By Alison O’Brien, Technical Services at Aviva
The introduction of automatic enrolment is predicted to further significantly increase the number of defined contribution (DC) workplace pension schemes. The regulatory spotlight therefore seems to be shining brightly on these schemes and the expectations on trustees, employers and providers alike are increasing.
For some time the Pensions Regulator (TPR) has expressed interest in the standard of governance of DCpension schemes and the potential need for improvement in this area. This will be exacerbated with the start of automatic enrolment and the increasing number of people joining this type of arrangement.
Following on from their industry discussion paper ‘Enabling good member outcomes in work-based pensions’ which was published in January this year, TPR have now published a statement clarifying the behaviours they expect DC trustees to demonstrate. The principles and intention behind this are well meaning and aimed at providing good outcomes for members but it is essential that a realistic and proportionate approach is taken in prescribing any further requirements or regulation. Whilst it is necessary to have good governance over schemes it should be remembered that the very nature of a DC scheme means there is an inherent risk and the level of benefits is not guaranteed.
In their statement, TPR have stated that ‘Excessive costs and charges can significantly reduce a member’s fund and trustees must demonstrate they have assessed and concluded that the overall charging structure offers members value for money’. Trustees clearly need to understand what the charges are on their scheme but it is important that they don’t look at charges in isolation. The focus should be on whethera product provides value for money and meets the needs of members. Consideration should be given to the package as a whole taking account of other aspects of the product such as guarantees and investment choice and performance. A scheme with a higher charge but good investment performance may produce a better outcome for members than a scheme with very low charges but moderate investment performance.
However, the Government seems to be very open to the idea of capping pension charges and has recently extended their power to cap charges to explicitly include deferred scheme members. Careful consideration should be given to applying this power as there is a danger this could restrict the features and choices available on products thereby stifling product innovation and the ability to provide products that really meet the needs of the members. Purely reducing charges does not automatically create a better outcome for members.
In addition, TPR have voiced concern over active member discounts (AMD).They seem to have taken a blanket approach on this but we believe there needs to be a more balanced discussion around this subject to fully look at the reasons behind AMDsincluding the desire from employers to find ways to attract new members to schemes by offering a favourable pricing structure.
AMDs can provide choice and benefits to employers and employees. Charges are based on a number of factors which normally includes the level of contributions and the turnover of members. A scheme with a high staff turnover will be more costly to run than one that is more stable. By being part of a group scheme employees can benefit through economies of scale. If they leave that group because they have left employment they no longer benefit from the same economies of scale. This does not, however, mean they are not getting value for money. A deferred member in a scheme that applies AMD may still get better value when compared to a policy they could have taken out individually.
The regulatory spotlight is not only focussed on the accumulation phase of DC retirement provision. Those members that have built up a fund under a DC scheme will eventually reach retirement when they will need to make an informed decision on how they wish to take their benefits. Over the last few years there has been an increased focus on encouraging members to shop around for the best deal through the Open Market Option. Although an increasing number of people are taking out annuities with someone other than their current provider, there is still a significant proportion that do not shop around. The latest ABI initiative announced in September is intended to promote the open market option further. They are looking to introduce a compulsory code of practice for insurers. This will result in the annuity application form being removed from communications sent to members at retirement on the grounds that where an application is included individuals may be more inclined to complete this rather than explore the Open Market Option. Clearly members should look for the best deal they can achieve with their money but they must also be given sufficient information about any benefits such as annuity guarantees that they may be giving up by moving away from their existing scheme. It is essential that they have enough detail delivered in a clear and concise manner to enable them to make an informed decision.
The membership of DC schemes is clearly set to increase in the future and I’m sure that we would all agree that these schemes will need to be well governed and the members protected. However, we believe it is important to keep in mind that the increasing amount of regulation brings greater burden and cost on all parties involved and therefore must be proportionate to the benefit it is trying to achieve.
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