Reshaping workplace pensions for future generations – response to consultation

Background

The DWP consultation on reshaping workplace pensions for future generationsseeks views on the Government’s proposals for alternatives to the traditional DB and DC models of pension provision, in the form of “defined ambition” arrangements.

In this response:

• Defined ambition objectives and principles
• Flexible DB
  
• Providing greater certainty for members in the defined contribution world
• Collective defined contribution (CDC) schemes
• Enabling innovation – legislative approach

Defined ambition objectives and principles

We welcome the Government’s initiatives in seeking to ensure the existence of sustainable workplace pension arrangements. In particular, the proposed measures aimed at simplifying existing DB schemes will be appreciated by those employers which continue to make DB available.

Given the breadth of the proposals, and the fact that there are a number of concurrent consultations (including the DWP’s consultation on reclassifying DC benefits), we consider that the time allowed for responses has been too short.

Flexible DB

In our view, the proposed measures aimed at making DB pension schemes more manageable and affordable will be welcomed by those employers which still have active DB members.

Design 1: Ability to pay fluctuating benefits

The operation of a simplified, core DB benefit supplemented by a flexible top-up element represents a realistic balance between achieving certainty for members, whilst controlling costs for employers (the removal of compulsory indexation is likely to be particularly helpful here). We also particularly welcome the proposal for a light touch in terms of regulation of the top-up benefit.

In our view, those employers that still provide some form of DB benefit are likely to be interested in providing benefits in addition to a simplified flat-rate DB pension (question 5). However, there is a risk that future governments may see a need to reinstate regulatory controls over the flexible element of the benefit. Given experience over recent years in terms of the significant increase in the regulation of DB schemes, employers may hesitate to choose this option, if they consider that regulation of the flexible element of the benefit is likely to increase in future.

Decision making

The consultation asks what role is envisaged for pension scheme trustees in relation to discretionary payments (question 6). Questions of benefit design and the level of benefits to be paid are primarily a decision for the employer. A certain level of protection in relation to the operation of the employer’s discretion exists under case law, which dictates that employers cannot exercise their discretion capriciously. Where trustees are involved, there is similarly significant case law governing the exercise of their discretion. As such, we do not consider it to be necessary to introduce additional legislation on the exercise of discretions by employers or trustees.

Legislative requirements

As the consultation notes, it will be necessary to review a number of aspects of the existing legislation.

In relation to preservation, the adoption of separate periods of service would provide a simple structure.

Design 2: Automatic conversion to DC when member leaves employment

In principle, this would appear to be an attractive option for employers, as it reflects the current reality of individuals moving between employers on a number of occasions throughout their working lives. However, there are several issues that need to be addressed.

For example, in terms of valuing members’ benefits, the existing CETV basis is readily understood and applied by trustees. But thought needs to be given to the position where schemes are underfunded. Unlike the current position for statutory transfers, early leavers in this situation would not have the choice of retaining their benefits in the scheme or transferring them elsewhere. To reduce a member’s benefits because of underfunding could therefore be seen as unfairly penalising early leavers. By contrast, not to do so could potentially have a detrimental impact on the remaining members’ benefits.

Thought also needs to be given to the treatment of voluntary / involuntary early leavers, such as individuals who leave employment for reasons beyond their control (eg on redundancy). This is a particular risk for those closest to retirement, so protection for those within a certain period of the scheme’s pension age (for example, ten years) should be considered.

In addition, is it the Government’s intention to allow past accruals to be converted in this scenario? This is not directly addressed by the consultation.

Design 3: Ability to change scheme pension age

We consider that the principles set out in this section, of permitting schemes to alter pension age in accordance with changes in life expectancy, are sensible.

As with other elements of scheme design, we consider that the decision of whether to change scheme pension age is one for the employer, rather than the trustees (question 19). However, we would expect dialogue between the two parties ahead of any changes, as is currently the case in terms of the longevity assumptions used for scheme funding purposes. Involving trustees in the process could counteract the risk of employers selecting an unrealistic pension age.

Providing greater certainty for members in the defined contribution world

Should the Government introduce one or more forms of guarantee in DC arrangements, it will be necessary to clarify how such benefits are ultimately protected. For example, will protection lie with insurers under the Solvency II regime, or will these be pension benefits that are protected under the Insolvency Directive? This point is not addressed in the present consultation (nor in the DWP’s consultation on reclassifying DC benefits) and needs to be clarified.

Collective defined contribution (CDC) schemes

In relation to CDC, the question of formal approval for providers also needs to be addressed. Whilst insurance companies (backed by the FSCS) are likely to be attracted to this kind of arrangement, other pooled arrangements, such as master trusts, may also wish to provide CDC. Again it will need to be clarified to what extent such arrangements come within the Insolvency Directive or Solvency II, in terms of the financial protection afforded to members.

Enabling innovation – legislative approach

The DWP’s acknowledgement of the need for a statutory modification power to help schemes that would otherwise have difficulties introducing DA measures is helpful.

As noted above, we also welcome the proposals for light touch regulation in relation to the top-up element part of the proposals for flexible DB.

The introduction of new, separate definitions to cover DB and DA, which complement the DWP’s current work to implement the new definition of money purchase benefits arising from the decision of the Supreme Court in the Bridge trustees case, are sensible. Key to the success of the present proposals will be to ensure that each benefit type is clearly defined.

An important aspect of the new arrangements will be to help schemes transition their existing arrangements to DA going forwards, whichever option is chosen (by the DWP or employers). Guidance on the process would therefore be welcomed.