Higher returns but with no added risks – sounds like you have found the pot of gold at the end of the rainbow – but hang on a minute! Photo / 123rf
Q: I note that the new Depositor Compensation Scheme (DCS) begins in July. Interest.co.nz lists a number of non-bank deposit-takers on its saving page who are covered under this scheme.
Many have returns higher than banks (eg General Finance, 5.4% for nine months). In the past I would have avoided these like the plague – higher returns usually meaning higher risks. But are they now “safe” to use, given they will be covered under the DCS if they go bust?
A: Woohoo! We’ve found the pot of gold at the end of the rainbow: higher returns with no added risk!
But hang on a minute. Didn’t Nobel Prize-winning economist Milton Friedman say “There’s no such thing as a free lunch”? When you gain something in investing, you lose something else. (There’s one notable exception – if you diversify, you reduce risk without reducing average returns. But that’s another story.)
So why shouldn’t we all invest in non-bank deposits after July 1 – up to $100,000 per provider – given that if the finance company goes broke, we will be compensated under the DCS?
To use another common saying – which apparently dates way back to one of Aesop’s Fables – look before you leap!
The Reserve Bank has published a list of deposit takers that will offer protected deposits at tinyurl.com/NZDepositCompensation. But it points out: “Deposit-takers can offer a mixture of protected and unprotected deposits.”
From July 1, deposit-takers will have to keep a list of protected deposits on their website “and we recommend that people speak with their deposit-taker if they are unsure whether their deposits will be covered by the DCS”, the Reserve Bank (RBNZ) says.
There also are a couple of other issues:
“If a deposit-taker fails, depositors will be contacted by either the RBNZ or a third party (such as a receiver or liquidator on behalf of [the] RBNZ) with the steps they need to take to receive their DCS payment,” the Reserve Bank says.
“Depositors will need to set up a bank account at another deposit-taker if they don’t have one already. They will be provided with instructions on how to submit these account details to the RBNZ so their DCS payment can be made.
“[The] RBNZ will need time to process data that is received from the failed deposit-taker, to make sure all eligible depositors receive the correct amount they are entitled to, and to ensure compensation is being paid into the correct account.”
How long might it take before you got your money back?
“The RBNZ will work to process DCS payments as quickly as possible, but it could take some time, especially for more complex cases,” the Reserve Bank says. It adds that it will advise on likely timeframes in its communication on a payout.
When you emailed me, a week or so ago, you mentioned a finance company that was offering 5.8% on a nine-month term deposit. But when I checked whether that was still accurate, their rate had dropped to 5.1%.
Logic tells us that non-bank deposit-takers won’t have to offer such a big premium in their interest rates, for deposits of up to $100,000, once their customers are guaranteed to get their money back.
The rates will probably still tend to be higher than banks offer, because people are less familiar with the companies, and there’s the hassle factor mentioned above if they fail. But I predict the gap will lessen.
Mind you, banks may also pay somewhat lower interest. Their term deposits will be more attractive – relative to other investments – because of the DCS, so there will be less need to entice people with high rates.
Q: In light of the start of the Depositor Compensation Scheme (DCS) on July 1 giving $100,000 protection to investors in term deposits, an expansion of the protections around KiwiSaver and other managed funds in the event of the failure of a bank that manages such funds might be helpful to your readers.
Provided the fund is not directly invested in the same bank’s products – say, it invests in a diversified share portfolio – the fund should not be significantly impacted if the bank fails.
All that is needed is the appointment of some other fund manager – unless there is fraud or other criminal activity or, for example, inept management of fund member records, in play.
However, if the fund invests in the same bank’s term deposits, the fund will likely be severely affected. PIE fund term deposits in the same bank may well be a case in point, but I leave it with you to clarify or confirm that one.
A: The DCS protects “debt securities of eligible depositors”, the Reserve Bank says. These include everyday bank accounts and savings accounts, term deposits and the like.
It adds: “Some banks offer cash and term PIEs that invest only in debt of that bank, and many depositors will view this interchangeably with regular call or term deposit products” and they may also be covered.
“Deposits-takers will be required to have a list of protected products, which may include cash and term PIEs” from July 1, 12025, the Reserve Bank says. As mentioned above, if in doubt, ask your bank or other deposit-taker.
What about a bank’s KiwiSaver fund that invests only in that bank’s securities? I don’t think there is such a creature, but what if one was created?
“No KiwiSaver funds are intended to be a captive cash PIE or protected by the DCS,” the Reserve Bank says.
On the failure of a KiwiSaver provider, every provider has a supervisor, a separate company, that monitors what it does. I asked the Financial Markets Authority (FMA) several questions about this:
“Under the law, fund managers are required to notify the supervisor if they are, or are likely to become, insolvent,” the FMA says.
“The supervisor is responsible for monitoring the manager’s performance of its functions and obligations, as well as its financial position.
“In the event that the licensed fund manager becomes insolvent or is otherwise unable to continue operations, the supervisor has the power to appoint a temporary manager to ensure the continued management and operation of the fund until a permanent replacement is appointed.
“Importantly, investor assets are held separately in trust by an independent custodian (either the supervisor or a third-party custodian appointed by the supervisor, distinct from the manager) which provides an additional layer of protection.”
“The licensed fund manager has a general duty to act in the best interests of investors, along with a specific fiduciary duty to exercise care, diligence and skill in carrying out its responsibilities,” says the FMA.
“Managers are expected to maintain appropriate systems and controls to manage operational risks, including those arising from fraud and criminal activity. The supervisor oversees the design and effectiveness of these controls to help safeguard investor assets from such risks.
“So where a loss arises due to fraud linked to a failure by the manager to exercise reasonable care and diligence, the manager may be held liable and required to compensate affected members.”
There’s an exception to this, though. “If a loss results from a member’s own actions – such as sharing log-in credentials or falling victim to a scam – the manager cannot generally be held responsible and the outcome will depend on a case-by-case basis.”
“It is possible, but in our view unlikely,” the FMA says.
“KiwiSaver providers are obliged to act with care, diligence and skill and this includes managing known risks. Typically, this will involve professional indemnity insurance, strong capital positions, a parent company guarantee or other similar arrangements. Supervisors are responsible for monitoring these arrangements.”
Q: Recently, Australian superannuation funds have been hit by a cyber attack, and it makes me think about how secure our KiwiSaver retirement funds are in this digital world with artificial intelligence (AI) technology and deepfakes that could be so real.
In a worst-case situation and if our providers are being hacked, are our funds insured and will the provider return the money lost through a cyber attack?
A: KiwiSaver money is not insured. Still, while it’s possible you could lose your money this way, it’s unlikely, the FMA says.
“KiwiSaver providers are required to maintain robust business continuity planning and technology systems to mitigate risks such as cyber attacks,” it says, adding that this has been a standard license condition since July 1, 2024.
“Regulatory settings, supervision arrangements and insurance reduce risks to investors.”
So, there we have it. In all these scenarios, KiwiSaver members could lose money – although it’s unlikely. How does the FMA advise people to reduce this risk?
“The FMA encourages all members of KiwiSaver to remain engaged with their provider and financial adviser (if any) and to stay informed and exercise caution to protect themselves against scams and fraudulent activity.
“Many KiwiSaver providers provide useful information to raise investor awareness on safeguarding personal information and detecting fraud/scams. Good personal cyber security practices and vigilance are important complements to the broader regulatory protections in place.”
Footnote: I hope you and other readers are comforted – rather than alarmed – by all this. I would hate to see people staying out of KiwiSaver for fear of something highly unlikely happening. If you’re that much of a worrier, you probably shouldn’t be in a car, train or bus either. The risk of harm while commuting or travelling is almost certainly higher.
Q: I have just read the first Q&A in last week’s column, “Juggling finances”, and your response was quite negative, which I find surprising as most if not all the time you come across as quite positive in your responses.
At the end of the day, the things you pointed out – like the house falling down a cliff – never happened to the writer. If we all go about thinking like that then no one would ever take any risk on anything in life, let alone finance.
After coming back from spending a few years in Australia, I finally get why us Kiwis are so negative about things. Maybe it’s time you had a holiday.
A: Thanks for your concern about my welfare! I do try to be positive about most things. But I’m not keen on someone saying how well they have done with their investments if it might lead to others copying their tactics but not their success.
If positivity means encouraging people to take unnecessary risks they don’t really understand – such as trying to time markets – count me out.
As for the Aussies, I spent two years in Sydney a long time ago and enjoyed it. But they have their fair share of whingers. I’m happy to be back here.
PS: this column has turned out to be rather gloomy. Will try for brightness next week!
Q: I know it’s not ideal but I will soon need to withdraw most of my KiwiSaver balance. I am over 65 so this is possible and I have committed expenses. At this uncertain time, the current balance is fluctuating or falling. It has already fallen about $1000.
I don’t want to close the account as I hope to be able to add funds again in a few months. If I left say $500 in the account and it then fell again, will the account stay active until it recovers or I add more funds?
A: By the time you read this – a couple of weeks after you wrote to me – your balance may have recovered. More importantly, over the years you’ve probably done pretty well. Most KiwiSaver members have.
That aside, I agree that it’s better to keep your account open. KiwiSaver is a good place for retirement money. And even if you leave just a few dollars in there in the meantime, your balance shouldn’t go to zero unless all the fund’s investments fail, which is hard to imagine. So yes, the account should stay active.
* Mary Holm, ONZM, is a freelance journalist, a seminar presenter and a bestselling author on personal finance. She is a director of Financial Services Complaints Ltd (FSCL) and a former director of the Financial Markets Authority. Her opinions do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature and she is not responsible for any loss that any reader may suffer from following it. Send questions to mary@maryholm.com. Letters should not exceed 200 words. We won’t publish your name. Please provide a (preferably daytime) phone number. Unfortunately, Mary cannot answer all questions, correspond directly with readers, or give financial advice.
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