B45/1992 MANAGED INVESTMENTS 'ACCRUING RETURN INVESTMENTS' MEANING OF 'CURRENT ANNUAL RATE OF RETURN'

DATE OF ISSUE: 16 October 1992

MANAGED INVESTMENTS 'ACCRUING RETURN INVESTMENTS' MEANING OF 'CURRENT ANNUAL RATE OF RETURN'

PURPOSE

1.The purpose of this instruction is twofold:

a)to advise that the calculation of the 'Current Annual Rate of Return' in relation to 'Accruing Return Investments' (ARIs) has               been standardised, and

b)to advise that the bulk of the managed investment information used by DVA and DSS staff will now be provided by an external data research firm.

BACKGROUND

2.Since 1987, DSS has collected data on managed investments for it's own On-Line Information System.  DVA has relied on DSS to provide this data for input into the DVA Managed Investment System.

3.Both DSS and DVA processing staff access this information to enable them to assess income and asset values on managed investments held by our clients.

4.The information currently in use is supplied to DSS by fund managers throughout Australia and is updated on a monthly basis.

5.Attachment A summarises the existing managed investment assessment rules in brief;  and Attachment B summarises the relevant VEA extracts relating to 'Accruing Return Investments' assessable on an ongoing basis.

OBTAINING DATA FROM AN EXTERNAL SOURCE

6.DSS have engaged a private company (Assirt Pty Ltd), to provide the bulk of the data required by DSS and DVA to assess income and asset values on managed investments held by our clients.

7.Assirt Pty Ltd are a recognised investment research firm, which collects investment data on most managed funds.

8.DSS will be supplying this managed investment data to DVA as per the Agreement entered into with Assirt Pty Ltd and in accordance with a Memorandum Of Understanding between DVA and DSS.

9.DSS will still have a role in researching and collecting data on a number of managed funds where the information cannot be provided by Assirt, and in instances where specific determinations need to be made in relation to

legislative provisions.

ENGAGEMENT OF ASSIRT PTY LTD

10.The engagement of Assirt Pty Ltd as the provider of investment data has a positive impact on DVA clients.  The result is that DVA will be provided with a more accurate and up to date supply of investment data on which to calculate the income and asset values on managed investments held by

our clients.

11.However, there is one major change that is incidental to the engagement of Assirt Pty Ltd, and that Branch staff need to be aware of.  This change centres on the standardisation of the way in which the 'Current Annual Rate Of Return' should be calculated for 'Accruing Return Investments' (i.e., managed investments that are either guaranteed, stable or secure, and that are unlikely to reduce in value).

DECISION TO STANDARDISE THE METHOD OF CALCULATING THE

CURRENT ANNUAL RATE OF RETURN FOR ACCRUING RETURN

INVESTMENTS (ARIs)

12.The information provided by Assirt will ensure that all 'Accruing Return Investments' have their 'Current Annual Rate Of Return' calculated on the basis of the performance of the investment over the previous 12 months.

13.Currently, most investments in this category have their rates of return calculated in this manner.

14.However, there are a significant number of Accruing Return Investments that have had their 'Current Annual Rate Of Return' calculated on either the last declared rate, or the current crediting rate, or on the basis of either an annualised weekly, monthly, quarterly or half yearly rate (i.e., not calculated on the basis of the performance of the investment over the previous 12 months).

15.The decision to standardise the method of calculating the 'Current Annual Rate Of Return' on all 'Accruing Return Investments' (ARIs) is supported by the Veterans' Entitlements Act and the Social Security Act.

16.  The legislation supports and allows a methodology which calculates the 'Current Annual Rate Of Return' based on returns over the preceding 12 months.  It is obviously fairer that all these investments have their 'Current Annual Rate Of Return' calculated in a consistent manner.

17.However, queries may still arise in the form of telephone calls, Branch correspondence, Ministerial correspondence and Applications For Review of a decision under s57 of the Veterans' Entitlements Act.

18.The information in this instruction should be used as a basis to answer telephone and/or written enquiries on this issue.

19.The provision of clear and accurate information to clients affected by this issue will contribute to reducing any confusion experienced by DVA clients.

METHOD OF CALCULATING THE 'CURRENT ANNUAL RATE OF RETURN' ON 'ACCRUING RETURN INVESTMENTS (ARIs)

20.In calculating the 'Current Annual Rate Of Return' on any 'Accruing Return Investment', the return on the investment over the immediately preceding 12 months will be taken into account.

21.'Return' is defined in the VEA as being any increase in the value of the investment, whether of a capital or income nature and whether or not distributed.

22.A return on an investment can include a combination of either:

.any increase in the unit price;

.any bonus units;

.any cash bonuses;

.any cash distributions.

23.'Annual Rate Of Return' is defined in the VEA in terms of the previous 12 months.

24.Therefore, the 'return' over the current immediately preceding 12 months period is taken into account when calculating the 'current annual rate of return'.

FOR EXAMPLE:

a)FOR INVESTMENTS THAT ARE UNIT BASED (ISSUE UNITS)

bonus units &

change in unit price+income distributions

over the past 12 months — over the past 12 months

       (if any)                    (if any)       x              100

unit price 12 months ago — 1

b)FOR INVESTMENTS THAT ARE CASH BASED (DO NOT ISSUE UNITS)

bonuses &

change in value+income distributions

over the past 12 months — over the past 12 months

       (if any)                    (if any        x              100

value 12 months ago — 1

c)FOR INVESTMENTS THAT DECLARE A RATE ANNUALLY IN ARREARS

Use the last declared rate until the subsequent year's rate is declared.

WHO WILL BE AFFECTED ?

25.This decision will affect age and service pensioners who hold 'Accruing Return Investments' and who have to date not had the revised method of calculating the 'Current Annual Rate Of Return' applied in their service pension assessments.

WHEN WILL THESE CHANGES TAKE PLACE ?

26.DSS have already established their link with Assirt Pty Ltd effective 6 July 1992.  The updates DVA are to receive will be progressively entered into the DVA Managed Investment System over the next few months.

27.Therefore, the changes are currently in effect. However, any changes in rates will occur gradually as staff recalculate the income and asset holdings of our clients on review.

STRATEGY TO DEAL WITH QUERIES

28.  Any client queries on the data provided by Assirt Pty Ltd can be addressed through the existing network of DVA Investment Policy Officers, as follows:

CURRENT INVESTMENT POLICY NETWORK PROCEDURES

(i)Client query received on accuracy of data.

(ii)Processing staff provide an explanation of the managed investment rules on Accruing Return Investments (ARIs) and explain how the 'Current Annual Rate Of Return' is calculated.

(iii)If processing staff require assistance in answering  the enquiry, or the client is still dissatisfied after the explanation and is questioning the accuracy of the data, then the processing officer should contact their Investment Policy Officer (IPO), and request that the accuracy of the data be checked to verify whether DVA/DSS data is in error.

(iv)If the data is in error, DVA can override the existing data with the correct data, and inform DSS of the error for subsequent correction on their next update.  It is not expected that this will be the case for the majority of queries.

(v)If the data is not in error, the Investment Policy Officer provides direction to the staff member or client on the legislative basis for assessing the investment with the data in question.

(vi)If the client remains dissatisfied, a right of appeal exists to the Repatriation Commission and then to the Administrative Appeals Tribunal.  The client is to be advised of his/her appeal rights.

IMPACT OF THE BUDGET ANNOUNCEMENT TO REMOVE THE DISTINCTION BETWEEN ACCRUING RETURN INVESTMENTS (ARIs) AND MARKET LINKED INVESTMENTS (MLIs)

29.The recent Budget announcement regarding the removal of the distinction between ARIs and MLIs may impact on the methodology outlined in this instruction for calculating the 'Current Annual Rate Of Return'.

30.It is possible that as a result of the Budget announcement that all managed investments (ARIs and MLIs) will have their rates of return calculated using the methodology outlined in this instruction.

31.However, details of the Budget announcement will be issued in a separate instruction when the full impact of the Budget has been assessed.

BRANCH OFFICE ENQUIRIES

32.The information in this instruction should be used as a basis to answer telephone and/or written enquiries on this issue.

33.A supplementary instruction containing samples of written responses will be issued to further assist Branch Office staff in replying to correspondence.

34.If you have any enquiries in relation to this instruction, please contact your local Investment Policy Officer.

PETER HAWKER

NATIONAL PROGRAM DIRECTOR

BENEFITS

13 OCTOBER 1992

ATTACHMENT A

MANAGED INVESTMENT INITIATIVES

Since 1987, the Government has progressively rectified the administrative and legislative deficiencies that have enabled some pensioners with substantial managed investments to accrue income and avoid the income test until they elect to cash in their investments.

The Government believes that earnings from all investment sources should be treated in an equitable manner.

The legislation which is now in place provides a means by which capital growth can be taken into account on an ongoing basis, that is, as it accrues, rather than when the investment is cashed in.

THE MANAGED INVESTMENT ASSESSMENT RULES

If an investment is categorised as an 'Accruing Return Investment', that is, a relatively non-speculative investment which is unlikely to decrease in value, then the income which accrues on that investment is assessed on an ongoing basis as fortnightly income in determining service pension entitlement.

If an investment is categorised as a 'Market-Linked Investment', that is, a more speculative investment where the investor could lose capital if the investment performed badly, then a statutory rate of return of 11% (or lower) is used to determine the fortnightly income to be assessed on an ongoing basis in determining service pension entitlement.

The only exceptions to these rules are where the investment:

1.was made prior to 1 January 1988 with a Friendly Society; or

2.was made prior to 1.1.88 and was of a kind where the investor did not have access to the funds for at least 12 months or until realisation; or

3.is a market-linked investment made prior to 9.9.88.

The income which accrues in these situations is assessed as income only when the investment is realised, that is, on sale, maturity, surrender or withdrawal.  The profit component is then maintained in the pension assessment for 12 months, commencing on the day on which the person is entitled to receive the amount.

In the case of market-linked investments purchased prior to 9.9.88, any dividends paid will be held as ongoing income in addition to the profit component being assessed on realisation.

ATTACHMENT B

THE LEGISLATION

The VEA contains several sections in relation to 'Accruing Return Investments' and the 'Current Annual Rate Of Return', as follows:

Subsection 5J(1):'accruing return invetsment' means an arrangement by a person that consists of or includes an investment of money, being an investment:

(a)that produces:

(i)a fixed rate or quantifiable rate of return, whether or not that rate varies from time to time; or

(ii) a rate of return that may be reasonably approximated;

and

(b)the value of which from time to time is unlikely to decrease as a result of market changes.

Subsection 5J(1):'return' in relation to an investment (including an investment in the nature of superannuation), means any increase, whether of a capital or income nature and whether or not distributed, in the value or amount of the investment.

Subsection 5J(1):'annual rate of return' has the meaning given by

subsection (2).

Subsection 5J(1):'subsection (2)':  'Where the value or amount at a particular time of a market-linked investment included in an investment product is equal to or less than the value or amount of that market-linked investment 12 months previously, the annual rate of return at that first mentioned time for market-linked investments included in that investment product is to be taken, for the purposes of this Act, to be 0%.'

Section 46C:Investments made before 1 January 1988 not with Friendly Societies or where return is not deferred:  'the person is to be taken, for the purposes of this Act, to receive the current annual rate of return on that investment as ordinary income of the person....'.

Section 46D:Investments made after 1 January 1988:  'the person is to be taken, for the purposes of this Act, to be taken to receive the current annual rate of return on that investment as ordinary income of the person....'.

Section 46E:Actual return not to be treated as income:

'If:

(a)a person is to be taken, because of this subdivision, to have received income from an investment in respect of a period; and

(b)the person actually receives a return from the investment in respect of that period;

the return actually received is to be taken, for the purposes of this Act, not to be ordinary income of the person.'

Section 46F:Rate of return where it can only be approximated:     'If the rate of return on an accruing return investment is not a fixed or a quantifiable rate, for the purposes of this subdivision, the current annual rate of return on that investment is a reasonable approximation of the rate of return.'