Review of regulatory framework for managed investment schemes: the dawn of a new regime?
By Vince Battaglia
The Federal Government will ask Treasury to review the regulatory framework governing managed investment schemes. This review could open up a new chapter in re-establishing the policy settings of collective investment vehicles.
In a media release issued on 8 March 2023, Stephen Jones, the Assistant Treasurer and Minister for Financial Services, announced that the Government will task the Treasury with conducting a review of the regulatory framework governing managed investment schemes.
This announcement followed an announcement made in the Federal Government’s 2022 Budget, where scant details were provided.
The Minister states the review will examine whether the regulatory framework:
- is fit-for-purpose;
- has potential gaps; and
- could be enhanced to reduce undue financial risk for investors.
In particular, the Treasury will be required to consider the following matters:
- whether the thresholds that determine whether an investor is a retail or wholesale client remain appropriate;
- whether certain managed investment scheme investments should be able to be marketed and sold to retail investors;
- the various roles and obligations of responsible entities and whether the governance, compliance and risk management frameworks for managed investment schemes are appropriate;
- interactions between Commonwealth and State laws when regulating real estate investments by managed investment schemes (including issues arising in relation to the failure of the Sterling Income Trust);
- whether ‘investor rights’ for people who invest in managed investment schemes are appropriate;
- liquidity requirements for managed investment schemes; and
- whether an insolvency regime is required for managed investment schemes.
The Minister has stated that some areas are not to be considered as part of the review by the Treasury, namely as follows:
- whether managed investment schemes should be brought within the scope of the Compensation Scheme of Last Resort (CSLR);
- litigation funding schemes;
- time-sharing schemes;
- issues relating to the tax treatment of managed investment schemes and investors;
- any changes to the corporate collective investment vehicle regime; and
- the rights and obligations of custodians.
The Minister’s media release gives an outline of the scope of the proposed review. Clearly the scope is extensive and potentially far-reaching. It appears that the broad nature of the review will go to the heart of laws relating to operating managed investment schemes. As it will be a review of the regulatory architecture, the focus will seem to be on registered schemes, rather than managed investment schemes in which only wholesale clients are invested or which otherwise do not require registration with ASIC.
It also appears that the Treasury is required to open up for discussion the key anchors underpinning the laws regarding registered schemes. For example, given that the review is to consider whether the current regime is ‘fit-for-purpose’ – including whether governance, compliance and risk-management frameworks are adequate – presumably the role and effectiveness of existing consumer protections in Chapter 5C of the Corporations Act 2001 will be put under the spotlight, such as rules about scheme constitutions, scheme compliance plans, and withdrawals, the statutory duties of responsible entities and their officers and employees, and the oversight provided by compliance committees.
In examining anew these matters, the Treasury may be required to revisit the policy settings underpinning the current regulatory regime which go back to the Australian Law Reform Commission’s Report No 65 Collective Investments: Other People’s Money, tabled in 1993, the recommendations of which formed the basis for key structural elements of what is today enacted as Chapter 5C of the Corporations Act 2001.
Interestingly, there appears to be a focus on property funds. This is evident by the Minister calling out both some failed property or property-related funds, but also liquidity requirements. Key questions arise as to whether the failures in the funds mentioned in his release (Sterling Income Trust, Trio Capital and Timbercorp) were particular governance failures of that responsible entity rather than a failure of regulation in principle, and whether the unusual nature of the real estate investments of Sterling Income Trust and the risks associated with it bear any relationship with traditional property funds.
A further question arises as to whether the law should single out and impose a particular regulation, or a higher standard of regulation, for certain kinds of registered schemes over others merely because the asset class is real estate or a real estate derivative. Managed investment schemes invest in all kinds of assets, many of which are more speculative in nature than real estate.
High-risk funds do not of themselves demonstrate that Chapter 5C of the Corporations Act 2001 is broken. In any event, since the fiasco of Trio Capital ASIC undertook a range of measures to improve its role as gatekeeper and since the collapse of the Sterling Income Trust, ASIC has been granted with powers to make product intervention orders, and issuers and distributors must comply with their respective design and distribution obligations. Policy questions include whether ASIC’s gatekeeper measures should be in legislation (not just in legislative instruments or ASIC regulatory guides), and whether product intervention orders should be made in respect of a class of identifiable complex high-risk managed investment products.
The regulatory theme of the liquidity of managed investment schemes is worthy of a review. ASIC itself has conducted its own market surveillances in recent years about how funds handle liquidity events and ASIC has facilitated the making of ‘hardship’ claims for otherwise illiquid funds during times of economic challenges. In our experience, the withdrawal procedures in Chapter 5C look a little clunky and could do with a fresh review.
Corporate collective investment vehicles (CCIV) will be excluded from the Treasury’s review. Given the work undertaken to create regulatory neutrality between Chapter 5C and Part 8B (dealing with CCIVs), care also needs to be taken to ensure that reforms to laws regarding managed investment schemes do not inadvertently misalign the regime with laws regarding CCIVs. A review of fundamental policy settings, including obligations and duties of the responsible entity, investors’ rights and how to wind up insolvent managed investment schemes, can threaten the years of work spent to write up the CCIV laws.
As is evident from the outline provided above, the review appears to be broader than merely the laws regulating registered schemes. An item that will have greater significance is a review of definitions demarcating the lines between ‘retail’ and ‘wholesale’ investors. For many years, industry participants and policy makers alike have called for a review of these definitions. In 2011, the Treasury issued an options paper in these definitions. In 2021, the Interim Report A, the Australian Law Reform Commission identified that there are 29 regulations that affect the meaning of ‘retail client’ and ‘wholesale client’ spanning 8,832 words, and observing that such regulations ‘[add] considerable volume to the provisions relevant to determining the status of a person as a ‘retail client’, to say nothing about the effect of ASIC’s legislative instruments. Our view is to join the chorus of people calling out for a simplification and updating of the most basic of definitions in the regulatory statute book.
Where will this end up?
We anticipate that the review of the regulatory regime for investment funds will create much debate in the industry.
In the investment funds industry, but also the financial services industry more broadly, we expect that there will be much consultation and divergent views. The Minister has flagged a consideration of the recommendations by various bodies, including the former Corporations and Markets Advisory Committee (CAMAC) and the Parliamentary Joint Committee on Corporations and Financial Services (PJC). Given that CAMAC is long-defunct, we assume this is a reference to past reports of these bodies, including CAMAC’s 2012 report on managed investment schemes.
Any review of managed investments law will need to take into account the numerous reviews and inquiries into the legislative framework since Malcolm Turnbull’s review in 2001. These include the reviews/inquiries subsequently taken by CAMAC and the PJC, the new laws implemented as a result of recommendations of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry – in particular, laws relating to the design, manufacture and distribution of managed investment products and reporting compliance breaches to ASIC – as well as Commissioner Hayne’s plea to simplify financial services laws so that the intention of the law could be met.
We may be in for a long period of industry debate. Depending on the political will for law reform, the Treasury’s consultation may be the dawn of a new regime regarding the regulation of managed investment funds.
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