Long-awaited investor compensation scheme gets under way

The long-awaited Compensation Scheme of Last Resort (CSLR) has started operating. Under the scheme, a payment of up to $150,000 can be made to consumers who have experienced misconduct and the business liable to pay compensation does not do so, usually because it has closed its doors.

The establishment of a compensation scheme was a recommendation of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry that uncovered widespread misconduct during its hearings in 2018.

Royal commissioner Kenneth Hayne recommended a compensation scheme of last resort. Credit: Eddie Jim

There had been a long history of misconduct, particularly by financial advisers and managed investment schemes. Clients of financial advisers, for example, were awarded compensation after receiving negligent advice, only to see the firms employing the advisers go into administration.

The victims, who were mainly older investors and retirees, were left with nowhere to turn, except, in some cases, through expensive legal action.

The CSLR is intended to provide compensation where there is misconduct by many – but not all – financial services firms licensed to provide the relevant product or service. The scheme is funded by a levy on lenders, mortgage brokers, financial advisers and those who deal in securities.

Superannuation has its own compensation mechanism through which an APRA-regulated super fund can apply to the federal government on behalf of its members for compensation if fund members have lost money because of theft or fraud. All APRA-regulated super funds would then be levied to pay for the compensation.

To be eligible for compensation through the CSLR, claimants must have received a favourable determination from the Australian Financial Complaints Authority (AFCA) with the company having received a direction to pay compensation that it subsequently fails to pay.

Consumers can then apply for compensation from the CSLR which, in effect, stands in for the company that no longer exists or cannot make the payment. Consumers are expected to exhaust a business’s internal complaint resolution processes before lodging a complaint with AFCA, which is free to access.

Consumer groups had called for the compensation scheme to cover all financial products and services that fall under AFCA’s jurisdiction. However, key sectors, such as managed investment schemes, have been left out of the CSLR.

Managed investment schemes are collective investments where investors pool money to be managed by a third party, such as a property fund or agricultural scheme.

Federal Treasury is reviewing the managed investment scheme sector. It is examining whether the regulations covering the sector are fit for purpose, whether there are gaps in regulation and whether improvements can be made to reduce undue financial risk for investors.

A likely outcome of the review will be an increase in the threshold to be designated a “wholesale” investor. Currently, an investor can be designated as a wholesale investor by a qualified accountant if the investor has at least $2.5 million in assets.

Wholesale investors can access a broader range of investments than retail investors, such as private equity, but have fewer protections. For example, they usually do not have access to AFCA.

The $2.5 million threshold, which was set more than 20 years ago, includes the family home, meaning many investors, including those who are unsophisticated, can be designated as wholesale investors.

• Advice given in this article is general in nature and is not intended to influence readers’ decisions about investing or financial products. They should always seek their own professional advice that takes into account their own personal circumstances before making any financial decisions.

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