DWP consultation on Extending Opportunities for Collective Defined Contribution Pension Schemes

Background

The DWP has issued a consultation on Extending Opportunities for Collective Defined Contribution Pension Schemes.

In this response

• Responses to specific consultation questions and related comments

Responses to specific consultation questions and related comments

We welcome the opportunity to respond to this consultation. In addition to answering specific consultation questions which are pertinent to our practice, or which we believe could give rise to difficulties in practice for our clients, we have provided some initial general comments.

General comments

Approach to our responses

The CDC regime for single and connected employers is still at a very early stage, only coming into force in August 2022.  We understand that there is widespread interest in expanding the regime to non-connected multi-employer schemes and agree with the DWP’s approach of seeking input from the industry before developing firm proposals for what this regime will look like.  However, this makes it difficult to give meaningful feedback on changes that may be required to specific legislative provisions.  In our view, it would be more beneficial to look at the detail of the legislation once the appropriate policy decisions have been made and we understand what the proposed new regime will look like. We would, of course, welcome a further opportunity to feedback on any proposed legislative changes once the policy proposals are clearly understood.

Given the above, we have given our high level views in our responses, where relevant and appropriate, but haven’t commented on the detail of the legislation itself at this stage.

Use existing regimes where possible

We agree with the DWP’s proposals to use the existing CDC regime where appropriate, and then drawing on the DC Master Trust regime as well.  Given that the industry is familiar with the DC Master Trust regime, we suggest that key concepts and legislation in relation to that regime are used wherever possible, rather than introducing new concepts / requirements.

It will be important to consider whether there will be any scope of any overlap of the CDC regime and the DC Master Trust regime, for example, if a DC Master Trust sets up a new CDC section.  In such cases, would   the scheme fall within both regimes or would the provider have to set up a separate CDC scheme?  If a scheme could fall within both regimes, thought would be needed as to whether one regime takes priority over the other, particularly where there are any differences, and legislation should be drafted in a way that ensures the position is clear from the outset.

Trustee duties

As any non-connected multi-employer CDC scheme will be an occupational trust-based pension scheme, any proposed designs will need to be consistent with the overriding duties of trustees, including to act impartially between members and treating members fairly.  This will be of particular importance when considering how much flexibility to allow within the same section of a scheme, eg offering different accrual rates, and how that would work in practice if the trustee were to have any discretions / powers in respect of that flexibility.

Responses to specific questions

Whole-life CDC schemes

Question 1: Do you agree with the key principles we have identified as necessary for the new types of CDC schemes and in particular whole-life multi-employer CDC models? If not, please set out why.

Yes, we agree with the key principles identified in paragraph 17 of the consultation.  However, we think that the principle of “any adjustments made to benefits will be made without variation across the membership” should apply to the membership of a section, rather than to the scheme as a whole.

Given that the new regime would be opened up to the commercial sector, we would also suggest adding a new principle ensuring members’ interests are protected (or at least along the lines of the FCA principle of having “due regard” to their interests).

Question 2: Do you agree with our thoughts on what requirements might need amending to accommodate these new CDC designs? What new triggers for sectionalisation other than a change to the actuarial plan do you envisage might be appropriate in these new schemes?

Our understanding from the consultation is that you want to change who may establish CDC schemes (paragraphs 20 to 24) to accommodate multi-employer schemes where the participating employers are not “connected”.  And you also want to enable single or connected employers to use the “new designs” if they prefer them.  We agree with these proposals.

It seems that the DWP are still at an early stage in working out what these “new designs” will look like, including the triggers for sectionalisation, as the consultation explains that the DWP is reviewing the “circumstances where it is appropriate to sectionalise a single or connected employer CDC scheme”.

In terms of whether to allow greater design flexibilities, ie different rates of accrual and contributions, without sectionalising the scheme, we think further work is needed to ensure this can be done in a way that:

• is consistent with the trustees’ overriding duty of acting impartially between members and, more generally, to exercise their discretionary powers in members’ interests, and
• avoids any risk of potential cross-subsidies between non-connected employers.

However, if actuaries are confident that the flexibilities can be implemented in a single section and monitored to ensure trustees can comply with their overriding duties, and that the design will be “fair” for members and participating employers, then this process should be built into the legislation.  It would also be worth considering whether different approaches should be taken in respect of commercial CDC providers and non-for-profit industry wide schemes.  In the latter, the makeup of the workforce, union involvement and similar business sectors may make it more appropriate to offer flexibilities in a non-sectionalised scheme.

Question 3: Should the definition of “operates” at section 7(5) of the 2021 Act be amended for whole-life multi-employer CDC schemes? If you agree, please set out how.

We agree that it would be reasonable for the set-up and authorisation costs to be met by the provider if they intend to profit from the launch.  We suggest using the drafting in section 3(5)(a) of the Pension Schemes Act 2017 (“PSA17”)[1], for consistency with the DC Master Trust regime.

For not-for-profit industry wide schemes, we would be concerned that they would struggle to raise the funds to set up a CDC scheme without any input from the employers but will defer to those who are closer to this area on this point.

We agree with the proposal to prohibit pre-agreements between a provider and employer before a scheme is authorised.  We agree with using the existing prohibition from the DC Master Trust regime (in section 3(5)(b) of the PSA17) and think it would be helpful to keep concepts and definitions broadly the same across the new CDC regime, the existing CDC regime and the DC Master Trust regime, wherever possible to do so.

Question 4: How might legislation capture persons performing the functions listed at paragraph 39 in commercial and sectorial schemes so that they are within scope of the fit and proper persons test? Are there other persons that should be brought within scope of the fit and proper persons test for these new schemes?

We suggest using the existing fit and proper persons requirement for the current CDC scheme (as set out in section 11 of the Pension Schemes Act 2017 (“PSA21”)[2]), plus the definitions of “scheme strategist” and “scheme funder” as defined in section 39 of the PSA17[3], along with those marketing and promoting CDC schemes (see question 5 below).

As to whether other persons should be brought within scope, we suggest that is considered as the details of the new regime become clearer.

Question 5: Do you agree that those marketing and promoting CDC schemes should be within scope of the fit and proper persons test where certain conditions apply, and if those conditions should be similar to those in Master Trust schemes?

Yes, we agree that they should be in scope and that the conditions used in the DC Master Trust regime are applied.

Question 6: Are any changes or additions needed to Schedule 1 of the 2022 Regulations in respect of matters to be taken into account by TPR, as part of the fit and proper test to reflect the new roles envisaged to exist in sectorial and commercial schemes?

If the regime is going to include a “scheme strategist” then we would suggest expanding the list to cover the “scheme strategist” matters in the DC Master Trust regime (set out in paragraph 3 of schedule 1 to the Occupational Pension Schemes (Master Trusts) Regulations 2018), ie:

• a person’s relevant experience and professional competence, in assessing whether the person is fit and proper to act in the capacity of a scheme strategist, and
• the collective expertise and experience of persons acting together in the capacity of a scheme strategist, in assessing whether they are fit and proper to act in that capacity.

Extra matters may need to be included to ensure that the scheme strategist and scheme funder understand the CDC environment, given how different it is from “traditional” DC schemes.

Question 7: Are the current scheme design requirements including the tests still appropriate for assessing soundness in the new whole-life multi-employer schemes? Are there any additional soundness considerations or tests needed in light of the new designs?

We expect that the scheme design requirements will need to be updated to reflect the new regime.  For example, it will be difficult for these schemes to accurately predict the expected number of active members they will have for the gateway tests in regulation 11, particularly for those operating commercially.  Other changes will need to be considered once the proposals have been set out in more detail.

Question 8: If a scheme funder equivalent is introduced for the new whole-life multi-employer CDC schemes including Master Trusts, should similar scheme funder requirements to those in the DC Master Trusts regime apply? Are there any changes needed to ensure there is a clear focal point for TPR’s scrutiny and liability for meeting the relevant costs?

As mentioned above, we agree that, where appropriate, requirements here should follow those in the DC Master Trust regime, so any scheme funder requirements from that regime should apply to any scheme funder in the new CDC regime.

Question 9: Should business plan requirements, similar to those for Master Trusts, be introduced for commercial and sectorial CDC whole-life multi-employer schemes? What, if anything, should change? Who should be responsible for preparing the business plan?

Yes, we think business plan requirements should be introduced.  However, we feel it is too early to say what should be changed until we have a better understanding of what the new regime will look like.

Question 10: Do you agree that the existing requirements should apply to new whole-life multi-employer schemes and are additional requirements needed to help ensure that communications used in promoting and marketing the scheme are not misleading? How might Schedule 4 of the 2022 Regulations be amended to achieve this?

Yes, the current requirements on communications should apply.  As the scheme will not be established by a member’s employer, meaning the employer may be more removed from the communications process, we suggest expanding the requirement along the lines of the FCA principle of communicating “in a way which is clear, fair and not misleading”.

Question 11: Are any changes or additions needed to the requirements in Schedule 5 of the 2022 Regulations to reflect the new designs and relationships anticipated in the new whole-life multi-employer schemes?

We would expect the current requirements to apply to non-connected multi-employer CDC schemes.  However, we would expect other changes may be needed, eg to deal with the practicalities of the scheme working with several non-connected employers.

Question 12: Do you agree that it is reasonable for the existing requirements in regulations 15 and 16 of the 2022 Regulations to apply to the new whole-life multi-employer CDC schemes, and that the continuity strategy should include an aspiration to operate the scheme as a closed scheme?

We agree that using the existing requirements for a continuity strategy for a CDC scheme seems a sensible approach.  We would expect those requirements to apply to non-connected multi-employer schemes unless there was a good reason to depart from them.

We agree that the continuity strategy should include an aspiration to operate the scheme as a closed scheme for the reasons set out in paragraphs 72 and 73.  However, we would suggest that the option to operate as a closed scheme is stronger than just an “aspiration”, where it is in the members’ interests for it to continue as a closed scheme.

Where a scheme is a sectionalised scheme, we would expect the continuity strategy to clearly set out the strategy in respect of each section of the scheme (as different approaches may be needed depending on the structure of each section).

Question 13: Do you agree that most of the existing requirements can read across to the new whole-life multi-employer schemes? What changes including the one proposed above do you think should be made to the existing requirements and why?

As this question comes at the end of chapter 7 “valuations and adjustments”, we assume it is referring to the existing requirements in regulations 17 to 21, as discussed in that chapter, and we have approached this question accordingly.

We agree with your approach in paragraph 81 that CDC schemes must operate in a way that avoids bias in favour of any group or cohort of members.  That principle should be at the heart of any changes to the current requirements.

Further changes may be needed to reflect any scheme design proposals, eg if schemes would be able to have different accrual rates in the same section (see our response to Question 2 above regarding our concerns with this).

Question 14: Do you think that the list of events in regulation 23 of the 2022 Regulations needs amending for the new whole-life multi-employer CDC schemes? If so, why? Are there new events that should be added or current events that should be removed?

We agree that the list in regulation 23 might need to be expanded to cover any significant events that are particular to non-connected multi-employer schemes, including to reflect the concept of scheme funder and scheme strategist if they are introduced.

Question 15: Do you agree that the list of triggering events that apply to single or connected employer CDC schemes needs some revision to accommodate whole-life multi-employer CDC schemes? Are there new events that should be added or current events that should be removed?

It makes sense to start with the current list of triggering events but there will need to be some revisions.  For example, it would not make sense for the insolvency of an employer to be a trigger event, unless it is the only employer in the section in question.  However, if the concept of a scheme funder was introduced, then its insolvency (or where it becomes unlikely that it would continue as a going concern) should be added as a trigger event.

Question 16: Is a similar approach to the wind up commencement time (and the cessation of contributions/accruals) appropriate in respect of the new whole-life multi-employer schemes? If not, why not? Given AE obligations, how might participating employers be provided with sufficient opportunity to make alternative arrangements, before contributions are prohibited in the whole-life multi-employer CDC scheme being wound up, whilst managing risks to members?

Taking a similar approach in respect of winding up commencement times seems sensible.

In respect of automatic enrolment (“AE”) obligations, given the time it can take to make alternative arrangements with a new provider it would be helpful to have an automated alternative arrangement with the same provider that can be “switched on” very quickly if necessary to provide continued coverage in the short term so that members are not disadvantaged.

One option might be that the scheme is required to establish a separate pure DC section (that is compliant with AE requirements) when the scheme is first set up and, in the event of the winding up of the CDC section, employer and member contributions are diverted to that DC section. The legislation could then require the CDC provider to transfer the DC funds to the employer’s new chosen AE provider once they have had the opportunity to make alternative arrangements.

Question 17: Are the current default and alternative discharge options sufficient for the new whole-life multi-employer CDC schemes?

Yes, but we agree that it is worth the DWP checking this point, as suggested in paragraph 107.

Question 18: Do you agree that the existing framework for the wind up of a CDC scheme can read across to the new whole-life multi-employer schemes? What changes, other than the ones mentioned above, do you consider should be made for these new schemes?

Yes, however, we suggest the legislation applies on a section-by-section basis, so that it would be possible to wind up one section but keep other ones in operation, where appropriate.

Question 19: Do you agree that the existing requirements, outlined in Chapter 10, which apply to single or connected employer schemes can be read across to the new whole-life multi-employer CDC schemes, other than where a modification has been highlighted?

Yes.

Decumulation-only CDC schemes

Question 20: Who would be responsible for meeting the costs of establishing the arrangement and the short-medium term operating costs?

If these are commercial arrangements, then we would expect the provider to provide the initial funding for setting up these schemes.  It should not fall on members.  It will be important to understand if this approach would deter providers from setting up such schemes, as this may mean decumulation-only CDC schemes are not in fact commercially viable.

Question 21: How could such arrangements establish scale and what evidence is there to support this? In addition, until such schemes achieve and maintain scale do commercial providers envisage providing the funding needed to smooth volatility and deliver the aspired to pension benefits? How would the potential issue of small pots be addressed?

We think these schemes will need a certain level of scale at the outset and on an ongoing basis to be viable, so it is vital that this is explored and understood.

Question 22: What mechanism should be used to determine the price at which people might buy into a decumulation only CDC arrangement and what can be done to ensure individuals are treated fairly? In addition, should mortality underwriting be a feature of these arrangements, and how would this best be done?

We expect potential providers to input here but agree that these issues should be explored in detail at an early stage.

Question 23: What steps can be taken to ensure communications to members help them understand how these new arrangements will work and how can consistent standards be achieved in the way commercial arrangements market their products to prevent over-promising?

Good communication will be essential to ensure members understand these arrangements.  However, we think that the areas discussed in questions 21 and 22 need to be fully investigated and understood before communications are considered in any detail.

Question 24: What other changes in addition to those set out in this document, do you think need to be made to ensure the effective and fair operation of decumulation only CDC arrangements?

As above, we think that the areas discussed in questions 21 and 22 need to be fully investigated and considered before the detail of any decumulation-only regime is considered.  Given that decumulation-only schemes are a very different offering to whole-life CDC schemes, we expect that material changes will be needed to the existing regime to appropriately capture decumulation-only CDC schemes.

[1] Section 3(5) of the PSA17 states:

 “(5) For the purposes of this Part, a person “operates” a Master Trust scheme if the person—

(a) accepts money from members or employers (or prospective members or employers), in respect of fees, charges, contributions or otherwise, in relation to the scheme, or

(b) enters into an agreement with an employer that relates to the provision of pension savings for employees or other workers,

and references to a scheme that is “operating” or “in operation” are to be construed accordingly.”

[2] Section 11(2) sets out the following as having to be fit and proper persons:

• a person who establishes the scheme;
• a trustee;
• a person who (alone or with others) has power to appoint or remove a trustee;
• a person who (alone or with others) has power to vary the provisions of the scheme;
• a person acting in a capacity specified in regulations made by the Secretary of State.

[3] Under section 39 of the PSA17:

““scheme funder” , in relation to a Master Trust scheme, means a person who—

• (a) is liable to provide funds to or in respect of the scheme in circumstances where administration charges received from or in respect of members are not sufficient to cover the costs of establishing or running the scheme, or
• (b) is entitled to receive the profits of the scheme in circumstances where those charges exceed those costs

…

“scheme strategist” , in relation to a Master Trust scheme, means a person who is responsible for making business decisions relating to the commercial activities of the scheme”