Accountability: 2021 Regulatory Update

In February 2020, Treasury produced a paper with proposals for a new Financial Accountability Regime and invited comments during a consultation period. The Government recently released for consultation the Financial Accountability Regime (FAR) package.

The exposure draft Financial Accountability Regime Bill intends to implement recommendations of the Financial Services Royal Commission to extend the Banking Executive Accountability Regime (BEAR) to all APRA-regulated entities, jointly administered by APRA and ASIC.

The consultation period ended on 13 August 2021 but there is much we can draw from the proposed legislation in terms of the impact on current accountability practices. In this blog, we explore FAR and its intended purpose, obligations for accountable entities and the key changes to the measures initially proposed in 2020.

We also explore other current accountability related regulatory changes, including a potential accountability regime for the casino sector and restrictions on indemnity arrangements for superannuation trustees.

What is the Financial Accountability Regime?

As mentioned, the FAR will absorb the BEAR requirements and make several changes, including:

Applying to all APRA-regulated entities, including insurers, RSE licensees, non-operating holding companies, and later to apply to entities that are solely regulated by ASIC under AFSLs and ACLs.
Introducing new responsibilities including an end-to-end product accountability that will need to be allocated to senior executives.
ASIC will join APRA as a co-regulator under the FAR.

For more information on the key differences between FAR and BEAR, the relevant accountable entities and classifications, read our existing blog Accountability: A New Regime for APRA Regulated Entities.

What does the FAR intend to do?

The FAR is intended to increase the transparency and accountability of financial entities in APRA-regulated industries and improve risk culture and governance for both prudential and conduct purposes. It establishes clear standards of conduct by imposing a strengthened responsibility and accountability framework for directors and the most senior executives.

The regime will also require entities to clarify responsibilities of particular officers and positions. As a result, individuals will be held to account for failure to perform their obligations.

What are the obligations of accountable entities?

There are several new and existing obligations that both accountable persons and accountable entities will need to adhere to under the FAR. As under the BEAR, FAR entities will be required to notify APRA or ASIC of the following events:

An individual ceases to be an accountable person;
The entity becomes aware that it has breached its accountability or key personnel obligations, or an accountable person has breached their accountability obligations;
The dismissal or suspension of an accountable person because the person has failed to comply with their accountability obligations; and
The reduction of the variable remuneration of an accountable person by the entity, because the accountable person has failed to comply with their accountability obligations.

Accountable persons

Accountable persons (based on principles or prescriptive elements) must be defined and registered with APRA and ASIC. This includes certain senior executives and all Board members. Accountable persons are determined based on:

Principles element: a person is an accountable person if the person is in a senior executive position with actual or effective management or control of the entity, or the management or control of a substantial part of the operations of the entity and its significant and substantial subsidiaries.
Prescriptive element: APRA and ASIC will prescribe a list of particular responsibilities for each entity type.

The FAR requires APRA to be advised prior to any future senior appointments and gives APRA the ability to veto the appointment or reappointment of senior executives and directors – referred to as “non objections power”. This complements APRA’s existing removal and disqualification powers but does not rescind the entities’ responsibilities for conducting full due diligence and assessments on individuals to be appointed.

The regime also extends the obligations of accountable persons beyond only conduct that adversely affects prudential standing or reputation of the entity to conduct that affects entities complying with obligations under each applicable licensing regime.

Accountable entities

The FAR introduces increased entity accountability obligations when compared to BEAR. Under the FAR, an entity will be required to take reasonable steps to:

Conduct its business with honesty and integrity, and with due skill, care and diligence;
Deal with APRA and ASIC in an open, constructive and cooperative way;
In conducting its business, prevent matters from arising that would adversely affect the entity's prudential standing or prudential reputation (applicable only to APRA-regulated entities);
Ensure that each of its accountable persons meets their accountability obligations; and
Ensure that each of its significant or substantial subsidiaries (as opposed to all subsidiaries under BEAR) comply with all of the above obligations even if they are not subject to the FAR, to the extent that the obligations are relevant to the subsidiary.

A significant or substantial subsidiary in this context refers to subsidiaries that have a material impact on the activities of the accountable entity. Accountable entities with outsourcing arrangements will need to ensure that the entity and accountable persons have adequate control and oversight of activities covered by the FAR.

Accountable entities are also classified as core compliance entities or enhanced compliance entities, based on size and complexity. This classification determines the additional reporting obligations of the entity under the regime. Read more about core and enhanced compliance entities in Accountability: A New Regime for APRA Regulated Entities.

Only enhanced compliance entities will be required to provide APRA and ASIC with an accountability map and individual accountability statements:

Accountability map – explains the reporting lines and lines of responsibility for the accountable persons.
Accountability Statement obligations – produced for each accountable person and include the aspects of the business for which the accountable person is responsible for managing or controlling.

FAR also introduces deferred remuneration obligations and heightened requirements under draft APRA Cross Industry Prudential Standard CPS 511 Remuneration (read more in our previous blog The 511 on Remuneration):

40% of variable remuneration for all accountable persons must be deferred for a minimum of four years, if it exceeds A$50,000.
The Remuneration Policy of the accountable entity must allow for a reduction in variable remuneration.

As FAR is intended to operate in conjunction with draft CPS 511 Remuneration, we note the recently released exposure draft Financial Accountability Regime Bill may result in further delays in finalisation of the APRA remuneration standard.

Key changes in the recent Exposure Draft release

The recently released exposure draft Financial Accountability Regime Bill reveals a couple of key changes in the measures initially introduced in February 2020:

Removal of penalties for individuals in adhering to their accountability obligations under the FAR. This takes the approach back towards the current BEAR regime for banks.
Removal of restrictions on accountable persons being indemnified under corporate insurance arrangements.

Penalties for non-compliance

The maximum penalties for an accountable entity under the FAR will be the greater of the following:

50,000 penalty units (currently $10.5m under BEAR);
3 times the benefit derived or detriment avoided by the body corporate because of contravention; and
10% of annual turnover of the body corporate, to a maximum of 2.5m penalty units (currently $525m under BEAR).

Smaller penalties also apply for not complying with requests to produce documents and not assisting with investigations.

For accountable persons, the following penalties apply under the FAR:

Reduction in variable remuneration, where relevant;
Regulatory direction to reallocate accountable person responsibilities;
Disqualification from acting as an accountable person for a period; and
Imprisonment.

Indemnification

Based on the exposure draft explanatory materials, accountable entities may seek indemnification and insurance to cover penalties incurred, with restrictions in section 1.180-81:

A related body corporate of an accountable entity is prohibited from indemnifying the entity against the consequences of breaching the FAR, and from paying insurance premiums insuring the entity from those consequences. This does not apply to legal costs.
There is no prohibition relating to indemnification of, or payment of insurance premiums relating to, accountable persons.

Other indemnity changes for superannuation trustees

Following advocacy by industry stakeholders, the Senate agreed to a 12-month extension to changes to indemnification prohibitions contained in the Financial Sector Reform (Hayne Royal Commission Response) Bill 2020. These changes now come into effect on 1 January 2022, rather than from 1 January 2021. The changes amend section 56 of the SIS Act and mean that super trustees and trustee directors will be held financially liable for a wider range of penalties incurred.

Under the existing law, the only circumstances where superannuation trustees and trustee directors are unable to use trust assets to pay a liability for breach of trust is if the trustee fails to act honestly in a matter concerning the entity, or intentionally or recklessly fails to exercise, in relation to a matter affecting the entity, the required degree of care and diligence.

Under the new law, superannuation trustees and trustee directors will not be permitted to use trust assets to pay a criminal, civil or administrative penalty incurred in relation to breaches of Commonwealth law.

To pay fines, some industry stakeholders suggest creating a balance sheet or using employer group contributions as indemnity. Super funds have been working with APRA on appropriate approaches to funding any penalties incurred and are waiting on further clarity on the law.

When will the FAR legislation be introduced?

The FAR legislation is being prepared for introduction in the 2021 Spring sittings of Parliament.

When will FAR commence for accountable entities?

Authorised deposit-taking institutions (ADIs) will be the first industry to be subject to the FAR as these entities will have existing mechanisms and processes in place from the BEAR as a foundation for transition. For ADIs and their licensed non-operating holding companies (NOHCs), the FAR will apply from the later of 1 July 2022 or 6 months after the commencement of the FAR.

We expect that the FAR will commence for insurers, their licensed NOHCs and registrable superannuation entity (RSE) licensees from the later of 1 July 2023 or 18 months after the commencement of the FAR.

Other sectors: potential application of BEAR to casinos

As remuneration practices in the casino industry also come under scrutiny, it has been recommended that BEAR (or a similar accountability regime) also apply to gaming executives to ensure the extensive misconduct by Crown is not repeated by the casino or any other.

This recommendation is a step to ensure the industry conducts business with honesty, integrity and transparency, particularly in light of misconduct being ignored by Crown executives and managers with revenue-linked bonuses. It follows the findings from an investigation that many Crown executives and management were aware of money laundering activity and partnered with junket operators linked to organised crime (for more context, read Regulatory failure, poor risk culture or both? The Crown Casino money laundering investigation). Since then, Crown has announced the resignation of its Melbourne chief executive, Xavier Walsh.

However, the removal of senior executives is not enough to ensure the future integrity of the industry. The degree of change required can only be achieved through regulatory reform to ensure the industry is held accountable for its conduct.

We are also still yet to see the final regulatory outcomes as to whether Crown Casino will be able to retain its casino licence in Melbourne, the only current licence issued by the Victorian casino regulator.

How Hall Advisory can help

At Hall Advisory, we specialise in several governance advisory services to help organisations facilitate, structure and conduct constructive dialogue in developing accountability frameworks. This includes:

Conduct an accountability mapping exercise to determine accountable person positions that will be notified to APRA in due course.
Review and expansion of role statements, with greater detail on linkages to risk and compliance obligations.
Review of compliance frameworks to ensure that compliance obligations have been appropriately assigned to a single accountable individual.
Review of incident, breach and compliance processes to assess the adequacy of oversight by accountable owners for relevant compliance obligations, the basis for prior compliance attestations, necessary control enhancements, etc.

Contact us today for a confidential, no-obligation conversation about how Hall Advisory can help you achieve robust governance and accountability standards.