Introduction

Irrespective of the particular economic, social or environmental objectives of regulation, there is general acceptance by governments that regulation should be designed to meet its objectives effectively, with minimal cost to the community.¹ One component of the cost to the community is the recovery of regulatory costs.

Regulatory agencies are expected to have in place arrangements to provide assurance that they are charging the correct amount under cost recovery regimes, while industry and other customers want assurance that the fees and charges they are paying are fair and reflect only those costs incurred in the provision of the activity.

The Australian Government expects to collect $246.8 billion in revenue in 2007–08, of which an estimated $5.2 billion, or two per cent, will be from the sale of goods and services (including regulatory activities).²

In December 2002, the Australian Government introduced guidelines for reviewing agencies' cost recovery arrangements, with the aim of improving the transparency, consistency and accountability of cost recovery. The guidelines require agencies providing government goods and services (including regulation) to the private and other non-government sectors of the economy to set charges to recover all the costs of such products or services, where it is efficient to do so, in consultation with stakeholders.⁴

The guidelines also set out a better practice management framework to assist agencies to design and implement cost recovery arrangements. This enables all agencies, including regulatory agencies, to decide on the appropriateness of cost recovery for their activities, and the best approach to implementation. In this way, customers paying for government products and services would have greater confidence in the reasonableness of specific cost recovery arrangements.
Regulatory agencies are required to recover the costs of all activities involved in regulation. These include pre-market activities such as registrations and approvals, or issuing exclusive rights or privileges. They also include post-market activities which involve monitoring compliance, investigation and enforcement.

Cost recovery charges can take the form of:

• fees that are collected from individual customers for particular activities, for example, inspection, audit or application fees; and/or
• levies that are imposed across a group of customers, for example, annual registration or licence charges. In this case, specific legislation is required to establish a levy as it is equivalent to a tax.

The Government's guidelines require agencies to conduct a review of cost recovery arrangements at least once every five years. Following reviews, agencies document compliance with the guidelines in a Cost Recovery Impact Statement (CRIS) which is provided to the Department of Finance and Deregulation (Finance) and summarised in Portfolio Budget Statements (PBS).

Audit scope and objectives

The objective of the audit was to assess whether selected regulatory agencies have cost recovery procedures and practices which comply with the Government's guidelines. To address this objective, the audit assessed the management of cost recovery against the following criteria:

• regulatory agencies have clear and consistent cost recovery procedures to identify their activities and costs, and set fees and levies;
• regulatory agencies have effectively implemented their cost recovery procedures;
• regulatory agencies regularly monitor and review their cost recovery activities; and
• regulatory agencies regularly report on their cost recovery.

The audit assessed the selected agencies' procedures and practices against the Government's cost recovery guidelines. In the main, the guidelines are principles-based rather than prescriptive guidance to agencies on how to implement cost recovery. This allows agencies significant flexibility to tailor cost recovery approaches to the industry sectors regulated. Therefore, the audit assessed whether regulatory agencies' interpretation and application of the Government's guidelines was consistent with the cost recovery principles.

The audit was conducted in the following agencies:

• IP Australia;
• the Insolvency and Trustee Service Australia (ITSA); and
• the National Industrial Chemicals Notification and Assessment Scheme (NICNAS).

These three agencies will collect approximately $166 million from cost recovery measures in 2007–08. Two of these—IP Australia and NICNAS—initially reviewed their cost recovery under the Government policy in 2004–05. Both of these agencies operate on a full cost recovery basis, obtaining most of their revenue directly through the collection of fees and levies. ITSA, which is Budget funded,⁵ conducted its first cost recovery review over 2003–04 and 2004–05 and concluded it in February 2005, prior to introducing full cost recovery from July 2006.

Conclusion

Since introduction, the guidelines have assisted agencies in determining the best approach to cost recovery for the types of activities undertaken and enabled them to improve their cost recovery. In particular, the requirement to review cost recovery at least every five years and prepare a CRIS, prompts agencies to regularly focus on their cost recovery arrangements.

Each of the regulatory agencies selected for audit had in recent years conducted a cost recovery review and prepared a CRIS which Finance had accepted as meeting requirements. This meant that, prior to the audit, all had the opportunity to assess their approach to cost recovery management against the guidelines and to make any needed improvements.

Overall, the ANAO concluded that the audited regulatory agencies had cost recovery procedures and practices which complied with the Government's guidelines. The agencies had implemented the procedures described in their CRISs, including identifying cost recovery activities, determining the costs of these activities, and setting appropriate fees and levies in consultation with customers and stakeholders. They regularly monitored, reviewed and reported on their cost recovery arrangements. However, although the audited agencies incorporated sound practices in cost recovery management, there were opportunities for improvement.

The audited agencies' internal cost recovery policies and procedures were contained in a range of documents. This was likely to create inefficiencies in agency management of cost recovery, and it made access by customers and stakeholders difficult. The ANAO recommends that, over time, agencies should consolidate their cost recovery policy and procedures into a single reference document.

All the audited agencies used activity based or similar costing methodologies to allocate their direct, indirect and capital costs to their activities. However, the agencies needed to improve the documentation which outlined their methodologies to ensure that it was up to date, accessible and easily understood by staff.

Two of the audited agencies had identified the business risks associated with their cost recovery function, however, only one had determined appropriate risk treatment strategies. The other agency had not identified and assessed its cost recovery risks. Two of the three audited agencies took account of the risks associated with financial sustainability by budgeting for an operational reserve. Nevertheless, the ANAO considered that agencies would benefit from documenting their cost recovery risks, and proposing risk reduction strategies, in their risk management plans at the organisational or divisional level.

The Government's cost recovery guidelines require agencies to separately identify all cost recovery revenues in notes to financial statements. The ANAO considers that, consistent with the guidelines, agencies should report in their financial statements the revenues collected through the various fees and levies they charge for regulatory activities. This would improve the visibility of, and accountability for, cost recovery activities.

Key findings by chapter

Cost recovery arrangements (Chapter 2)

The audited agencies had appropriate legislation which provided the authority to impose the fees and levies charged for recovering the costs of their activities. This authority was set out in Acts, regulations and/or determinations. During cost recovery reviews, two agencies had sought independent legal advice regarding their authority to impose particular charges. On each occasion, the legal advice received by agencies confirmed the legality of their arrangements.

All of the audited agencies had internal cost recovery policies and procedures which, on the whole, complied with the Government's guidelines. However, these were contained in a range of documents, such as standard operating procedures, minutes of meetings, consultancy reports and CRISs, which made them difficult for staff, customers and stakeholders to access. The ANAO recommends that, over time, agencies should consolidate their cost recovery policy and procedures into a single reference document. This might reasonably be done before, or in conjunction with, the next cost recovery review.

The availability of such a document would significantly assist the agency in undertaking cost recovery activities, and inform customers and stakeholders about how the agency applies the Government's cost recovery guidelines. Agency benefits would include staff having a better understanding of the agency's fee setting structures and approaches, more efficient fee reviews and CRIS development, and the ability to apply cost recovery consistently during periods of high staff turnover. Benefits to customers and stakeholders would include a more co-ordinated agency policy response to any cost recovery concerns, a reduction in the time taken to respond to their concerns, and a better understanding of the agency's fee setting structures and approaches.

The audit found that one agency had a comprehensive approach to identifying, assessing and treating its cost recovery risks. Another agency had a risk management plan but had not included risk reduction strategies for its cost recovery risks. The third agency did not have a risk management plan. However, the latter two agencies had internal policies to budget for an annual operational reserve. This suggests that, while these agencies did not always have written risk reduction strategies, the risks associated with cost recovery were taken into account in financial planning.

The ANAO suggests that agencies should consider the business risks related to cost recovery when developing organisational or divisional risk management plans, including treatment strategies. Risk management treatments will depend on the significance of issues, the size of the agency and the extent to which its financial viability depends on cost recovery. Such an approach contributes to good governance and provides reasonable assurance to agencies and customers that agencies will achieve organisational objectives within a tolerable degree of risk.

All audited agencies had developed an activity based or similar costing methodology to determine the cost of providing each service delivered. However, internal documentation on how these costing systems assigned costs to activities was not always accessible, up-to-date and easily understood by staff. Providing a succinct and current explanation of the methodology used to assign costs to activities would assist staff in understanding the agency's approach to cost recovery and improve the consistency of its application.

The audited agencies had made decisions, consistent with the requirements of the Government's guidelines, on whether to use fees or levies to recover particular regulatory costs. Agencies used fees if costs could be directly linked to the delivery of a service, and the individual beneficiary of the service could be identified. Alternatively, levies are used where it was not possible to allocate costs to an individual beneficiary. The costs of some regulatory activities are therefore spread across all customers subject to the regulation.

Implementing cost recovery arrangements (Chapter 3)

The audited agencies employed methodologies for setting fees and levies which were consistent with the guidelines, and implemented costing methodologies in accordance with internal procedures. These methodologies involved quantifying direct, indirect and capital costs, allocating these costs to activities, and setting fees and levies to reflect these costs. The agencies allocated direct costs to activities based on average staffing levels, or the number of full-time staff employed in the areas delivering the activities. Indirect and capital costs were allocated to each activity based on the numbers of staff engaged in that particular activity, or on the basis of the share of direct costs devoted to that activity.

The level of cost recovery in the audited agencies was generally in line with the cost of providing the activity, with any variations attributable to fluctuations in activity levels. Audited agencies had systems to forecast activity levels, which included an analysis of historical records and, in some cases, the consideration of a variety of economic indicators which affected regulated industries. However, it is difficult to predict activity levels, and it takes time for agencies to make the necessary adjustments to fees and levies when there were variations in volumes. This resulted in short periods when fees and levies did not match costs.

The two audited agencies which relied on cost recovery revenue for operational funding had established an internal policy to budget for an operational reserve. This was to ensure the financial sustainability of operations, and lessen the risk associated with making calls on Government funding. This strategy was detailed in agency CRISs, which Finance approved.

Each agency had established industry consultative mechanisms which were used to provide information to customers and stakeholders on how it determined costs and set charges. Agencies' industry consultative mechanisms provided an opportunity for major customer groups and stakeholders to comment on costing methodologies, and processes for determining fees and levies, and whether agency charges reflected costs.

Two of the audited agencies conducted annual customer satisfaction or opinion surveys to gauge how customers and stakeholders viewed the quality of services. The other audited agency conducted surveys approximately every two years. Surveys provided agencies with an opportunity to ask customers and stakeholders about their understanding and acceptance for the agency's costing methodology and charge rates. While one agency included specific questions on its fee structures and rates in its survey, all provided an opportunity for respondents to make additional comments on any issue of concern. The ANAO suggested that agencies include direct questions on cost recovery in their surveys, as this was likely to elicit more detailed customer and stakeholder views of the agency's costing and charging methodology.

Reviewing and monitoring cost recovery (Chapter 4)

All audited agencies conducted reviews of their existing cost recovery arrangements in accordance with the Government's schedule, and produced a CRIS which summarised their cost recovery approach against the five-stage process suggested in the guidelines. Finance had accepted each agency's CRIS after certification by the agency's chief executive or secretary. The ANAO found that the agencies had implemented the cost recovery arrangements described in their CRISs.

In addition to the Government scheduled reviews of existing cost recovery arrangements, the audited agencies had conducted fee reviews and produced a CRIS when proposing new cost recovery arrangements, or when making material amendments to existing arrangements. This approach was consistent with the requirements of the guidelines.

Overall, the audited agencies had effective mechanisms to monitor and review their cost recovery arrangements. Each produced regular internal financial and management reports which generally showed cost recovery revenue against the agency's budget and expenses. The agencies used these reports to monitor the status of cost recovery targets and actual results, and to provide an updated profile on any issues leading up to fee reviews.

The audited agencies conducted reviews of their regulatory charges at least annually to determine whether fees and levies needed to be revised. The agencies had the capacity to amend the rates of fees and levies during these reviews. However, they weighed this against their obligation to provide some level of certainty and stability for their customers by not changing fee and levy rates too often.

The audited agencies consulted with customers and stakeholders during cost recovery reviews, and considered the comments received when proposing changes to regulatory charges. The result of this consultation included charges not being increased at the rate originally proposed by an agency, and a new fee not being introduced as a result of concerns expressed by the agency's customers and stakeholders. In one agency, staff were consulted on proposed changes to cost recovery arrangements in order to broaden their understanding of the impact on the agency.

Reporting to management and stakeholders on cost recovery (Chapter 5)

Overall, the ANAO considered that all audited agencies used the reporting mechanisms available to them to report on their cost recovery activities to management and stakeholders. A number of monthly or quarterly financial reports were available to the agency executive, to inform of the status of cost recovery targets and actual results. Chief Executives of the agencies provided similar reports, or summary information to meetings of their industry consultative committees.

Each of the three audited agencies published a summary of its CRIS in its PBS in the year that it completed the scheduled review, in accordance with the Government's guidelines. Each agency also included information on its cost recovery arrangements in annual reports, posted a summary of its CRIS on its website for the benefit of its customers and stakeholders, and reported on its cost recovery arrangements to customers through industry consultative committees.

The Government's cost recovery guidelines require agencies to separately identify all cost recovery revenues in notes to financial statements. This is intended to allow readers of financial statements to readily identify cost recovery revenue. Two of the audited agencies included the amount of revenue collected through the sale of goods and services in a note to their financial statements in their annual reports. The other agency identified total revenue from industry cost recovery in another section of the PBS.

Agency Comments

IP Australia

IP Australia welcomes the ANAO performance audit on Management of Cost Recovery and agrees with the recommendation. The report recognises IP Australia's ability to manage cost recovery processes, and provide improved service for customers and Government. IP Australia has been and is committed to continually improving the cost recovery arrangements ensuring efficiency and effectiveness in accordance with relevant legislation and Commonwealth policies.

Insolvency and Trustee Service Australia

ITSA welcomes independent scrutiny by the ANAO of its management of its cost recovery arrangements and agrees with the recommendation made.

The Department of Health and Ageing

The Department of Health and Ageing (DoHA) acknowledges the work of the ANAO and agrees with its recommendation. This recommendation will assist in improving governance procedures and practices at NICNAS, as part of the Department's ongoing commitment to continuous improvement. Actions to implement the recommendation are underway.

The Department of Finance and Deregulation

The Department of Finance and Deregulation (Finance) supports the report's recommendation. Finance agrees that the consolidation of cost recovery policy and procedures into a single document that is current, accessible and easily understood should serve as a means to enhance the transparency and integrity of the cost recovery information produced by FMA agencies and CAC bodies, thus providing further assurance of compliance with cost recovery policy.
Consistent with our responsibility for cost recovery policy, we intend to advise Chief Financial Officers of the report's recommendation and will subsequently incorporate these requirements in cost recovery guidelines which are scheduled to be reviewed in the second half of 2008.

Recommendations

The report made one recommendation aimed at increasing transparency for stakeholders and assisting agency staff to apply the Government's cost recovery guidelines. Each of the audited agencies and Finance agreed with the recommendation.

Footnotes

1 ANAO Better Practice Guide-Administering Regulation, ANAO, Canberra, 2007, Foreword, available at <www.anao.gov.au&gt;.

2 Australian Government, Budget Paper No. 1: Budget Strategy and Outlook 2007–08, Statement 5: Revenue, available at <www.finance.gov.au/budget/2007-08&gt;. Note: This excludes GST revenue.

3 Department of Finance and Administration, Australian Government Cost Recovery Guidelines July 2005, Financial Management Guidance No.4, Canberra, 2005, available from <www.finance.gov.au&gt;.

4 The policy covers all Financial Management and Accountability Act 1997 (FMA Act) agencies and some Commonwealth Authorities and Companies Act 1997 (CAC Act) bodies. These are Commonwealth authorities and wholly-owned Commonwealth companies that the responsible Minister has notified to apply the policy (under sections 28 or 43 of the CAC Act). This report will collectively refer to all such entities as ‘agencies'.

5 ITSA is funded by government appropriation with revenue collected from fees paid into the Consolidated Revenue Fund.