CSLR waterfall model gets qualified FAAA thumbs-up

Proposals for waterfall funding arrangements for the Compensation Scheme of Last Resort have received qualified support from the Financial Advice Association Australia, which says the financial advice subsector liability must be reassessed to avoid undue financial burden falling on a small business sector that has already funded a $20 million subsector cap.

A waterfall funding structure was mooted in April this year in a Treasury consultation paper, Reform options to improve the ongoing sustainability of the CSLR as part of moves to address the long-term funding and sustainability of the scheme.

In July, the claims, fees and costs for the scheme for 2026–27 were estimated at about $198 million, of which about $190 million was attributed to the personal financial advice sub-sector, a sum well above the amount ASIC can collect through the annual levy process.

This revised total was about $60 million above the initial FY27 estimate of $137.5 million, which included $126.9 million for advice. The CSLR expects the remaining Dixon Advisory complaints to be settled in FY27.

In August the Minister for Financial Services, Daniel Mulino, said the $170 million or so by which costs exceeded the advice subsector’s cap would be met through a special levy, with sub-sector contributions to be worked out using a waterfall framework.

Announcing the reforms in August, Mulino said applying the waterfall did not mean subsectors would automatically pay their maximum cap, and that he recognised advice as “a sector made up largely of small businesses”, Professional Planner reported.

A critical aspect of Treasury’s consultation and how the waterfall structure will operate is now a subsector’s “connection” to issues giving rise to compensation – or, how much it is “part of the pathway to consumer loss” – is decided, because this will determine the order in which subsectors fall liable for payment.

Driven to tiers

Under the waterfall proposal, all retail-facing financial services subsectors would be allocated to tiers, with the sub-sector most closely “connected” to the losses occupying Tier 1. This subsector would pay up to $20 million.

Tier 2 would consist of sub-sectors assessed as “sufficiently connected” to the issues leading to the compensation, and each would pay up to $40 million.

Once this funding was exhausted, the remaining retail-facing financial services subsectors would tip-in up to $30 million each.

Treasury noted that under this proposal a sub-sector “may only be levied up to an absolute total of $40 million in a levy period, considering all potential contributions via the annual levy and across each tier”, and that the $250 million a year scheme cap will remain.

Under Treasury’s draft allocation, the financial advice subsector, as the primary sub-sector, would be assigned $10 million of the $170 million special levy in Tier 1, half of the $20 million Tier 1 maximum. This is in addition to the $20 million annual levy the subsector has already paid.

The Financial Advice Association Australia submission to Treasury has broadly supported the application of the waterfall approach but has raised concerns that the proposal continues to place a material financial burden on financial advice firms as small businesses.

“We recognise that difficult trade-offs have been made, anchored by the imperative to compensate victims without further delay. However, the proposed allocation still places a material cost on a small business sector that has already paid its $20 million cap,” the FAAA submission says.

The submission points out that in addition to contributing to the financial advice subsector levy, an advice practice could, depending on the issues leading to the need for compensation, be levied again through other sub-sectors, such as securities dealers, managed discretionary account providers and insurance product distributors.

Set at zero

The FAAA submission recommends that the Tier 1 2026-27 allocation for the financial advice subsector be set at zero, and that the $10 million special levy be reallocated across Tier 3 subsectors.

It recommends that Treasury “publish both the rationale for Tier 1 and Tier 2 allocations and a short statement of facts for each material CSLR claims cohort”, and that it “reassess finding for connected sub-sectors for Shield and First Guardian and Brite for 2026–27”.

“The FAAA accepts that the 2026–27 shortfall needs to be funded,” the association’s submission says.

“The proposed allocation reflects progress on concerns we have raised. However, the connection mapping and tier allocations require clearer justification, superannuation trustees should be reassessed, and the financial advice allocation should be zero. 

“Lasting sustainability will depend on reforms that reduce the costs entering the scheme.”

The FAAA restated its view that entities that are not subject to Australian Financial Compensation Authority determinations, and which sit outside the levy base, include 

research houses, social media companies and auditors, and the actions or inactions of each “can contribute substantially to consumer loss”.

“Consideration should be given to how their contribution can be recognised in the future, whether through the connection assessment or through direct recovery action,” it said.

Mulino also announced in August that self-managed super funds will contribute to special levies in future years, at an estimated cost of no more than $20 per fund, and that SMSF losses have accounted for more than 90 per cent of CSLR costs to date.

“While we appreciate the effort made through these proposals to reduce the allocation borne by financial advisers, levy allocation changes should be viewed as only one part of a broader response. 

“Changes to the allocation methodology alone will not resolve the sustainability challenges facing the CSLR. Lasting relief will require action to address the underlying drivers of CSLR claims and prevent costs entering the scheme in the first place.”