Counsel Assisting the Royal Commission alleges significant superannuation misconduct

By Michelle Levy, Andrew Maher, Simun Soljo
Financial Services Financial Services Royal Commission Litigation Superannuation

Written by Partners Michelle Levy, Andrew Maher and Simun Soljo

The SIS Act

Pretty much all of the conduct that Counsel Assisting submits may lead to a finding of a breach of law involves the trustee breaching section 52(2)(b) of the SIS Act (duty to exercise the degree of care, skill and diligence as a prudent superannuation trustee should exercise) and section 52(2)(c) of the SIS Act (duty to perform their duties and exercise their powers in the best interests of members).

When we went to law school, we were told that before someone could be found to breach of duty of care, the standard of care required had to identified. In the case of superannuation trustees, it is the standard of a prudent superannuation trustee. The submissions do not say anything about what that standard means. They appear to be saying that whatever it means, the relevant trustees may not have satisfied it.

The best interests duty gets lots of attention in the submissions, and it also gets one of the best lines. Referring to evidence by one witness, the submission says: 'The so-called pub test is not a proxy for the covenant imposed by section 52(2)(c) of the SIS Act which requires the trustee to perform the trustee's duties and exercise the trustee's powers in the best interests of the beneficiaries'.

That might be true, but it is far from clear to us that Counsel Assisting's view of what is required by the best interests covenant (which we might discern from the various types of conduct Counsel Assisting considers may involve a breach of the duty) is any clearer or more accurate.

We have written before about what the courts (including the High Court) have said about the best interests duty in the SIS Act, and it seems to us to be quite a lot narrower than what Counsel Assisting appears to be contending. In order to find that, for example, a failure by a trustee to transfer members to a MySuper product before the statutory deadline is a breach of the trustee's best interests duty, the Commissioner would have to consider what the High Court in Breen v Williams and Manglicmot said about the nature of the duty, and might need to conclude that the court got it wrong and that the duty is, in fact, prescriptive and not proscriptive.

Hot on the heels of these alleged breaches are alleged breaches of section 52(2)(d) of the SIS Act (duty to give priority to the interests of beneficiaries). This is an extremely difficult obligation because of the way it is drafted and because of its interaction with the best interests duty. It has never been considered by a court. Despite what Counsel Assisting implies, the covenant does appear to permit and perhaps require some weighing of competing interests, especially when a trustee is also a responsible entity of a managed investment scheme with essentially the same duty to the members of the scheme.

A sleeper, that we have not seen alleged before, is the alleged breach of section 52(2)(h) of the SIS Act (the duty not to enter into a contract that would prevent the trustee, or hinder the trustee in, properly performing or exercising the trustee's functions and powers as trustee) by a trustee that had outsourced the operations and administration of the funds of which it was the RSE licensee.

And then, in some parts of the submissions, Counsel Assisting says that it is open to the Commissioner to find that certain conduct was a breach of section 62 of the SIS Act (the duty to maintain the fund for the purpose of providing retirement and disability benefits to members and death benefits to their dependants). This has always been a tricky one because there are many things a trustee does in the management and operation of a fund that are not directly or obviously related to these purposes, at least some of which no one, including Counsel Assisting, would argue were in breach of section 62. Advertising the fund and paying for advice to members about their superannuation interest has usually been seen as incidental to purposes in section 62. But Counsel Assisting's submissions draw attention to the uncertainty about how far the trustee has to go to see that services are actually provided, and how closely the advertising needs to be connected to retaining or attracting new members.

There are also allegations of breaches of section 29VN(a) of the SIS Act (duty to promote the financial interests of beneficiaries of members holding the MySuper product). The wording of this obligation is deceptively unobjectionable – in practice it has proven especially obscure and difficult to interpret, and it has never been considered by a court. In order to say that a trustee has breached this duty, we think that the Commission will have to form a view about what a duty to promote requires and when the trustee's compliance can be tested. On this, again, the Commission has received no assistance from the submissions.

Without commenting on the legal responsibility or otherwise of the trustees against whom these serious allegations have been made, it is clear that the Commission will need to consider carefully the meaning of the relevant and relatively untested SIS Act provisions (as well as their application to the salient facts) when deciding to accept or reject the important findings that Counsel Assisting have invited it to make. Contrary to what Counsel Assisting appear to be implying, the facts do not speak for themselves.

The Corporations Act

An even more popular contender for 'breach of the round' is a breach of section 912A(1)(a) of the Corporations Act (duty for an AFS licensee to do all things necessary to ensure the financial services covered by the AFS licence are provided efficiently, honestly and fairly). It seems that any conduct that Counsel Assisting didn't think was up to scratch may have been a breach of this duty. Indeed, in Counsel Assisting's opinion, it appears that the 'so-called pub test is a proxy for' section 912A(1)(a). But, again, the case law is thin on the ground, and what there is does not suggest that it can be interpreted without a precise analysis of the particular conduct and consideration of this 'compendious' obligation.

There are also allegations of possible breaches of pretty much all of an AFS licensee's obligations in section 912A, including (c) (to comply with financial services laws); (ca) (to have adequate conflicts management systems); and the less frequently considered obligation in (h) (to have adequate risk management systems in place). Here, the conduct that is alleged to have breached this obligation is more than one trustee's failure to monitor advisers or to put in place contracts to ensure services are provided. Counsel Assisting also said that it was open to the Commissioner to find breaches of section 912D(1B) (to report as soon as practicable and in any case within 10 business days a breach or likely breach that is significant) and that is was open to find breaches of section 963F (to ensure that representatives of the licensee do not accept conflicted remuneration). This is most interesting.

Counsel Assisting says that there was evidence of conduct that may have breached the conflicted remuneration provisions in FOFA where a share of the trustee's fee income was paid to the distributor for services. Counsel said that this share of revenue 'was likely to influence' the financial product advice (noting that that advice could be general advice) given by the distributor's employees. This is unsatisfactory given, again, that a breach of this section depends on a number of elements in the section being found. Perhaps Counsel Assisting did consider, but was not persuaded by, arguments that have been made (including by ASIC) that a benefit provided to a licensee cannot influence advice given by the employees of the licensee unless the benefit or part of the benefit is passed on to the employee. But it is not possible to know.

The ASIC Act

Finally, on quite a few occasions Counsel Assisting said that it was open to the Commissioner to find that there had been breaches of section 12DA of the ASIC Act (misleading or deceptive conduct) in the way that trustees communicated with members. And there were a couple of instances where Counsel Assisting says it is open to the Commissioner to find that there have been breaches of section 12CA of the ASIC Act (unconscionable conduct).

A trustee must always be a trustee?

In the course of the 227 pages of submissions, Counsel Assisting makes a number of allegations that go to the heart of retail superannuation. They assert, without any legal reasoning, that a retail fund trustee that lobbied to broaden the scope of grandfathered commissions was acting contrary to community expectations and standards because it was not in the interests of members. As the submissions often repeat, the trustee's best interests covenant applies when the trustee is performing its duties and exercising its powers as trustee. The law (as the hearing made very plain) does not say that a trustee of a superannuation fund must only be the trustee of a superannuation fund (although for a while APRA did through its RSE licence conditions). Counsel Assisting's submission appears to be based on the view that a trustee must conduct itself as a trustee at all times, but this is not the law.

There is no doubt that it is very difficult to combine the role of a trustee with other roles and personal interest – but the law does permit it – trustees can and do undertake other businesses and they can make a profit from acting as a trustee (provided the trust deed authorises them to do so).

It's a slippery slope

One of the themes of these submissions is that it is a slippery slope from one breach to the next and the next – repeatedly Counsel Assisting says that one breach of law leaves it open to the Commissioner to find that there may have been another breach of the law. And so the submissions say that:

As a result of these matters [the alleged entry into a contract in breach of section 52(2)(h)] it is open to the Commissioner to find that the trustees may have breached their duties to ensure that whether there was a conflict between the duties of the trustee to the members or the interests of the members and the interests of an associate of the trustee the interests of the members could and would be given priority in accordance with section 52(2)(d) of the SIS Act.

Any breach of a covenant also leaves open a finding that there may have been a breach of section 29E(1)(a) of the SIS Act (the obligation to comply with RSE licence conditions and through those the SIS Act).

Counsel Assisting also thinks that a breach of a specific obligation to do or not do something in the SIS Act (for example a breach of section 29WA of the SIS Act which requires employer contributions to be allocated to a MySuper product) may give rise further contraventions, not only of the covenants in section 52(2)(b) and (c) of the SIS Act but also to a breach of the Corporations Act – yes, you guessed it – section 912A(1)(a).

And the converse is also, according to Counsel Assisting, true. The submissions say that it is open to the Commissioner to find that payment of conflicted remuneration in breach of the ban in the Corporations Act after the FOFA provisions were introduced may have 'entailed a failure to perform the trustee's duties in the best interests of the beneficiaries' under the SIS Act.

The twin peaks model

APRA and ASIC were not excluded from criticism, either. Counsel Assisting suggests that the twin regulator model isn't really working for superannuation because, among other things, neither ASIC nor APRA is connecting a trustee's obligations as an AFS licensee under the Corporations Act with its obligations as an RSE licensee under the SIS Act.

What does it mean?

Finally, there are the consequences. If the Commissioner does think he can make findings that there have been breaches of a trustee's statutory obligations, it is far from clear what the consequences of that would be in that case. While he has the power to refer those findings (and the evidence on which they are based) to regulators for consideration of legal action, his findings will not impose any criminal or civil liability on the affected trustees. The relevant matters would need to be litigated in a court (including, potentially, by reference to the matters considered in this Commission) before any criminal or civil legal liability could be imposed on the relevant trustees. If any legal proceedings were to follow this Commission, it is a safe bet that there would – in many cases – be considerably more evidence adduced and considered by the court than the inherent limitations of this inquisitorial process have permitted.

In the meantime, trustees should nonetheless reflect carefully on the evidence adduced in this round of hearings and the potential regulatory and other responses to it. They should then consider what changes they should be making to their governance structure and, particularly, to their internal policies and procedures. Prompt and careful consideration should also be given to what remedial action should be taken regarding any members who have suffered financial loss because of any actual or alleged misconduct (whether or not they are the subject of a case study in the Commission) and to any other action to recover any losses from service providers and other parties.

It will be interesting to see how the parties against whom these serious allegations have been made will respond later this week and, generally, how the industry and the public more generally will respond to the policy questions raised by Counsel Assisting later in September. Counsel Assisting has invited any person who wishes to make a submission on the policy-related issues raised to do so by 5:00pm on 21 September 2018. The issues cover a lot of ground and will have implications for all trustees. We think most funds will want to at least consider making a submission.

Given the seriousness of the allegations and the difficulty of the law in this area, and the serious implications for trustees depending on how the Commission answers the policy questions, that is not a lot of time. If you would like our help, please get in touch, and in the meantime good luck.