Ambiguity surrounding SMSFs in DDO provisions posing risk to advisers

The new product design and distribution obligations came into force in October 2021 and required firms to design products to meet the needs of consumers and to distribute their products in a more targeted manner. As part of these obligations, issuers must notify ASIC of a significant dealing in a financial product that is not consistent with the product’s target market determination.

The submission noted that during a public consultation in 2018, ASIC noted that the proposed legislation, unless amended, would unlikely apply to SMSFs.

Other parties also noted during the various consultations that, in the context of the DDO and TMD legislation, an SMSF was a shell that needs to be considered distinctly different from the financial products it acquires, the submission stated.

Treasury, in their evidence to the Senate economics legislation committee inquiry into the bill, also noted the need to exclude SMSFs from the regime.

However, despite the provisions having now been operative for a few months, the SMSF Association said conflicting views have emerged on whether the provisions apply to SMSFs and, if they do, how they should be applied in an SMSF context.

“It has been described as ‘a lawyer’s picnic’,” the submission stated.

The submission explained that under the DDO/TMD regime, financial advisers are expected to consider a TMD when providing advice and meeting their best interest duty.

“Each SMSF is unique to its members. The members and trustees are one and the same. As such they will each have very different investment objectives, risk profiles, preferences and needs,” it said.

“An SMSF is a private fund and does not offer membership to the public at large. Therefore, the requirement to have a publicly available TMD as required under the legislation does not align to the principles or function of an SMSF.”

While SMSFs do meet the definition of a financial product, when considered within the DDO/TMD framework, it is a structure in which to house financial products.

“Those financial products will need to comply with the DDO/TMD regime obligations. There are no consumer or public benefits to be gained by extending the DDO/TMD provisions specifically to the SMSF structure itself,” the submission stated.

“Rather, including SMSFs will add unnecessary complexity and cost burdens for no benefit.”

The submission stressed that the current ambiguities are “camouflaging potential contingent liabilities that may arise for both financial advisers and licensees, were a different interpretation of the law is applied in the future”.

“This may occur due to action of a regulator, litigation, or formal complaint with AFCA,” it stated.

“[ASIC’s] regulatory guide RG 274 Product design and distribution obligations is completely silent on SMSFs and the issues surrounding SMSFs. There is no clear, practical, interpretive guidance from the regulator and no clear exemption in the current legislation and regulations.”

The submission also noted that the operation of the existing legislation, including the pre-existing PDS provisions, do not provide a sufficiently clear framework to assist with the interpretation and application of the DDO/TMD provisions to SMSFs.

“Under sub-section 1012D(2A) of the Corporations Act 2001, a product disclosures statement (PDS) does not have to be given to a new member of an SMSF where the trustee believes on reasonable grounds that the member has received, or knows they have access to, all the information that a PDS would be required to contain,” the submission explained.

“Therefore, SMSFs and their trustees or firms advising SMSFs require disclosure but are exempted under reasonable grounds.”

However, this exemption may not be able to reasonably be relied upon in the context of the DDO/TMD when other situations are considered that regularly arise in an SMSF context.

For example, when a member requests the payment of a pension from the SMSF trustee, a PDS is required to be issued by the fund.

The submission also noted that when a trustee voluntarily executes a PDS on establishment or addition of a new member, although not required to do so, by default, a PDS will be included as part of the standard document package provided. It is then up to the trustee to determine whether they require or use the PDS provided.

“It is not uncommon for the PDS to automatically included in the documents adopted or executed by the trustees and members. If a PDS was not required, would the SMSF be captured under the DDO/TMD provisions for the mere fact a PDS has been prepared, executed and adopted?” the submission questioned.

The submission also pointed out that under the existing legislative framework applying to SMSFs, trustees already have obligations imposed by way of trustee covenants under SISA s.52B.

“The trustees of the SMSF are directly responsible for the operation of the fund, including ongoing fund compliance, formulating investment strategies, and making investment decisions,” it stated.

“Indeed, they may engage various professionals and services to assist them in fulfilling their duties and obligations. However, this does not alleviate or remove the core trustee duties and obligations.”

Given the current legislative uncertainty and the apparent intent to exclude SMSFs, the SMSF Association said it is appropriate for the legislation and regulations to be amended to specifically exclude SMSFs from the DDO/TMD regime with regards to the establishment of an SMSF, admission of new members to an SMSF and commencement of a pension in an SMSF.

“This will align the legislation to the policy intent, reduce red tape and compliance costs for the SMSF sector and provide important clarity for financial advisers, document providers and SMSF trustees,” it said.