After almost two years of negotiation, the revised European Union Directive on the Activities and Supervision of Institutions for Occupational Retirement Provision (IORP II) comes into effect today.
Member States will now have two years to incorporate it into national law.
But what is IORP II? How will it impact on occupational pension provision in the UK? And what about the elephant in room - Brexit?
IORP I came into effect in 2003, and lays down rules for activities carried out by IORPs (which, in the UK, are broadly employer-funded occupational pension schemes).
Some of the UK's most important pensions legislation was introduced as a result of IORP, including:
- the requirement for a scheme to carry out a valuation to prudently calculate its 'technical provisions', and for underfunded schemes to put in place a recovery plan;
- the requirement that a scheme is 'effectively run by persons of good repute who must themselves have appropriate professional qualifications and experience or employ advisers with appropriate professional qualifications and experience';
- minimum disclosure requirements for information to be provided to members; and
- powers for the Pensions Regulator (the Regulator) to supervise and monitor occupational pension schemes.
In March 2014, the European Commission published a proposal for a revised IORP, with the aims of:
- encouraging employer-sponsored retirement provision in the EU;
- promoting the number of cross-border schemes;
- ensuring consistency in the implementation of certain original IORP provisions; and
- ensuring consistency with the provisions of Solvency II.
The original IORP II proposals have been significantly watered down. In particular, the proposal to operate Solvency II-style minimum capital balance requirements has been dropped. However, the legislation still makes a number of changes which impact on the administration and management of occupational pension schemes.
IORP II confirms that 'as a general principle, where relevant, IORPs shall take into account the aim of having an equitable spread of risks and benefits between generations in their activities'. This creates some interesting questions about the need to consider the generational impact of certain activities. For example, closing a scheme to future accrual might have a greater impact on younger generations. Similarly, an incentive exercise limited to a particular population may result in different risks and benefits for different generations.
This provision is drafted widely, and may be interpreted differently by different Member States. In the UK, for example, it could become another factor to be considered by the Regulator in reviewing pension scheme activities.
One of the primary aims of revising IORP was to promote the use of cross-border schemes. There have been a number of changes to operational provisions for cross-border schemes to assist here, and these should broadly be welcomed.
However, the key measure in achieving this aim would have been to remove (or at least water down) the requirement for cross-border schemes to be fully funded on a technical provisions basis. This requirement has in fact been retained largely unamended, which will no doubt limit the effectiveness of the EU's aims here.
One of the key changes in IORP II is the more prescriptive requirements on the governance of occupational pension schemes. These changes have been introduced because of the divergence in scheme governance policies across the EU, but may prove particularly challenging in the UK, where governance is already relatively prescriptively regulated.
Each IORP will be required 'to have in place an effective system of governance which provides for sound and prudent management of their activities'. IORPs will be required, for example, to apply written policies on risk management, internal audit, and actuarial and outsourced activities; and to carry out a risk assessment at least every three years.
While many professional trustees will likely already have such policies in place, there will be some trustee boards whose existing procedures do not cover all of these areas. In particular, the focus on outsourcing is new. The indications are that schemes can no longer simply pay lip service to good governance and risk management - there will be much greater focus on these areas in the coming years.
Information to Members
As originally drafted, IORP II would have provided much more prescriptive member disclosure obligations. A large amount of detail has been removed from the Directive, but general principles about information provision are still included. One of the key tasks for the government in legislating for the Directive will be to consider how IORP II interacts with current disclosure legislation.
A number of changes have been made to Regulator powers under IORP II. First, it seems that the extended outsourcing rules will bring the actions of third party service providers, in certain circumstances, within the Regulator's remit. Secondly, and perhaps more importantly, the Regulator will now 'have the necessary powers to require IORPs to remedy weaknesses or deficiencies identified in the supervisory review process'. This has the potential to push the Regulator's role beyond a 'monitor' of occupational pension schemes, towards them themselves having the power to correct issues identified.
The elephant in the room
The UK's exit from the EU has not yet been formally triggered and, when it is, the initial period of negotiation may take up to two years. It is possible that the UK will be required to implement IORP II, despite Brexit, unless part of the negotiations for exit impact on the implementation of certain EU Directives. Equally, the UK could be required to implement the provisions of the Directive, and to maintain them after exit, as part of our new trade deals with the EU.
Until Brexit is triggered, it unclear how IORP II will affect UK occupational pension schemes. For now, it would be safer to assume that these requirements will become part of UK law, meaning that pension schemes should anticipate greater governance and regulation in some areas, but perhaps not to the same degree as may have been expected when IORP II was originally proposed.