From today, when you buy any retail investment product, such as a unit trust fund, retirement annuity (RA) or endowment policy, you will be presented with a cost breakdown designed to enable you to compare charges across different products – in other words, to compare apples with apples. This new cost measure is known as the effective annual cost (EAC).
The measure has been introduced by the Association for Savings & Investment SA (Asisa) in line with the government’s drive to ensure that investment products are more standardised, transparent and consumer-friendly.
It applies to all Asisa members, which include both collective investment scheme management companies and life assurers. The implementation of the EAC is being rolled out gradually, but all products sold from today must comply with it (see "EAC roll-out", below).
James George, the compliance manager at Compli-Serve SA, a consultancy that deals with compliance in the financial sector, says the EAC is another step towards fulfilling the government’s Treating Customers Fairly regulatory framework.
“It allows investors and their advisers to compare charges across different retail investment products – for example, unit trusts and life assurance policies. It also allows them to look at the impact of any charges on investment performance. According to Asisa, it is likely a world first in its comparative scope and cost transparency.
“For years, the South African savings industry operated in silos along product lines, with each silo developing its own methods of calculating and disclosing costs. In the case of the collective investments industry, the total expense ratio (TER) has become the standard for cost disclosure, while in the life assurance industry the reduction in yield (RiY) calculation is the norm.”
George says the EAC does not replace the TER or the RiY, but is another measure of costs, aimed at helping you and your financial adviser to compare charges on most retail products, and those within the various investment “wrappers”, to establish the impact of charges on returns.
Under the new EAC standard, Asisa members have a number of obligations. They must:
• Ensure that all the values used in the calculations are accurate and comprehensive, and that the calculations are accurate.
• Ensure that the values underlying the calculation don’t make a product appear cheaper than it is.
• Use plain language that is appropriate for your level of understanding, and it may not be printed in small type.
• Disclose full details of any rebates paid between any parties, and whether they are passed on to you. When such a rebate is passed on to you, the impact must be included in the EAC calculations.
• Disclose to you the fact that, if you buy a particular product, you may forego certain benefits.
The standard applies to local collective investment schemes (including foreign schemes approved by the Financial Services Board for marketing in South Africa), contracts issued on investment platforms, long-term assurance savings contracts (including endowments and living annuities), as well as retirement annuity funds (RAs) and preservation funds.
The breakdown is as follows:
• Investment management charges: costs and charges for the management of all underlying investment portfolios;
• Advice charges: initial and annual advice fees, for both lump-sum and recurring-contribution investments;
• Administration charges: charges relating to the administration of a financial product; and
• Other charges: George says this is a “catch all” for all remaining charges, such as termination charges, penalties and charges on guarantees, smoothing and risk benefits,
The EAC is calculated separately for each cost category and these costs are added up to calculate the total EAC for the product. In addition, the EAC must be shown for terms of one, three and five years, and, where there is a specified term, for that term, or 10 years, or to age 55 for RAs.
From an advice point of view, George says, it’s clear that different financial products are used for different needs. Depending on the wrapper, they also have different tax implications, all of which your financial adviser needs to take into account when advising you.
George says your financial adviser must be able to explain the EACs of the products he or she advises you on and be able to answer your questions.
EXAMPLES: EAC CALCULATIONS OF DIFFERENT PRODUCTS
Personal Finance asked Old Mutual to provide examples of EAC calculations for a lump-sum investment of R1 million in three different products: a unit trust retirement annuity (RA) invested in the Old Mutual Balanced Fund, a contractual RA invested in Old Mutual's Balanced Portfolio, and a contractual RA invested in Old Mutual's Smooth Bonus Portfolio. The results of the calculations are in these tables.
TRADITIONAL COST MEASURES
Traditionally, collective investment schemes (unit trust funds and exchange traded funds) have used the total expense ratio (TER) to reflect costs, while life assurance companies have used the reduction in yield (RiY) on their investment products. Both are expressed as a percentage, per year, of your total investment value.
• TER: reflects annual asset management fees, including any performance fees, as a percentage of your investment.
• RiY: shows the effect of costs as an erosion of value, or a reduction in the annual yield or return over a fixed term.
Neither measure fully discloses all the potential costs, and the RiY uses assumptions that could prove to be incorrect.
All existing investment products that you hold will have to be brought into line with the effective annual cost (EAC) standard when a change is made to their contractual terms. The deadlines for compliance for existing products are:
• June 1, 2017 for products sold after April 1, 2010;
• June 1, 2018 for products sold after April 1, 2000 and before April 1, 2010; and
• June 1, 2019 for products sold before April 1, 2000.
Occupational retirement funds, including umbrella retirement funds, have not been included in the EAC standard, because their structures are very different from retail products.
PRODUCT PROVIDERS ON TRACK
Indications are that members are on track with implementing the Effective Annual Cost standard (EAC), the Association for Savings & Investment SA, says.
• The MMI Group (Momentum and Metropolitan), says it will have successfully implemented EAC across a number of product ranges by today. The remaining product ranges will be implemented during the month of October.
• Jean Minnaar, investment and savings general manager at Old Mutual Emerging Markets, says: “We are on track with our core middle and high-income solutions from our linked-investment services provider, life and unit trust manager licences, but are delayed with our low-income products. The roll-out of the quoting tools will happen over the weekend and will be embedded in the offices of our agents and brokers from Monday.”
• The chief executive of Sanlam Personal Finance Actuarial, Kirshan Reddy, says Sanlam is ready to implement the EAC from today.
• Discovery says the EAC will be deployed through its quotation system on Monday.
• Liberty Life had not responded by the time of going to press.