Australian Nonprofit Seeks Foreign Pension Fund Guidance

About ASFA

ASFA is an Australian non-profit, non-political national organisation whose mission is to continuously improve the superannuation system so people can live in retirement with increasing prosperity. We focus on the issues that affect the entire superannuation system. Our membership, which includes corporate, public sector, industry and retail superannuation funds, plus self-managed superannuation funds and small APRA funds through our service provider membership, represent over 90 per cent of the 14 million Australians with superannuation.

ASFA notes that the primary term for "pension funds" in Australia is "superannuation fund" and these terms are used interchangeably throughout this submission.

Similarly, ASFA notes that the primary term for the "beneficiary" from a pension or superannuation fund in Australia is "member" and these terms are also used interchangeably throughout this submission.

A copy of this submission has also been provided to representatives of the Treasury of the Commonwealth of Australia ("Treasury").

Recommendations

As noted earlier, section 323 of the PATH Act adds a new paragraph (l) to section 897 of the Code. References below to the provisions of the new law are to the relevant subsections of the Code in which they appear -- in particular, to section 897(l)(2) of the Code, which prescribes five requirements that each must be satisfied to meet the definition of QFPF.

The summary of our recommendations is as follows:

On 18 December 2015, President Obama signed the PATH Act into law. Sections 323(a)(1) and 323(b) of the PATH Act generally provide QFPFs an exemption from income tax and withholding that would otherwise apply under the provisions of sections 897 and 1445 of the Code in respect of income or gain from a disposition of a US real property interest.

ASFA welcomes the policy intent underlying sections 323(a)(1) and 323(b), that is, to encourage the investment by large non-US pension funds in US real property and related assets (such as US infrastructure).¹

Australian superannuation or pension funds are some of the largest Australian investors in foreign jurisdictions. The present total funds under management ("FUM") of Australian superannuation funds is approximately AUD $2 trillion (approximately USD $1.5 trillion), and is anticipated to rise to more than AUD $9 trillion (approximately USD $7 trillion) by 2030. A significant share of the existing FUM is invested outside Australia, and this share is anticipated to increase as the total size of the Australian superannuation sector increases.

As at 31 December 2015, large Australian superannuation funds had a 13 per cent asset allocation to property and infrastructure, constituting a pool of assets of more than $175 billion. Given the growth of the Australian superannuation industry, this is anticipated to grow to more than $700 billion by 2030. Presently, more than 50 per cent of this asset allocation is invested in assets located in Australia. However, given the size of the Australian economy and thus the limited pool of assets of this kind in Australia, it is expected that most of the growth in these assets will be invested in foreign jurisdictions, including the US.

In this context, Australian superannuation funds have a significant and growing appetite for assets with long lives and reliable income streams such as real property and infrastructure. Accordingly, the removal or reduction in taxation barriers in respect of investment by Australian superannuation funds in these types of assets would assist the Australian superannuation industry in continuing to be a significant and growing source of patient capital for investment in US real property, infrastructure and like assets, aligning well with the stated objectives of the Administration and Congress in implementing section 323 of the PATH Act.

However, the legislative provisions are unclear in their scope and application, inhibiting potential investment. Accordingly, ASFA submits that there would be significant beneficial impact to the US from guidance through regulations, which would clarify that Australian superannuation funds meet the requirements to be QFPFs, as this would ensure that the exemption in sections 323(a)(1) and 323(b) achieves the stated policy goal to promote infrastructure and similar long term investment into the US.

The reliable income streams from investments of this type, which match the long term liabilities of Australian superannuation funds to pay retirement and similar benefits to members, would also assist the Australian superannuation industry in meeting the requirements of Australian legislation to advance the retirement outcomes for Australians.

Specific comments

Section 323(a)(3) of the PATH Act provides that "the Secretary shall prescribe such regulations as may be necessary or appropriate to carry out the purposes of this subsection." Recommendations in respect of specific provisions for which guidance would be particularly helpful are described above. The following discussion provides additional background to the Australian pensions regime, which as you will see conforms to the principles generally applicable to US pension plans around which the provisions of the statute appear to be modelled.

(A) As regards the requirement to be "created or organized under the law of a country other than the United States"

No clarifications in the regulations would appear necessary for Australian superannuation funds. All Australian superannuation funds are created or organized under the laws of the Commonwealth of Australia or of one of the sovereign States or Territories.

(B) As regards the requirement to be "established to provide retirement or pension benefits to participants that are current or former employees (or persons designated by such employees) of one or more employers in consideration for services rendered"

In relation to this matter, ASFA notes that the purpose for which an Australian superannuation fund may be established and maintained is expressly set out in section 62 of the primary Australian legislation governing superannuation funds, being the Superannuation Industry (Supervision) Act 1993 (Commonwealth of Australia).

This section is commonly known within Australia as the "sole purpose test", and applies to all Australian superannuation funds regulated by the Commonwealth of Australia. Australian superannuation funds subject to regulation by one of its States or Territories are obliged to meet an equivalent requirement pursuant to a Heads of Agreement between the Commonwealth of Australia and each of its States and Territories.

Section 62 requires that a superannuation fund must be maintained solely for one or more of the purposes set out in subsection 62(1)(a) ("the core purposes"), or for one or more of the core purposes together with one or more of the purposes set out in subsection 62(1)(b) ("the ancillary purposes").

The core purposes include:

• The provision of benefits for each fund member on or after the member's retirement from any business, trade, profession, vocation, calling, occupation or employment in which the member was engaged

• The provision of benefits for each fund member on or after the member's attaining age 65

• The provision of benefits to the legal personal representative and/or the dependants of a fund member on or after the death of the member, provided that the death of the member occurred before he or she retired or attained age 65.

• The provision of benefits for each member on or after termination of employment (which includes resignation, redundancy, etc) from an employer who had at any time contributed to the fund in relation to the member

• The provision of benefits for each member on or after the member's temporary or permanent cessation of work on account of physical or mental ill-health

• The provision of benefits in respect of a deceased member, to the member's legal personal representative and/or to dependants of the member, where the member dies after retirement or after reaching age 65 (commonly referred to as "reversionary benefits")

• The provision of such benefits as the primary Australian prudential regulator of superannuation funds (the Australian Prudential Regulation Authority, or "APRA") approves in writing.

Similarly, benefits in certain other circumstances also form an important feature of the Australian superannuation system. For example, Australian superannuation funds acquire insurance cover (or sometimes self-insure) in respect of the death or disability of members, and the benefits paid to members or their dependants in these circumstances are an integral part of the Australian superannuation system (and indeed are mandatory under Australian superannuation legislation subject to members being able to opt-out). As above, however, these non-pension/retirement benefits represent only a small percentage of the annual benefits paid to beneficiaries from a given fund each year.

ASFA reiterates that, if the regulations do not clarify the conditions for the satisfaction of (B) to capture the above points, it is likely that no large Australian superannuation or pension fund would meet the conditions to be a QFPF, and thus, in respect of the potential pool of moneys from Australia for investment into infrastructure and other long-term patient capital into the US, the intended policy behind the exemption in section 323 of the PATH Act would be defeated.

(C) As regards the requirement to "not have a single participant or beneficiary with a right to more than five per cent of its assets or income"

No clarifications in the regulations would appear necessary for large Australian superannuation funds.

ASFA notes that approximately one-third of the Australian superannuation industry is comprised of small or self-managed superannuation funds ("SMSFs"), which are limited by Australian legislation to having no more than four members or beneficiaries. On this basis, it would be anticipated that no SMSF would qualify as a QFPF.

ASFA understands that separate submissions are being made by the Australian superannuation industry in respect of some investment structures, for example, where large superannuation funds sometimes co-invest through structures with SMSFs.

(D) As regards the requirement to be "subject to government regulation and provides annual information reporting about its beneficiaries to the relevant tax authorities in the country in which it is established or operates"

No clarifications in the regulations would appear necessary for Australian superannuation funds.

Australian superannuation funds are subject to government regulation by:

• The Commonwealth of Australia, by the Australian Prudential Regulation Authority, the Australian Securities and Investment Commission and the Australian Taxation Office ("ATO"); and/or

• The separate sovereign States or Territories of Australia.

Australian superannuation funds are required to provide the ATO with annual information reporting in respect of all contributions received, in respect of movements in members' (beneficiaries') balances, and in respect of benefits paid. For defined benefit funds, the required contributions reporting extends to the "notional" or actuarially calculated value of contributions implicit in the increase in members' defined benefits.

(E) As regards the requirement to be a trust, corporation or other organization or arrangement "with respect to which, under the laws of the country in which it is established or operates --

In this regard, Treasury should clarify that investment income that is "taxed at a reduced rate" includes income that is exempted from local taxation.

Higher income members (presently those earning above AUD $300,000) may be subject to tax on a still reduced rate of 30 per cent on their employer contributions or deductible personal contributions, with the additional 15 per cent tax payable personally but able to be repaid from members' superannuation funds.

All employer contributions and deductible personal contributions are subject to a maximum cap to which the 15 per cent or 30 per cent reduced tax rate may apply. This cap is presently AUD $30,000 (or AUD $35,000 for members aged over 50). Employer contributions and deductible personal contributions which exceed this cap are subject to tax at individuals' usual marginal rates (that is, non-reduced rates).

Similarly, Australian superannuation funds are taxed at the reduced rate of 15 per cent on investment income in respect of that part of members' accounts from which pensions are not presently being paid (that is, that part of members' accounts that are still accumulating with new contributions), and at 0 per cent in respect of that part of members' accounts from which pensions are presently being paid.

In very rare circumstances, an Australian superannuation fund may be taxed at a non-reduced tax rate on specific parts of its investment income, generally as a result of specific penalty provisions applying to certain categories of investment income.

We thank you for your consideration of our comments on Section 323 of the PATH Act.

Should you have any questions on any of the matters raised in this submission please contact me on +613 9225 4021 or Julia Stannard, Senior Policy Adviser, on +613 9225 4027.