Unclaimed assets: FSCA will prioritise monitoring conflicts of interest

Posted on

The proposed standardised framework for managing the estimated R88 billion in unclaimed financial assets will prioritise monitoring conflicts of interest, the FSCA says.

This is one of the points in the Authority’s response to the feedback it received on its Discussion Paper on unclaimed benefits, published in September 2022.

Read: FSCA proposes a central fund to tackle R88bn in unclaimed assets

The Discussion Paper contained 13 recommendations on how to manage unclaimed assets held by financial institutions. Of these, four recommendations related to the proposal to establish a central unclaimed assets fund to receive and manage unclaimed assets, and nine related to the identification, management, tracing, and reporting of unclaimed assets.

The FSCA received 36 responses from a range of stakeholders, including financial institutions, industry associations, organised labour, civil society organisations, and individuals.

The Authority’s Response Report, which was published on 27 March, summarises the comments received, provides the FSCA’s response to the comments, and discusses the next steps in the process.

One of the FSCA’s “immediate next steps” will be the development of a framework that outlines the requirements relating to the identification, monitoring, management, tracing, and reporting of unclaimed assets. However, many challenges and areas of disagreement must still be addressed.

Disagreement over a central fund

According to the Response Report, there is widespread agreement on the need to implement a fair and efficient framework that addresses unclaimed assets in a structured manner and provides legal certainty for consumers and financial institutions.

But there is disagreement over the form this framework should take.

Most financial institutions that hold unclaimed assets are opposed to the proposal to establish a central unclaimed assets fund, into which these assets must be transferred. Other stakeholders are in favour of a central fund.

The concerns regarding a central fund include:

  • the potential for fraud, corruption, and mismanagement;
  • whether a single fund will have the expertise and infrastructure;
  • the impact of transferring unclaimed assets on investment values;
  • transferring unclaimed assets into a central fund could break the primary relationships between the claimants and the original financial institutions;
  • transferring unclaimed assets could result in a loss of accountability, reduced efforts to locate owners, and increased costs (for administering and verifying assets);
  • smaller administrators may lose business, potentially leading to closures and job losses; and
  • the transfer of assets will impact the capital of prudentially regulated entities, such as banks, and negatively affect their profitability.

Some respondents argued that customers should be able to decide where their unclaimed assets should be held.

An alternative proposal to the establishment of a central fund is that unclaimed assets be transferred to the National Revenue Fund (NRF). Most respondents preferred transferring the unclaimed assets to a central fund than to the NRF.

In the section of the Response Report dealing with the immediate next steps, the FSCA says the transfer of unclaimed assets to a central fund and/or the NRF presents “various complexities”, particularly regarding the liquidation of non-cash assets, customers’ legal and contractual rights, limited restitution, and tax neutrality. These complexities require further consideration before advancing the recommendation to establish a central unclaimed assets fund.

The lack of reliable data (the retirement space excepted) regarding the value of unclaimed assets and the number of affected beneficial owners creates challenges regarding the design and implementation of a central fund. Therefore, an enhanced reporting framework is a crucial stepping stone to generating relevant and reliable data to inform future decisions on the suitability and design of a central fund, the report says.

Fraught issue of fees

The FSCA proposed that fees should be prohibited for the custody, administration, or management of unclaimed assets. “This is intended to encourage active tracing of beneficial owners or their beneficiaries and to shift the behaviour of financial institutions by providing an incentive to maintain contact with their customers,” the Authority said.

Respondents generally supported prohibiting fees on dormant accounts with zero or negative balances.

But holders of unclaimed financial assets were generally against the proposal to prohibit institutions from charging fees on lost accounts or assets. They argued that not charging fees:

  • would not be financially sustainable;
  • may lead to cross-subsidisation because institutions would have to factor these costs into existing products through increased fees for all clients; and
  • may disincentivise investment managers from managing assets, which may result in these assets remaining on “autopilot”.

They also said that financial institutions have contractual obligations to provide certain services, while customers have the obligation to pay certain fees.

Managing conflicts of interest

The FSCA noted some respondents’ concerns that transferring unclaimed retirement fund benefits to a central fund may affect service providers (including administrators, asset managers, trustees, auditors, and tracing agents), impact their income and the capital of prudentially regulated entities, and potentially result in job losses.

The Authority said this raises questions about the way financial institutions currently manage conflicts of interest.

While institutions have a responsibility to reunite unclaimed assets with their beneficial owners, the more successful they are in doing so, the greater the negative impact on their profitability (through the loss of fees, interest, etc.). As a result, there may be a significant business incentive to refrain from tracing beneficial owners, the Response Report says.

The report says this conflict of interest could be resolved by changing the way in which financial institutions are remunerated for services rendered in respect of unclaimed assets. However, the negative impact on active customers (higher costs or fees) must be considered.

Another approach, it says, is to impose tracing requirements and to penalise institutions that do not comply with those requirements (including naming and shaming). This may make it more costly for institutions not to trace beneficial owners.

“It is therefore important to prioritise the management of conflict of interest within the unclaimed assets framework. Monitoring conflicts should also be given high priority, particularly for institutions most affected by such conflicts. To ensure transparency, reporting on unclaimed assets should include the percentage of fees or income earned from unclaimed assets in relation to total fees or income. This will allow for better monitoring of how institutions exercise their duties whilst managing potential conflicts of interest,” the FSCA says.

Which assets should be included?

Another challenge that must be addressed is the absence of a definition of what constitutes an unclaimed asset.

The FSCA proposed including the following financial products in the unclaimed assets framework:

  • retirement fund benefits;
  • bank deposits, irrespective the term and including foreign currency deposits;
  • participatory interests in collective investment schemes;
  • life and non-life insurance policies;
  • securities; and
  • any investment, return, income, dividend, or other proceeds in respect of or derived from the financial products listed above that are payable or due to customers or their beneficiaries by financial institutions, including assets held by central securities depository participants.

Stakeholders proposed adding other financial assets to the list, including unclaimed assets within medical schemes, stokvels, and trusts.

There were differences of opinion over the inclusion of securities, offshore assets invested via South African-domiciled institutions, bank deposits, pension funds, preservation funds, investments, non-life insurance, and the benefits of paid-up members and deferred retirees.

One of the FSCA’s next priorities is the development of an unclaimed assets taxonomy. This will assist the Authority to assess the status quo of unclaimed assets in the financial sector and may enhance transparency and accountability.

Central fund for unclaimed retirement benefits

The FSCA wants to proceed with establishing a central fund for unclaimed retirement fund benefits. This is because the identification and monitoring of unclaimed benefits is more advanced in the retirement funds industry than in the rest of the financial sector.

Regarding unclaimed retirement fund benefits, one of the 13 recommendations is that priority be given to tracing beneficiaries of funds with a high concentration of unclaimed benefits – what the Discussion Paper refers to as high-impact funds. If such concentrations are found in other financial sectors, the FSCA said it would consider similar prioritisation strategies.

The FSCA proposed that funds with more than R500 million in unclaimed assets, or funds with average unclaimed assets per beneficiary exceeding R45 000, be prioritised.

Respondents supported the principle of prioritising high-impact funds. But there were differences of opinion of how these funds should be defined – what thresholds should be set.