Choice Debate

Released: 1 July, 2004

Corporate super's "buying power" plus 25% to 34% more retirement dollars means it has little to fear from choice

Corporate superannuation has little to heed from "choice of fund" because the cast majority of members will see the sense in remaining with the buying power of their employer's fund, according to independent superannuation consultants, The Heron Partnership.

And Heron's study has found that a person staying with their corporate fund would retire with between 25% and 34% more superannuation than if they move through choice to a retail fund.

But "choice" combined with the further announced regulatory changes will increase moves to outsourcing as companies re-think the provision of superannuation for their employees.

Christopher Butler, Managing Director, The Heron Partnership, said the push for companies to outsource super continues to gain strength. He said: "The move by companies to outsource is driven by complexity, regulatory provisions, cost and the simple desire to improve services provided to their employees. Companies, ranging in size from 300 employees to over 5,000 that The Heron Partnership has been speaking to over the last few months have all indicated that the Apra Trustee licencing is a key driver to them deciding to outsource. The issue of choice is the final push, if indeed they needed one!"

Mr Butler went on to say: "It is also interest to note that most companies when considering "choice" are wanting to ensure that their employees remain with their company arrangements rather than "go their own way" and are therefore keen to ensure that their fund remained competitive, rather than wipe their hands of super in a choice environment.

Mr Butler expects that well within 5 years there will only be around 200 company superannuation funds compared with the 1,500 or so that exist today. "We estimate that the major move to outsourcing to a master trust or industry fund will occur over the next couple of years, and "choice" of fund will only speed that up. From our experience in helping clients, we can reduce their direct superannuation costs by around 30% and at the same time improve the range of services provided to both the members and the employer. As an example, a client we are currently working with that has over 3,500 fund members and over $100m in fund assets will achieve savings around 25%, or over $250,000 a year. These cost savings will impact the bottom line of the business as well as the costs deducted from member accounts."

Mr Butler said "Introduction of "choice of fund" will not result in large scale movements by employees from their employer's superannuation fund. For employees in a well structured company fund why would they move?

"Employees moving from their employer's fund will potentially lose the buying power that comes from being part of a bigger group, which impacts in particular on costs and automatic insurance coverage.

"Buying power is critical in a choice environment. Individuals have negligible buying power. Companies, on the other hand, have the ability to use the collective buying power on behalf of their employees to ensure that the cost of the superannuation arrangements are very economical while at the same time providing an attractive range of services and flexibility for employees" Mr Butler said.

This flexibility translates into a range of investment options, including pre mixed multi manager choices and individual manager choices. In this way members can ensure that, they are able to access better performing funds while at the same time accessing wholesale investment fees.

Moving from a well structured employer sponsored fund, with "wholesale" fees will result in the employee being charged "retail" costs on a personal basis, which are invariably twice or quadruple wholesale costs.

Research undertaken by The Heron Partnership shows members in their employer's company fund are clearly better off than opting for a personal retail fund through "choice" of fund. As an example, the retirement benefit for an employee in a small to medium businesses company fund, with 30 years to retirement will receive 25% more at retirement if he stays with his company fund rather than move to a personal retail fund. This same person, if employed in a large company will be 34% better off due to the improved "buying power" of his larger employer. Similar outcomes are achieved for a person with 20 years to retirement, but to a lesser extent due to the shorter period to retirement.

The following table (based on realistic assumptions, as detailed below) provides illustrations for 4 employees, 2 aged 25 and 2 aged 45, with a retirement age of 65.

Note: See below for calculation assumptions

But Heron warned that with "choice", companies would need to ensure that they are able to offer the range and flexibility of options a member can reasonably access but at a wholesale price.

Mr Butler said: "This does not mean an endless menu of unknown managers, rather a well constructed range of portfolios and choices that meet the member's need in exercising their choice. Many company funds may not have the scale to provide this flexibility and so will need to review their solutions for employees." he said.

"With choice companies will have to get their house in order and outsourcing their fund to a master trust or corporate division of an industry fund will clearly be an obvious solution for many employers.

"Outsourcing needs to be done with care rather than rushed into, because companies need to use their scale to negotiate excellent arrangements for their employees and ensure it continues to work for those employees." he said.

When an employee is considering moving from their employer's fund, they will need to consider all costs and charges, not just administration fees. Insurance premiums, terms and conditions need to be analysed as do investment fees, investment choices and performance.

In addition, insurance cover through any new fund may not be available to them due to health and other reasons. Members electing to transfer their funds from one fund to another will also incur financial costs on selling the assets in one fund and transferring to another.

Cost to members will also increase as the increased promotional activities of financial institutions to capture their share of members exercising choice will need to be recouped.

Assumptions:

1. SG Contributions 9.0% of salary
2. Investment Earnings 7.0% per annum
3. Salary Increases 4.0% per annum
4. CPI 2.5% per annum
5. Excludes insurance costs
6. Large Corporate Fund's combined assets total $100m
7. Medium Corporate Fund's combined assets total $5m
8. Administration fee of $65 per annum does not apply to the Personal Retail Fund
9. Excludes tax at retirement
10. Combined Administration, Investment Management and Advice Fees:
    • Medium Company Fund 1.07%
    • Large Company Fund 0.75%
    • Retail Fund Employee A 2.50%
    • Retail Fund Employee B & C 2.40%
    • Retail Fund Employee D 2.10%