What you need to know
- Treasury is conducting a review of the regulation of MISs, focusing on ‘wholesale’ criteria, the availability of certain types of MISs (particularly, relating to real estate) for retail investors, investor rights, liquidity and insolvency.
- The existing regime has not changed materially for over 2 decades, and this represents a crucial time for funds industry participants to have their say.
Review begins
In a media release on 8 March 2023, Stephen Jones, the Assistant Treasurer and Minister for Financial Services, outlined the scope of Treasury’s proposed review of the regulatory framework for managed investment schemes (“MISs”).
The purpose of the review is to examine whether the MIS regulatory framework is fit-for-purpose, has potential gaps, and could be enhanced to reduce undue financial risk for investors. The scope of the review is broad and potentially far-reaching, and will include consideration of whether governance, compliance and risk-management frameworks for MISs are adequate.
Wholesale status
One reform option contemplated by Government is whether the criteria that determine if an investor is a ‘wholesale’ or ‘retail’ client remain appropriate. The criteria for establishing ‘wholesale’ client status in the financial services arena (‘sophisticated’ status in the securities context) are complicated, and industry participants and policy makers have called for their simplification for years. In 2021, the Australian Law Reform Commission lamented that the complexity of these definitions make them vulnerable to ‘regulatory arbitrage’, noting there are 29 regulations that affect the meaning of ‘wholesale client’ and ‘retail client’, spanning 8,823 words.
It is relevant to highlight that since the Corporations Act 2001 (Cth) came into effect on 1 July 2001, the consumer price index (CPI) has increased by 75.6% (from 74.5 to 130.8), median yearly wages have increased by 113.3% (from $30,470 to $65,000), and the median house price in Melbourne and Sydney has increased, respectively, by 230.5% (from $225,000 to $743,554) and 212.2% (from $322,500 to $1,006,923).
In that time, the monetary thresholds for ‘wholesale’ status, of earnings of $250,000 in the past 2 financial year or $2.5 million in net assets, have not changed. Clearly, they are vastly outdated, and what was once a reasonable (if blunt) proxy for ‘sophistication’ (wealth), is now unfit for purpose, meaning that people who should receive the benefit of ‘retail’ client protection are missing out. This would seem to be a clear regulatory failure.
We suggest that some thought could be given to introducing a concept of monetary thresholds which can move over time to keep up with inflation, similar to the ‘penalty unit’ regime. Perhaps ‘legislative units’?
Other areas
In the impending review, Treasury will also consider:
- whether certain types of MIS investments should be able to be marketed and sold to retail investors;
- whether ‘investor rights’ for people who invest in MISs are appropriate;
- the liquidity requirements for MISs; and
- whether an insolvency regime is required for MISs.
Real estate
The Minister specifically called out the failed funds Stirling Income Trust, Trio Capital and Timbercorp. Presumably this will open up discussion of whether the failures in these funds were due to particular governance failures of the relevant responsible entity, or a failure of regulation in principle. This may provide some insight into whether the law should single out and impose a particular form of regulation, or a higher standard of regulation, for certain kinds of registered schemes over others, merely because the asset class is (in particular) real estate or a real estate derivative.
The Minister added that interactions between Commonwealth and State laws when regulating real estate investments by MISs will be considered. Following the Minister’s comments, SMSF Association CEO Peter Burgess stated that “the gaps between State and Commonwealth regulations, including those identified in the Sterling Income Trust Inquiry – its recommendations were handed down in February 2022 – also need to go under the microscope”.
Next steps
Treasury will release a public consultation paper by mid-2023 and consult with industry before reporting its findings to the Government by early 2024.
For more information, or to discuss financial services queries in general, please contact a member of KHQ’s Corporate & Commercial or Superannuation & Financial Services
This article was written by Mimi Chester (Paralegal), Venn King (Principal Solicitor) and Natalie Cambrell (Director).
