THE REFORMS AT A GLANCE
- Legislation will come into force on 6 April 2015 that restricts charges and introduces a number of measures to improve governance standards in occupational pension schemes that provide money purchase benefits.
- All occupational pension schemes providing money purchase benefits (unless exempt) will be required to appoint a chair of trustees if they do not already have one. The chair will have to sign off an annual statement confirming that certain minimum governance standards have been met in relation to the scheme. The statement must be included in the scheme’s annual report.
- The other minimum governance standards include requirements to prepare a statement of investment principles in respect of the scheme’s default arrangement, to assess whether the scheme’s charges and transaction costs represent good value, and to process core financial transactions promptly and accurately.
- Charges in default arrangements in money purchase occupational pension schemes that are “qualifying schemes” for automatic enrolment purposes must be structured in one of three permitted ways and must not exceed an annual cap. Where charges are a percentage of funds under management, the cap is 0.75%. Different caps apply where one of the other two permitted charging structures is used.
- The definition of default arrangement includes not only traditional default arrangements to which member contributions are allocated if the member does not choose an investment option, but also, where members have made an investment choice, funds to which 80% of contributing members were contributing on 6 April 2015 or which start to receive contributions after 6 April 2015 to which 80% of the contributing members are contributing at any time after 6 April 2015.\Where members have been “mapped” (moved from one fund to another without consent), the receiving fund is likely to be a default arrangement, even where the member chose the original fund. The same issue may arise where a scheme offers “white-labelled” investment options.
- Active member discounts and consultancy charging will be banned in all money purchase qualifying schemes from April 2016. Commission charges may also be banned in such schemes from April 2016.
- Generally speaking, the governance standards and most of the charging restrictions will not apply to money purchase AVC arrangements in DB qualifying schemes. However, there are exceptions to this position and trustees of DB qualifying schemes which offer money purchase AVCs should take advice on their position.
- Similar governance standards and charging restrictions will be imposed on personal pension schemes.
- Action is needed before 6 April 2015 to ensure that contributions are not paid to “default arrangements” which have charges that exceed the new charging restrictions.
MINIMUM GOVERNANCE STANDARDS
Which schemes do the new governance standards apply to? All registered occupational pension schemes that provide money purchase benefits (unless they are exempt e.g. a life cover-only scheme) will be subject to the new governance standards. The standards will not generally apply to schemes that provide only AVCs, but will apply to AVC arrangements if the scheme provides money purchase benefits and allows members to pay AVCs.
What are the new governance standards? Schemes will be required to appoint a chair of trustees where one has not already been appointed. If the scheme’s trust deed gives the employer the power to appoint a chair and no chair has yet been appointed, the new statutory power will override the trust deed and change the balance of powers. Schemes will have three months from the later of 6 April 2015 and the date on which the scheme is established to appoint a chair. The chair will have to sign off an annual chair’s statement that will form part of the scheme’s annual report.
The other governance standards include requirements for trustees to:
- ensure core financial transactions (including the attribution of contributions to the relevant funds) are processed promptly and accurately;
- calculate the scheme’s charges and transaction costs and assess the extent to which they represent good value for members;
- prepare a statement of investment principles in respect of the scheme’s default arrangement covering various prescribed matters; and
- review certain prescribed aspects of the default arrangement at least every three years and revise the statement of investment principles as appropriate.
What must the chair’s statement cover? The statement must contain confirmations that the minimum governance standards have been complied with, including:
- the latest statement of investment principles prepared in respect of the default arrangement;
- a report on any review of the default arrangement;
- an explanation of how the trustees have ensured that core financial transactions are processed promptly and accurately;
- a report on costs and charges; and
- an explanation of how the trustees have complied with their trustee knowledge and understanding obligations.
The scheme’s annual report, including the chair’s statement, must be published within seven months of the end of the scheme year to which it relates. Where the scheme year ends before 5 April 2016, the chair’s statement for that scheme year need only cover the period after 6 April 2015. If this period is less than three months, no chair’s statement need be prepared, but the chair’s statement for the following year must also cover this period.
What about personal pension schemes? Similar minimum governance standards will be imposed for workplace personal pension schemes. From 6 April 2015, providers of workplace personal pension schemes will be required to maintain an Independent Governance Committee (“IGC”) and the Financial Conduct Authority (“FCA”) has published a policy statement containing the rules for IGCs.
This requirement also applies to stakeholder schemes that employers use for automatic enrolment purposes. IGCs will need to have at least five members and will represent the interests of scheme members. The FCA says that IGCs will assess and challenge providers on value for money in workplace personal pension schemes. Please note that different rules apply for master trusts.
Which schemes do the charging restrictions apply to? The charging restrictions apply to “default arrangements” to which contributions are paid from 6 April 2015 under money purchase occupational pension schemes which are “qualifying schemes” for automatic enrolment purposes. Before 6 April 2015, trustees will need to identify their default arrangements and determine whether they comply with the charging restrictions.
What is a default arrangement? A “default arrangement” is not limited to the fund which the trustees choose as a scheme’s default arrangement. It includes:
- traditional default arrangements, i.e. funds to which contributions are paid automatically unless the member chooses a different one; and
- even where members have chosen a fund, any fund:
- to which 80% of contributing members were contributing on 6 April 2015 (or the employer’s automatic enrolment staging date if later); or
- which starts to receive contributions after 6 April 2015 (or the employer’s staging date if later) to which 80% of the contributing members of a scheme are contributing at any time after 6 April 2015.
An arrangement is not a default arrangement if it provides for a promise to be obtained from a third party about the level of benefits, for example a guaranteed annuity rate. Additionally, the definition of default arrangement is not intended to apply to AVC funds in DB schemes unless the same funds are also made available to members of a money purchase scheme used by the same employer for automatic enrolment purposes.
What about mapping and white-labelling? Where members have been “mapped” (moved from one fund to another without consent), the receiving fund is likely to be a default arrangement within (a) above. This is the case even if the member chose the original fund and the trustees are moving him or her to a similar fund which they consider to be more suitable.
The same issue may arise where a scheme offers “white- labelled” investment options, in other words where members choose the generic type of fund they want their contributions to be invested in, but others can decide from time to time which particular fund is used behind that “wrapper”.
What are the permitted charge structures? The only permitted charge structures are:
- a percentage of funds under management;
- a combination of a percentage of funds under management plus a percentage of the value of contributions; or
- a combination of a percentage of funds under management plus a flat fee.
Charge structures can only be changed at the end of a 12 month “charges year”.
What are the restrictions on charges? The charging restrictions apply on a member by member basis.
Where charges are based on a percentage of funds under management the restriction is 0.75% annually of the value of the member’s rights under the default arrangement.
Where charges are based on a combination of a percentage of funds under management plus a percentage of the value of contributions, the restrictions are:
- 2.5% annually of value of contributions; and
- 0.4% – 0.6% annually of the value of funds under management, depending on the level of the charge on the value of contributions;
- Where charges are a combination of a percentage of funds under management plus a flat fee, the restrictions are:
- £25 annually for the flat fee; and
- 0.4% – 0.6% annually of the value of funds under management, depending on the level of the flat fee.
How should charges be assessed? The trustees can choose to assess whether the charging restrictions are breached “retrospectively”, i.e. by valuing funds at four or more reference points over a 12 month “charges year” and multiplying the average of the values by the relevant charging restrictions. The resulting figure is then compared to the charges paid.
Alternatively, the trustees can choose to assess whether the charging restrictions would be breached “prospectively”, i.e. by checking at the start of a 12 month “charges year” whether the proposed charging method would result in a breach of the charging restrictions using set assumptions. The assumptions include that there is no change in the value of the member’s funds, other than as a result of charges imposed on the member. An example given by the DWP of a compliant charge is a daily charge of 1/365% together with rebates of 1/12th of 0.251% at the end of each month.
What about additional services? The charging restrictions do not apply to additional services which a member agrees in writing are outside the cap. These might include additional guidance on retirement options. There is a list of core services for which an additional charge may not be made, including designing an investment strategy, investing contributions, and transfers into and out of a default arrangement.
What if charges don’t comply with the restrictions? If charges in a default arrangement do not comply with the restrictions, trustees will need to either:
- arrange for the charges to be adjusted by 6 April 2015 so that they do comply; or
- divert future contributions to an arrangement which does comply with the charging restrictions before 6 April 2015 unless members agree in writing to remain in the original arrangement by that date. Trustees should take investment advice about where future contributions should be paid and should check that their trust deed gives them power to make the changes.
What if trustees can’t comply? There are limited relaxations available where either trustees have used best endeavours to comply with the charging restrictions but are unable to do so, or where an event happens outside the control of the trustees which they cannot mitigate and which means they cannot comply with the restrictions. To use these relaxations trustees must:
- give notice to the scheme employer(s), members and the Pensions Regulator; and
- divert future contributions to a default arrangement whichmeetsthechargingrestrictions;or
- decline to accept any future contributions, unless the member chooses to continue with the existing default arrangement.
This action needs to be taken within six months of 6 April 2015 or, where charging restrictions are breached because of an event which is outside the trustees’ control, within six months of that event. The Regulator has published guidance on these relaxations.
The scope of these relaxations is limited, and the safest approach is to divert contributions to a default arrangement which meets the charging restrictions before 6 April 2015 if there is doubt about whether the charging restrictions are complied with. Members can be offered the option of electing to remain in the original fund at the same time.
The DWP has published guidance for trustees on the charging restrictions.
What about active member discounts? From 6 April 2016, trustees will not be allowed to impose higher charges on members who are not active members. This applies to all funds, not just default arrangements, in money purchase qualifying schemes.
What about consultancy and commission charges? From 6 April 2016, consultancy charges will be banned in all money purchase qualifying schemes (such charges are already banned in some qualifying schemes). In addition, the Government will consult later this year on legislation to ban commission charges in money purchase qualifying schemes from 6 April 2016.
Whose job is it to comply with the charging restrictions? It is the trustees’ responsibility to comply. The Pensions Regulator will have power to:
- issue trustees and third parties with a “compliance notice” requiring non-compliance with the charging restrictions to be remedied;
- issue penalty notices (fines) against trustees who fail to comply with the charging restrictions or with a compliance notice; and
- issue penalty notices against third parties who fail to comply with a compliance notice.
What about personal pension schemes? Similar charging restrictions will also be imposed for workplace personalpensionschemes.
PENSIONS REGULATOR DC CODE OF PRACTICE
The Regulator has said it will review its code of practice and regulatory guidance on the governance and administration of DC occupational pension schemes in light of the new charging restrictions and governance standards. In the meantime, the code and guidance will continue to apply to the extent that they do not conflict with the new statutory requirements.
The Regulator has published a guide for trustees to the new governance standards and charging restrictions.
WHAT SHOULD TRUSTEES BE DOING?
All DC schemes: Trustees should consider what arrangements need to be put in place to ensure compliance with the minimum governance standards. Trustees may need to take professional advice in this respect. Trustees should also appoint a chair of trustees if one has not already been appointed.
Within seven months of the end of the scheme year, trustees should prepare the chair’s governance statement for inclusion in the scheme’s next annual report and should put in place arrangements to enable the chair to sign off the statement. Trustees may want to take professional advice in relation to the various confirmations they will be required to make.
DC qualifying schemes: Trustees should identify any default arrangements in the scheme. They should consider in particular:
- whether any members have been “mapped” into a fund; and
- the status of any white-labelled investment options.
Trustees should then determine whether any default arrangements comply with the restrictions as to charge levels and structures. If a default arrangement does not comply with the restrictions, trustees should either:
- arrange for the charges to be adjusted so that they do comply; or
- divert future contributions to an arrangement which does comply unless members agree in writing to remain in the original arrangement.
By April 2016, trustees should also ensure that no funds offer active member discounts or impose consultancy charges.
DB qualifying schemes: Trustees should consider whether any AVC arrangements in the scheme will be subject to the governance and/or charging measures.