AFC3440 Pension and

Financial Planning

Topic One: Introduction

AFF3440 Pension and Financial Planning 2013

Introduction

Unit Leader: Tony Cusack

Room: Intercampus Office

Telephone: TBA

Email: tony.cusack@monash.edu.au

Consultation Times: Friday 10 11 am

This weeks lectures

1. Administrative matters

2. RG146 compliance details

3. Introduction to Pension Schemes

4. Nature of financial planning

5. Issues and Problems in the Financial Planning

industry in Australia

6. Pension plans in other countries (separate

reading)

Administrative Matters

Course Outline: Obtain from Moodle

Course Objectives

Textbook and references

Lectures and tutorials

Assessment:

ASSESSMENT TASK DUE DATE VALUE Mid-semester test Week 6 5%

Preparation of a financial plan 5:00pm Friday, 27 September (Week 9) 25%

Final Examination (3 hours) Official Examination Period 70%*

TOTAL 100%

* note: 50% hurdle requirement

Subject Objectives

describe financial planning activities, and legal compliance requirements for financial planners

demonstrate specialist skills required for interaction with financial planning clients

demonstrate generic knowledge of the Australian and global investment environments, together with specialist knowledge in the

areas of superannuation, financial planning, securities and

managed investments

prepare financial plans for clients with different financial objectives

apply critical thinking, problem solving and presentation skills to individual and/or group activities dealing with pension and financial

planning and demonstrate in an individual summative assessment

task the acquisition of a comprehensive understanding of the

topics covered by AFC3440.

Your Personal Objectives

You will be contributing to super all your working life, then using your accumulated lump sum to provide for

your retirement

It behoves you to know as much as you can about it from the outset.

AFC3440 provides an unparalleled opportunity to learn about Pension funding and its place in your life.

Your savings under your countrys national pension scheme are likely to be your largest financial asset,

certainly your most liquid.

What is RG146?

the RG stands for Regulatory Guide. It is a Regulatory Guide issued by ASIC, the Australian

Securities and Investments Commission.

ASIC is Australias corporate, markets and financial services regulator. As such, ASIC is the

body that is responsible for the administration of

corporate laws in Australia.

to assist in administering these laws, ASIC issues a number of regulatory documents including

reports, consultation papers, information sheets

and regulatory guides.

ASIC Regulatory Guides

ASIC states that Regulatory Guides give guidance to regulated entities by:

explaining when and how ASIC will exercise specific powers under legislation (primarily the Corporations Act)

explaining how ASIC interprets the law

describing the principles underlying ASICs approach, and/or

giving practical guidance (for example, describing the steps of a process such as applying for a licence, or

giving practical examples of how regulated entities may

decide to meet their obligations).

RG146

RG146 was issued in July 2012 and is titled Licensing: Training of financial product advisers (a copy is included on Moodle)

it was issued in conjunction with the Corporate Law and Economic Reform Program (CLERP),

and sets out detailed and rigorous criteria that

must be met by any entity wishing to practice in

the financial advisory industry

ASIC has identified 12 knowledge requirements that practitioners must satisfy

RG146 compliance accreditation

In order to work in the finance industry in Australia, under CLERP (Corporate Law Economic Reform Program), participants and

intending participants must be able to point to ASIC-approved

finance courses which they have successfully completed, to

demonstrate competence in various generalist and specialist skills.

The required skills and the nature of training which will suitably prepare persons for a career in finance in those skills, are outlined

in ASIC Regulatory Guide 146.

A person who is able to demonstrate adequate training in a particular financial competency is described as being RG146 compliant in that area.

Course providers (such as Monash) can apply to have their courses listed on the ASIC training register.

Introduction to Pension Schemes

In general, a pension is an arrangement to provide people with an income when they are

no longer earning a regular income from

employment.

A major part of this course is about pension provision in retirement. We are interested in

both phases:

(i) the accumulation phase; and

(ii) the retirement phase.

Introduction to Pension Schemes

The accumulation phase focuses on a persons working life over which assets are accrued to

provide for retirement.

Retirement involves use of personal assets together possibly with Social Security support

to provide a pension for residual life.

How do governments figure in the scheme of things? A brief outline of the problem in an

international setting is provided (see reading).

The Pension Problem

Governments are faced with the problem of caring for their retirees (as are potential retirees

themselves including me and you!)

There are traditionally four pillars of retiree pension provision:

(i) Social Security

(ii) State sponsored complementary private schemes

(iii) Individual savings

(iv) Continued earnings in retirement

The Pension Problem

In Western countries, these pillars above are recognized as an attempt to avoid a fifth pillar family support, where children take care of their elderly parents

Why did Australia introduce a state sponsored complementary private pension scheme (in 1992, The

Superannuation Guarantee Scheme)?

In past decades in OECD countries, the proportion of persons in working age (say 18 to 65) and persons over

working age (i.e. over 65) was relatively stationary.

This meant that governments had the option of levying tax at a relatively constant rate to provide a pension on

which retirees could live.

The Demographic Imperative

Figure 1. In the diagram, the proportion of retirees/workers remains

at about 10% as the population increases

The Demographic Imperative

Figure 2. The proportion of retirees/workers is increasing over

time as the population increases

The Demographic Imperative

However, in most countries today, the proportion of persons over working age is increasing.

So governments no longer have that option. It would lead to inter-generational inequity workers in successive generations having to pay more and more

tax to support the increasing proportion of retirees.

The solution most countries have adopted or are in the process of adopting is to require its working

population to pay for its own retirement by

contributing to government regulated funds.

In most countries these are called pension funds. In Australia, they are superannuation funds.

Two-tiered Pension Systems

In many countries, there are two tiers of pension scheme (provided or coordinated by government):

Tier 1: Social security - Age Pension

A basic pension for which all may apply (but which may be means-tested). This is so for Australia, Canada,

Ireland, UK, US, etc.

Tier 2: A complementary nationally coordinated or state-sponsored private pension scheme

Each nations workers contribute to their own private pension schemes over their working lives. This scheme

is used to top up (or replace) Age Pension entitlements.

Two types of retirement benefit

Indexed life pension defined benefit (DB) plans amount of pension depends on how long you have

been in the scheme and the proportion of salary you

contributed. Pension is usually designated as some

multiple of your Final Average Salary.

Retirement lump sum accumulation schemes or defined contribution (DC) plans at the end of your working life you are in possession of a lump

sum. You must use this to provide yourself with a

RIS (retirement income stream) for the rest of your

life (Australia, most countries).

Schemes work in tandem

Since state-sponsored complementary private schemes have not been in place long, Social Security and the

private pension scheme must work in tandem. In fact this

will continue to be the case indefinitely in most countries.

For instance in Australia, our nationally coordinated system Superannuation Guarantee Scheme (SGS) which has only been in place since 1992, initiated by the

Keating labour government. It is an accumulation scheme.

While it has only been in operation for just over 20 years, it preceded the introduction of accumulation schemes in

most other countries.

SGS

Currently under SGS, Australian workers contribute 9% p.a. to a Complying Superannuation Fund (complying with prudential regulations of the Superannuation

Industry Supervisory Act (SISA 1993) so that the fund

qualifies for reduced taxation on investment earnings).

From 2012 to 2020 the proportion contributed will be gradually increased to 12% of gross income.

Workers have some say in how their money is invested; they have investment choice. This however is fairly limited.

Employers have to provide a minimum number of investment options.

Types of Super Funds

There are 3 broad categories of Funds:

1. Industry funds

e.g. UniSuper, HESTA, CBUS

2. Products from fund managers: retail funds

3. Self Managed Super Funds (SMSF)

set up by individuals

Super benefit accumulation

the total amount of capital (super) benefit that accumulates in employees fund accounts will depend on a number of factors including:

asset allocation and long-term yields

income level

contribution level (contributions in addition to the obligatory 9% can be salary sacrificed at concessional tax rates to boost the final lump sum)

taxation of contributions and fund earnings

time in the SGS scheme

Super benefit accumulation

an indicative figure for your final accumulation might be about $0.6m in todays dollars

this is roughly what you can expect if:

you contribute only the mandatory 9% of gross salary;

your income increases in line with AWOTE;

the fund averages about 9% p.a. growth over about 40 years; and

inflation is controlled at about 3% p.a. (the RBAs inflation target).

The Age Pension in Australia

SGS has been in operation for about 20 years.

And note that the employee contribution did not start at 9% p.a. it started at 3% p.a. and built up to 9% by 2000.

Current Australian retirees have not had much time to benefit from the scheme.

So, for two thirds of retirees over age 65, the Age Pension is the principal source of income.

The current (since March 2013) Age Pension maximum levels are included in the reading.

The Age Pension in Australia

The single maximum Age Pension is about 28% of average weekly earnings.

life is therefore quite difficult for two thirds of Australias retirees

The Age Pension is means tested: there is both an assets test and an income test

Briefly, if you have too much in the way of assets, your age pension will be reduced.

If you have too much other income your age pension will be reduced.

Economic impact of SGS in Australia

As at March 2013, there was about $1,500,000,000,000 (1.5 trillion, fifteen hundred

billion) dollars in superannuation funds in

Australia.

This is comparable to Australias GDP.

SGS has significantly raised National Savings, which until the inception of the scheme were

insufficient to fund desired investment.