Keeping vigilant eye is top priority

The defined contribution revolution, which has spread from the United States to other countries, might be thought of as the new technology of retirement provision.

Like any new technology, the first models had flaws that had to be addressed and are still being addressed. Countries still in the process of introducing defined contribution retirement systems, such as Ireland, can learn from the early adopters and avoid the flaws.

Likewise, U.S. states or cities planning retirement programs for workers without an employer-sponsored retirement program, or starting such plans for public employees, can avoid problems by carefully designing plans with the lessons of the early adopters in mind.

A critical issue is fiduciary responsibility. Who bears the fiduciary responsibility for ensuring the assets are managed solely in the interest of beneficiaries? Who is responsible for hiring and monitoring those investing the assets of participants, and for negotiating fees? What organization will ensure that the fiduciaries are fulfilling their responsibilities? What penalties can be imposed on fiduciaries who neglect or breach their duties? These questions should be addressed in law, regulation or plan documents. There must be no ambiguity or confusion.

In the U.S., corporate plan participants have brought many lawsuits alleging plan fiduciaries have failed to fulfill their duties by choosing high-fee actively managed mutual funds when lower-fee options were available. Other suits have been brought against trustees for failing to monitor, or to take timely action when required.

Australia's once-admired compulsory superannuation scheme has come under withering criticism from a royal commission for a lack of regulation that allowed the trustees of the funds offered to workers to operate out of sight of the beneficiaries.

The result was the funds — retail funds offered by banks, and industry funds offered by unions — often charged the beneficiaries high fees while providing little service, the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry said in August after several weeks of hearings.

A study by a University of New South Wales economist estimated the financial services industry in Australia had extracted around A$700 billion ($511 billion) from the country's savings pool since 1992 when the compulsory superannuation system was introduced. Other estimates were higher. The Australian Securities and Investments Commission, in a paper prepared for the hearings, estimated as much as A$1 trillion might have been siphoned out of client accounts in fees for no service since 1992.

This occurred because fund trustees, who were supposed to act in the best interests of the beneficiaries of the funds, were not doing so, but were looking after their own interests or the interests of the banks or insurance companies managing the retail funds.

The problem appears to be that neither of the agencies overseeing the superannuation funds was clearly responsible for ensuring trustees acted in the interests of the beneficiaries and made sure the fund sponsors did so.

The Australian Prudential Regulation Authority is responsible for ensuring the fund providers prudently manage their businesses. It did not see itself as a regulator of trustee conduct. ASIC saw itself as responsible for monitoring the conduct of members of corporate boards, not superannuation fund trustees. As a result, neither monitored the fund trustees to ensure they were fulfilling their fiduciary responsibilities, reports said.

In the U.S., the Department of Labor monitors fiduciary performance. In addition, disclosure rules give employees insights on how their funds are performing and what they are paying for the investments.

As new defined contribution plans are put into place in the U.S. and in other countries, ambiguity about the scope of fiduciaries' responsibilities and who is responsible for monitoring their behavior must be avoided. In addition, participants must have enough information to monitor the service providers.