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Defined contribution quagmire, or light at the end of the tunnel?

Defined contribution quagmire, or light at the end of the tunnel?

In the UK, the pace and variety of change in the defined contribution (DC) landscape makes finding one’s bearings difficult, let alone successfully charting a way through.

Back to basics
Key recent developments have been:

  • November 2013: Trust based DC schemes – The Pensions Regulator publishes its Code of Practice No 13 on the administration and governance of trust based occupational DC pension schemes, together with ancillary Regulatory Guidance to assist trustees;
  • March 2014: Trust and contract based DC schemes – the Treasury in its consultation document “Freedom and choice in pensions” propose to give members of trust and contract based DC schemes flexibility to access their entire pension pot from age 55 without the extra tax charges previously imposed. Subject to legislation, this change is to have effect from April 2015 and is likely substantially to reduce annuity purchases as well as profoundly affecting DC pensions and their governance. The Treasury’s consultation closed on 11 June 2014. In the Queen’s Speech on 4th June 2014, it was announced that a Pensions Tax Bill will be published containing the new DC flexibilities.
  • March 2014: Trust and contract based DC schemes – DWP’s consultation “Better Workplace Pensions” announces new minimum quality standards for all DC arrangements. There will also be capping of charges in default funds of qualifying DC schemes to 0.75% of funds under management from April 2015. Discounts on charges for active members compared to deferred members are to be prohibited for qualifying schemes from April 2016. The DWP’s consultation closed on 15 May 2014.The new minimum quality standards for all DC arrangements are of key importance. From April 2015 trustees of occupational pension schemes, and (new) independent governance committees of contract based schemes (Governance Committees) must act in members’ interests and will be responsible for:
    • overseeing the arrangements’ default investment strategy (in which most members are invested), and also overseeing standards of administration and transparency of charges; and
    • formally reporting annually to DC members whether specified minimum quality standards are being met.

    The composition and operation of Governance Committees will be set by rules to be issued by the Financial Conduct Authority (FCA). Governance Committees must have access to appropriate advisers independent of the pension provider. The DWP suggests the advisers should include an independent investment adviser and a legal adviser.

  • April 2014: The Pensions Regulator (TPR) revises its November 2013 Regulatory Guidance for trust based DC schemes, mainly to reflect the coming into force of new Disclosure Regulations made in Autumn 2013 (so not reflecting the March 2014 Budget changes). TPR issues a Statement on what the Treasury’s Consultation in March 2014 (referred above) means for trust based DC schemes.
  • Pensions Act 2014: Enables the Government to make regulations setting DC quality standards.
  • July 2014 onwards: (1) draft regulations on quality standards for trust based schemes to be published, and (2) FCA Consultation on Rules for Governance Committees for contract based schemes, including their appointment terms and independence.
  • Second half of 2014: TPR will revise its Code of Practice and Regulatory Materials for DC trust based schemes to reflect the new DC requirements.
  • April 2015: Subject to the necessary new legislation being completed in time, the new DC flexibilities and the new DC Governance Regulations are expected to come into force for all types of DC pensions.

Challenge ahead
Trustees and Governance Committees are going to have their work cut out to meet the challenges posed by these new developments.

Not only has the Government “upped” the level of DC governance expected very considerably but by allowing much more flexibility at retirement and undermining the annuity purchase regime, Government has at the same time moved the goal posts. Government’s strong interest in this area is driven by millions of additional workers being auto-enrolled and the Government’s proposed liberalisation of DC pots.

Practical example
Take an existing DC arrangement – whether trust or contract based – providing a default investment fund, and life styling 5 years from retirement based on the likelihood of a member buying an annuity at age 65. In the new world one can no longer automatically assume annuity purchase. This may radically affect scheme investment design. Trustees and Governance Committees will carefully need to consider this area.

The Government proposes to require trust and contract based members to receive, or at least be offered, “face to face” advice at the point of retirement, and possibly also subsequently every time the member’s circumstances significantly change during retirement. These are ambitious objectives and potentially burdensome. Responsibility is likely to rest with trustees and Governance Committees even though they will not (usually) be the ones actually providing the advice.

Too many official bodies involved?
Complexity is increased by the many different authorities involved. Historically, TPR has been responsible for trust based DC schemes, and the FCA (previously the FSA) for contract based DC schemes. The continuation of this division is recognised in yet another document (not listed above) namely the joint TPR and FCA statement “Guide to the regulation of workplace defined contribution pensions” issued in March 2014.

However, it is the FCA which will be consulting on quality standards in all workplace DC schemes and on the rules for Governance Committees. In parallel with this, the Treasury is resetting the DC tax landscape from April 2015. The division of labour – the Treasury and DWP on behalf of Government, and TPR and the FCA as regulatory authorities – does not encourage joined up thinking! TPR has overall responsibility for policing auto-enrolment and yet TPR’s governance remit extends only to trust based schemes. The expression “dog’s dinner” springs to mind!

Conclusion
Sound legal advice, allied with consulting and investment advice, will be needed to steer trustees and Governance Committees successfully through the quagmire to a safe landing place free from DC members complaints and/or claims, including from DB members in relation to their Additional Voluntary Contributions DC pots. The structure and running of independent Governance Committees will be a novel responsibility. We have experience of such committees, so please contact us if you have queries on this or other aspects of the new DC landscape.

Last but not least, in the Queen’s Speech the Government also announced a further pensions bill to be known as the Private Pensions Bill. This will contain the framework for a new type of pension scheme known as a “Defined Ambition Scheme”. This draws on features from DB and DC schemes and is intended to be an attractive new form of scheme. One wonders whether employers will in practice have any appetite for this!

By Clive Weber

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