Superannuation Industry (Supervision) modification declaration No. 2 of 2006
EXPLANATORY STATEMENT
Prepared by the Australian Prudential Regulation Authority (APRA)
Superannuation Industry (Supervision) Act 1993, section 332
- This explanatory statement relates to Modification Declaration No.2 of 2006 (MD 2) made by APRA under section 332 of the Superannuation Industry (Supervision) Act 1993 (the SIS Act) on 29 June 2006. Section 332 of the SIS Act provides that APRA may, in writing, declare that a modifiable provision of the SIS Act is to have effect, in relation to a particular person or class of persons, as if it were modified as specified in the declaration. The modifiable provisions[1] include regulations made for the purposes of Part 3 of the SIS Act and therefore include regulation 4.16 the Superannuation Industry (Supervision) Regulations 1994 (the SIS Regulations).
Background
Legislative background
2. Regulation 4.16 of the SIS Regulations (the outsourcing standard) sets out the operating standard for the outsourcing of material business activities by an RSE licensee. Subregulation 4.16(6) requires that a material outsourcing agreement between an RSE licensee and a service provider must provide that any agreement or arrangement which the service provider enters into with another service provider for the performance of a material business activity under the outsourcing agreement must itself comply with subregulations 4.16(4) and (5). This would include, for example, requirements that the arrangement between the service providers be in writing, contain liability and indemnity provisions, provide for business continuity planning and allow APRA access to the premises of, and information held by, the ‘downstream’ service provider.
3. Regulation 4.17 allows RSE licensees up to 30 June 2006 (the end of the licensing transitional period, i.e. the last date by which existing trustees must obtain an RSE licence) to bring outsourcing agreements into line with the outsourcing standard where the material outsourcing agreements were entered into before an RSE licence was obtained. The regulation requires the RSE licensee to terminate an outsourcing agreement which does not comply with the outsourcing standard in regulation 4.16 by 30 June 2006.
Custodians
4. A custodian is an entity which holds assets on behalf of another entity. For SIS purposes a custodian must be a body corporate such as trustee company, bank or specialist custodian company and must meet prescribed capital requirements or have the benefit of an approved guarantee.
5. A custodian may contract with a sub-custodian for custody services, e.g. where the custodian is required to hold assets in a number of different countries for clients (which may include superannuation trustees), the custodian may contract with a sub-custodian for the sub-custodian to hold those assets in a particular country on its behalf.
6. APRA regards the custody of fund assets as a material business activity and agreements between RSE licensees and custodians as material outsourcing agreements which must comply with the outsourcing standard. To the extent that agreements or arrangements between custodians and sub-custodians involve the performance of a material business activity, the agreements or arrangements would need to comply with the outsourcing operating standard, specifically subregulations 4.16(4) and (5).
7. A number of entities have approached APRA advising that they do not consider that it is practicable for an RSE licensee to require that agreements or arrangements between custodians and sub-custodians falling within the scope subregulation 4.16(6) comply with all requirements of subregulations (4) and (5). Compliance issues have been raised in the context of a custodian operating on a global basis or where a sub‑custodian is located overseas. Examples of potential difficulties are that the agreement or arrangement entered into by the custodian with a sub-custodian must provide for the RSE licensee and APRA to have access to sub-custodian premises and documents held by the sub-custodian and for the RSE licensee and APRA to require that the material business activity being performed by a sub-custodian be audited by an independent auditor.
Purpose of the instrument
8. MD 2 modifies regulation 4.16 by adding subregulations 4.16(6A) to 4.16(6D). The purpose of MD 2 is to exempt a material outsourcing agreement between an RSE licensee and a custodian from the obligation to comply with subregulation 4.16(6) in respect of a ‘downstream’ agreement or arrangement between the custodian and a sub-custodian which falls within the scope of the sub-regulation. The exemption is temporary and applies only where the agreement between the RSE licensee and the custodian provides for the custodian to accept liability for the failure of the sub-custodian to exercise reasonable care in the custody of assets of the registrable superannuation entity.
Operation of the instrument
9. Subregulation 4.16(6A) exempts a material outsourcing agreement between an RSE licensee and a custodian from compliance with subregulation 4.16(6) in respect of a ‘downstream’ agreement or arrangement between a custodian and a sub-custodian which falls within the scope of subregulation 4.16(6). The exemption applies only where the material outsourcing agreement between the RSE licensee and the custodian provides for the custodian to accept liability for the failure of the sub-custodian to exercise reasonable care in the custody of assets of the registrable superannuation entity. This requirement reflects the APRA Circular “Custodian Requirements for APRA Supervised Entities” released in November 2000 which set out APRA’s views in relation to the acceptance of liability by a custodian. In the circular, reasonable care is based on the standards applicable to a custodian in the relevant market.
10. Subregulation 4.16(6B) ensures that the liability of the custodian to the RSE licensee is not dependent upon any recovery of losses by the custodian from the sub-custodian. This requirement also reflects the APRA Circular “Custodian Requirements for APRA Supervised Entities”.
11. Subregulation 4.16(6C) provides a definition of a “sub-custodian” and subregulation 4.16(6D) provides a definition of a “securities depository”.
Consultation
12. APRA undertook a brief consultation process with organisations representing trustees of regulated superannuation funds and custodians. Feedback provided by the consultation has been incorporated in MD 2 and this explanatory statement.
Commencement
13. MD 2 has effect from the date of its registration on the Federal Register of Legislative Instruments until 1 July 2007. During this period APRA will consult with relevant industry organisations to assist in determining the appropriate regulatory treatment for custodian agreements in the longer term.
Regulation Impact Statement
14. A Regulation Impact Statement is not necessary in relation to MD 2, as the declaration is of a minor or machinery nature and does not substantially alter existing arrangements.
[1] Modifiable provision is defined in section 327 of the SIS Act.