the status and liability attaching to IBR information. IBR will operate together with the prescribed maximum page lengths to provide industry with sufficient incentive to reduce the length and complexity of information presented in a PDS.  

88.  Shorter and more readable PDSs will facilitate improved industry-client relationships as industry will be able to communicate product features more effectively to consumers. This may encourage increased investment and a reduction in costs associated with consumer complaints.

ASIC

89.  The administration and enforcement of the Option B PDS requirements would be expected to be simpler and less burdensome for ASIC than in the case of the current Chapter 7 requirements.  As the content and other PDS provisions are clearer and more prescriptive, it would be easier and less contentious for the regulator to assess whether the disclosure requirements have been breached. ASIC do not plan to release new guidance if the Option B disclosure regime was introduced, but may have to update several existing regulatory guides (RGs) and class orders (COs) to reflect the new changes.  

90.  While ASIC will need to review existing guidance, this is not expected to pose a significant burden. ASIC has preliminarily identified around 15-20 RGs and COs which will need to be reviewed. ASIC does not anticipate the need to address any new policy issues in the RGs or COs.  

91.  Under Option B, ASIC does not expect to review any existing individual relief instruments, ‘no action’ letters or pro formas. An exemption granted by ASIC generally provides an alternative means of complying with the licensee's obligations under the law. If a new shorter PDS regime replaces the current PDS obligations, a legal obligation may no longer exist.  In that case, the associated exemption will simply cease to have effect. ASIC would remain open to any licensee who currently holds relief from disclosure requirements to reapply once the new regime is in force. This approach is consistent with ASIC's approach during the implementation of the Financial Services Reform Act 2001 after 2001.

 

Conclusion and Recommended Option

 

92.  On balance, and considering the risks and benefits identified above, the recommended option is Option B, introducing a new PDS regulatory framework for certain superannuation, MIS and margin lending products. Option B is the most likely option to achieve the objective of improving consumer protection by increasing the effectiveness of disclosure documents for consumers while reducing business compliance costs. There is insufficient information to ascertain the precise cost savings from shifting to the PDS framework proposed, the evidence available suggests there would be significant benefits for investors and industry.

 

93.  Option B is expected to generate a greater positive net benefit than Option A.  While Option B will generate transition costs for industry, overall, compliance costs are likely to be reduced for issuers because of the reduced length of the PDS document and the clearer content requirements under the tailored disclosure regimes.  

 

94.  Moreover it is expected this option will more substantively improve consumer protection by providing consumers with more readable and accessible disclosure documents that will improve capacity to make informed investment decisions.

 

95.  Option A, the status quo will not generate a net benefit and will not achieve the Government’s objective.  Under the current PDS requirements, lengthy and complex PDSs will remain, continuing to disadvantage consumers and impose compliance costs on businesses.  

 

Consultation

96.  The Government has consulted extensively throughout the development of simpler and more readable PDSs for superannuation, MIS and margin loans. The main consultation forums have been:  

·              Four public information sessions held between February 2008 to March 2009; 

·              A margin lending industry consultation group, which met regularly over the course of 2009 to provide the Working Group with relevant expert input during the development of the margin loan PDS regime.  The membership of this group included all major margin lenders, major industry associations such as the Australian Financial Markets Association (AFMA), the Australian Bankers Association (ABA), the Financial Planning Association (FPA), as well as other stakeholders such as dispute resolution bodies and specialist lawyers; 

·               An Advisory Panel of key financial services industry and consumer representatives (see Attachment A for a list of member organisations), to provide expert and technical assistance on issues throughout the duration of the project; 

·               Consumer testing sessions using example PDS documents developed under the new disclosure approach proposed by Option B; and 

·               Public release of draft regulations for consultation on the proposed superannuation, MIS and margin lending disclosure regimes. The regulations were accompanied by explanatory statements and example PDSs. 33 submissions were received from the public consultation process. 

The key stakeholder views are outlined below. 

Investors (Consumers and Consumer Groups)

97.  Consumers across all three rounds of testing were supportive of having shorter PDS documents containing key summary information supported by more detailed information online.  

98.     Consumer testing also identified some other improvements which could be incorporated into the revised regulations, for example, suggested changes to specified section headings to better reflect the content were taken onboard. 

99.     Consumer groups consulted also supported the aim of improving the effectiveness of disclosure to aid consumer decision making whilst maintaining key consumer protections. The importance of maximising comparability of documents in presentation and content, both between PDSs and between incorporated by reference information and information in the PDS document was stressed. The approach taken by the Working Group has been to maximise comparability by prescribing set content and structure for the PDS and require incorporated material to be clearly distinguishable from other matters. It was not considered practical to require industry to present incorporated material with the same headings, format and structure as PDS information. 

100. There was also a view in the submissions that there was too much general, educative information and not enough product specific information in the PDSs. Industry consultations also raised this point. In response, the Working Group significantly reduced the level of prescribed generic content for the PDS documents in the draft regulations.  

101. Another general comment was the need to ensure that the regulations specify that incorporated information must not be inconsistent with the information in the PDS, and that the PDS prevails to the extent of any inconsistency. The Working Group is comfortable that any such inconsistencies are likely to be captured by misleading and deceptive conduct provisions in the Corporations Act and the ASIC Act.  

Industry

102. While broadly supportive overall, industry raised several technical issues in submissions as part of the margin lending consultation process. Most of these concerns have been addressed by amending the draft regulations. More issues about the overall disclosure approach were raised by industry and consumer groups in their submissions to the superannuation and MIS public consultation process. The main general issues are discussed below.

103. A key concern raised by many stakeholders was the need for more product specific information and less generic information in the PDS to better aid consumers to make comparisons between similar financial products. In response, the Working Group has re-examined the content requirements and reduced the amount of prescribed generic material to support provision of more product specific information.

104.In respect of the example PDSs provided for the purposes of consultation, a number of industry associations, product providers and legal services providers raised concerns with having a maximum page length of six pages plus title and contents page for superannuation and MIS PDSs, arguing that it was insufficient space to describe a product properly, especially for more complex products.  

105. The Working Group considers the page length restriction to be a key driver of shorter, simpler disclosure, with the content requirements ensuring that key information is provided. In response to concerns with page length, the Working Group has proposed a lengthening of the prescribed maximum number of pages from six to eight pages for superannuation and MIS products, reduced the required generic content and more tightly defined the products captured by the tailored disclosure regimes. For example, draft regulations have been revised to provide more clarity around what simple MISs are captured under the new PDS regime, and specifically excluded more complex superannuation products such as pension products, defined benefit products, transition to retirement products and investor directed portfolio products.  

106.Industry feedback that a sufficient transition period would be around two years has been accepted. See the ‘Implementation and review’ section for more detail on the staged transition process. 

107.A further industry concern was potential exposure to additional liability risks under the new regime in light of perceived uncertainty as to whether liability could still exist even if full disclosure occurred in incorporated material. There was also a concern that the new disclosure requirements could be inconsistent with other laws. A number of options to limit issuer liability were suggested such as providing that compliance with this regime constituted a defence to non-compliance with other laws, or limiting liability to misleading and deceptive statements in the PDS and excluding prescribed statements in the PDS.

108.The Working Group has responded to industry’s liability concerns. More space has been provided in PDSs to set out key product information by extending the maximum allowed page length and reducing the amount of generic information required. Also, where another law requires the product issuer to disclose information to a person, this obligation can be satisfied by including that information in a document which is incorporated by reference into the PDS. The Working Group has received legal advice, and having regard to that advice and other relevant matters, is comfortable that the revised arrangements provide an appropriate liability regime without exposing industry to excessive risks.

109.A large number of submissions criticised the proposed fee disclosure arrangements, arguing that they were confusing and inherently inconsistent.  The Working Group accepted this argument and has consequently completely revised the requirements.  The new requirements are designed to impose minimal compliance costs on businesses by being as closely modelled as possible on the current fee disclosure provisions in the Corporations legislation.

Regulator

110.ASIC is and will be the regulator under both options. ASIC has been a member of the Working Group throughout the development of the reform proposed under Option B and supports what has been proposed.

       Implementation and review

111.Industry feedback from Advisory Panel meetings and public consultation suggest 12 to 24 months as an appropriate transition period to help industry manage compliance costs in transitioning to the new PDS regimes. This will be taken into account in the timing for the implementation of the regulations. The regulations prescribing the revised IBR framework and PDS disclosure regimes for superannuation and MIS products would prescribe:

(a)              for the first 12 months, the current Chapter 7 PDS requirements will continue to apply;

(b)              in the next 12 months, any PDS that is issued or reissued will need to comply with the new regime;

(c)              after which (24 months from implementation) full compliance will be required for all PDSs.

112.The margin loan regulations would commence on 1 January 2011, 12 months after the commencement of the Corporations Legislation Amendment (Financial Services Modernisation) Act 2009, which is the Act inserting margin loans as a financial product into Chapter 7 of the Corporations Act. From that date, issuers will have to provide margin loan PDSs to their clients in the prescribed format. 

113.Treasury and ASIC will monitor the impact of the new PDS regimes for superannuation, MIS and margin loans following their introduction.  ASIC will have responsibility for monitoring compliance by industry with the new regime.  This is a natural fit with ASIC's other responsibilities (for example licensing and market conduct regulation) relating to financial services in general.


Attachment A

Membership of the FSWG Industry and Consumer Advisory Panel

Industry Representatives

1          Abacus - Australian Mutuals

2          Association of Financial Advisers

3          Association of Superannuation Funds of Australia

4          Australasian Compliance Institute

5          Australian Bankers' Association Inc.

6          Australian Finance Conference

7          CPA Australia

8          Financial Planning Association

9          Industry Super Network

10        Insurance Council of Australia

11        Investment & Financial Services Association

12        Law Council of Australia

13        National Insurance Brokers Association 

14        Industry Funds Forum

15        Australian Direct Property Investment Association

16        Australian Financial Markets Association

 

Consumer Representatives

1          Australian Council on the Ageing

2          Australian Shareholders' Association

3          CHOICE

4          Consumer Action Law Centre

5          Financial Ombudsman Service

6          National Information Centre on Retirement Investment

7          Australian Financial Counselling and Credit Reform Association

 

 



[1]  The Provision of Consumer Research Regarding Financial Product Disclosure Documents. Susan Bell Research. Report for the Financial Services Working Group. December 2008. 

[2] Report of Findings of Qualitative Research into Effective Disclosure (Stage II). Wallis Consulting Group. Report for the  Investment and Financial Services Association Ltd. March 2008. 

[3] Report of Findings of Qualitative Research into Effective Disclosure (Stage II). Wallis Consulting Group. Report for the  Investment and Financial Services Association Ltd March 2008. 

[4] Report of Findings of Qualitative Research into Effective Disclosure (Stage II). Wallis Consulting Group. Report for the  Investment and Financial Services Association Ltd March 2008. 

[5] Factors Affecting the Drafting of Product Disclosure Statements. A report by Access Economics Pty Limited for The Treasury. 22 December 2008 

 

[6] Factors Affecting the Drafting of Product Disclosure Statements. A report by Access Economics Pty Limited for The Treasury. 22 December 2008 

 

[7] Factors Affecting the Drafting of Product Disclosure Statements. A report by Access Economics Pty Limited for The Treasury. 22 December 2008.

[8] Industry Cost Survey – Initial Development and Recurrent Compliance Costs of Financial Product Disclosure Documents. Report prepared by DBM Consultants for The Treasury. March 2009.

[9] Factors Affecting the Drafting of Product Disclosure Statements. A report by Access Economics Pty Limited for The Treasury. 22 December 2008.

[11] ANZ Survey of Adult Financial Literacy in Australia. October 2008

[12] Report of Findings of Qualitative Research into Effective Disclosure (Stage II). Wallis Consulting Group. Report for the  Investment and Financial Services Association Ltd March 2008.

[13] The Provision of Consumer Research Regarding Financial Product Disclosure Documents. Susan Bell Research. Report for the Financial Services Working Group. December 2008.

[14] Factors Affecting the Drafting of Product Disclosure Statements. A report by Access Economics Pty Limited for The Treasury. 22 December 2008.

[15] Reserve Bank of Australia, Statistics, Margin Lending - D10

[16] Annual Superannuation Bulletin June 2009. Australian Prudential Regulation Authority.

[17]  The ASIC FIDO website at http://www.fido.gov.au/fido/fido.nsf/byheadline/Essential+facts+about+superannuation?openDocument

[18] Report of Findings of Qualitative Research into Effective Disclosure (Stage II). Wallis Consulting Group. Report for the  Investment and Financial Services Association Ltd March 2008.

[19] Report of Findings of Qualitative Research into Effective Disclosure (Stage II). Wallis Consulting Group. Report for the  Investment and Financial Services Association Ltd March 2008.

[20] The Provision of Consumer Research Regarding Financial Product Disclosure Documents. Susan Bell Research. Report for the Financial Services Working Group. December 2008.

[21] Australian Bureau of Statistics. Catalogue number 5655.0 – Managed Funds, Australia, Dec 2009.

[22] Sections 1013D - 1013E Corporations Act 2001

[23] Report of Findings of Qualitative Research into Effective Disclosure (Stage II). Wallis Consulting Group. Report for the  Investment and Financial Services Association Ltd March 2008.

[24] Industry Cost Survey – Initial Development and Recurrent Compliance Costs of Financial Product Disclosure Documents. Report prepared by DBM Consultants for The Treasury. March 2009.

[25] Industry Cost Survey – Initial Development and Recurrent Compliance Costs of Financial Product Disclosure Documents. Report prepared by DBM Consultants for The Treasury. March 2009.