Better workplace pensions: putting savers’ interests first

Introduction

On 17 October 2014 the DWP published a Command Paper which includes its response to the consultation on minimum governance standards and certain questions on transparency, as well as a new consultation on draft regulations on governance and charges in occupational pension schemes providing DC benefits.

In this Alert:

• Key points
• Background
• Minimum governance standards
• Charge cap on default funds
• Regulatory approach
• Action

Key points

• Subject to certain limited exceptions, new quality standards will apply to all DC workplace pension schemes and to the DC elements of non DC schemes.
• Trustees will be required to prepare an annual statement to explain how the governance requirements have been met.
• Default arrangements in qualifying occupational pension schemes should be compliant with the charge cap from April 2015.
• Subject to Parliamentary approval, the majority of the proposed legislation will come into force from April 2015, alongside FCA rules in relation to workplace personal pension schemes.

Background

On 27 March 2014, the DWP issued a Command Paper proposing a range of measures aimed at improving the quality of workplace DC pension schemes (see our Alert for details). The measures were driven by the large numbers of members now joining automatic enrolment (AE) schemes and followed earlier consultations on minimum quality standards and pension charges (see our Alert for details) and the OFT market report. The new paper builds on the March Command Paper.

Minimum governance standards

The DWP will introduce statutory governance standards for most occupational pension schemes providing DC benefits. In particular, trustees will be required to:

• design default arrangements in members’ interests and keep them under regular review
• ensure that core financial transactions are processed promptly and accurately
• assess the value of costs and charges borne by scheme members
• have a chair of trustees.

In addition, occupational schemes will be prevented from requiring trustees to use particular service providers. This requirement will override any conflicting provisions of the scheme.

To ensure a level playing field across all workplace DC schemes, firms providing personal pension schemes will be required to set up and maintain Independent Governance Committees (IGCs), to perform a similar role to trustees. The FCA has already consulted on rules to introduce IGCs (see our Alert for details).

Chair’s annual statement

The chair of trustees will be responsible for signing off an annual statement on how the governance standards have been met. Among other matters, trustees will have to:

• report the level (or range) of charges and transaction costs in the default arrangement(s) and the range of costs and charges in other funds and their assessment of the extent to which the charges represent good value
• describe how the TKU requirements have been met throughout the year and give an explanation of how the trustees have, or have access to, all the competencies necessary to properly run the scheme.

The statement will be included in the scheme’s annual report.

Master trusts

Master trusts are defined as “multi-employer occupational schemes where at least some of the employers are non-associated”.

To address potential issues of independence of oversight, master trusts will be subject to additional requirements.  They will be required to have at least three trustees, the majority of whom (including the chair) must be independent of any firm which provides advisory, administration, investment, or other services to the master trust.

The recruitment of independent trustees will have to be “open and transparent”, with details of the process disclosed in the chair’s annual statement.

It will only be possible to appoint an independent trustee for up to five years at a time, subject to a maximum total term of ten years. Where an independent trustee serves for a ten year period they will not be eligible for reappointment until five years have elapsed.  This requirement will be modified for professional independent trustee firms so that only the named individual who is appointed, rather than the firm itself, will be subject to the overall ten year limit.  Once the regulations are in force, existing schemes will have three months to comply.

Exceptions

Certain specified schemes will not be covered by the new governance requirements. For example:

• schemes whose only DC benefits are AVCs
• executive pension schemes
• small self-administered schemes.

Charge cap on default funds

The aim of the 0.75% charge cap on default funds (the Cap) is to protect members who have not made an active choice about their pension investments. It will therefore apply to all members of an employer’s scheme who actively contribute to the default arrangement at any point on or after the later of 6 April 2015 and the date at which that scheme is first used for AE.  The Cap will continue to apply to these members for so long as they have funds invested.  However, it will not apply to members who have already ceased contributing when the Cap first applies, unless they make at least one contribution after that date.

What is the default arrangement?

It is not always easy to identify which investment option is a scheme’s default. For this reason, the default arrangement will cover:

• any arrangement into which workers’ contributions are directed without them having made an active choice
• an arrangement into which 80% of the employer’s workers are actively contributing on the later of, the date the Cap comes into force and the employer’s staging date (one-off assessment)
• an arrangement into which 80% of the employer’s workers who first contributed after the Cap came into force / the employer’s staging date are contributing (trustees need to monitor on an ongoing basis).

Scope of the Cap

Broadly, the Cap will apply to all member-borne deductions paid to the pension provider or another third party, excluding transaction costs (see our Pensions A-Z for details)

In addition, costs resulting from pension sharing or complying with court orders and those incurred as a result of scheme wind-up will not be subject to the Cap.

Exceptions

Certain specified schemes, such as small self-administered occupational pension schemes and executive pension schemes will be excluded from the Cap. In addition, it will not apply to DC schemes that contain third party promises (as defined in the Pension Schemes Bill, see our Alert for details).  This is because, schemes providing promises or guarantees that benefit members may be more complex and involve higher costs than arrangements without any such guarantee or promise.  However, such schemes will be subject to the future bans on active member discounts (AMDs), commission and consultancy charges.

Adjustment measure

If, despite the trustees’ best endeavours:

• between April and October 2015, trustees identify that they are unlikely to be able to meet the Cap; or
• unexpected events push costs to significantly higher levels and make compliance with the Cap difficult (the DWP intend this power to be used only in exceptional circumstances)

trustees may invoke the “adjustment measure”. This will be a prescribed process which, if the trustees conclude they will not be able to comply with the Cap, will allow them to either direct future contributions to a compliant fund within their scheme, or inform the employers that they must find an alternative qualifying scheme.

As many trustees will not have a unilateral power to close a scheme to future contributions in respect of some or all of the members, a statutory modification power will be provided to allow trustees to amend their scheme to implement the adjustment measure.

Regulatory approach

Information on compliance will be gathered via the scheme return. Trustees will have to:

• identify the chair of trustees
• confirm whether or not they have produced the chair’s statement on the governance standards
• confirm whether their scheme complies with the default fund charge cap.

When the measures come into force, trustees will also have to confirm compliance with the ban on AMDs, member-borne consultancy charges and commission payments.

Action

The regulations proposed by the Command Paper will not be finalised until early 2015. However, trustees and providers should be considering now what steps they need to take to ensure their schemes will comply with the changes on and from 6 April 2015.

Please click here for a timetable of the forthcoming consultations and changes.