On 27 March 2014, the European Commission published its long-awaited proposal for a new, revised IORP (Institutions for Occupational Retirement Provision) Directive. The proposals requiring a formal review of the solvency requirements for IORPs by the Commission following entry into force of the Directive, have been watered down from earlier drafts. However, the proposed Directive contains extensive new requirements on governance and communications for IORPs, which will significantly impact UK occupational pension plans. These include requirements for IORPs to:
- put in place effective risk management, internal audit and actuarial functions;
- produce and maintain a risk evaluation report;
- be run by persons with adequate professional qualifications, knowledge and experience, potentially signalling the end of lay trustees; produce and maintain a remuneration policy;
- provide prescribed information to members, including detailed requirements regarding the format and contents of pension benefit statements;
- appoint a depository to safeguard plan assets, where members and beneficiaries fully bear the investment risk (which will be the case for most defined contribution (DC) occupational pension plans in the UK); and
- notify their national regulator before any activities are outsourced.
The Directive also proposes a relaxation of some of the regulatory requirements for cross-border schemes. Unfortunately, however, the requirement for cross-border schemes to be fully funded at all times remains, despite the European Commission recently citing this as one of the key barriers to the establishment of such schemes.
Under the new IORP Directive all IORPs would be required to have an "effective system of governance" in place which provides for "sound and prudent management" of the IORP’s activities. This includes a requirement for those running the IORP to put in place:
- a risk management function - to identify, measure, monitor, manage and report on a continuous basis the risks to the IORP on an individual and aggregate level;
- an internal audit function - to evaluate the adequacy and effectiveness of the IORP’s internal controls and the other elements of the IORP’s governance arrangements, including the oversight of outsourced functions;
- an actuarial function (where appropriate); and
- effective internal controls and contingency plans.
The risk management and internal audit functions would need to be carried out by different persons and these functions, together with the actuarial function (where relevant), could not be carried out by any person or organisational unit that performs similar functions for any of the IORP’s sponsors. The person carrying out these functions would be required to report any major problems to those running the IORP and to notify the relevant national regulator if appropriate and timely remedial action is not taken.
IORPs would also be required to prepare and maintain:
- a risk evaluation report covering issues such as the effectiveness of the risk management system, the overall funding of the institution and a qualitative assessment of the sponsor support;
- a remuneration policy, covering the persons who "effectively run the institution", other persons who carry out key or outsourced functions and staff whose professional activities have a material impact on the IORP’s risk profile; and
- written policies on risk management, internal audit and, where relevant, actuaries and outsourcing, which would need to be reviewed annually.
Fit and proper persons
The proposed new IORP Directive includes changes to the "fit and proper persons" requirements for those who run an IORP. Significantly, the new Directive would require all persons who run an IORP to have "professional qualifications, knowledge and experience" which are "adequate to enable them to ensure the sound and prudent management of the IORP and to properly carry out their functions".
If this is implemented in its current form it would mark a significant change from the current IORP Directive which provides that the requirement to have appropriate professional qualifications and experience could either be met by those running the IORP or their advisers. It is also at odds with the approach that is currently taken in the UK, where pension plan trustees are not required to have professional qualifications.
DC plans required to appoint a depository
Under the new IORP Directive all pension plans where members fully bear the investment risk, which would include most DC occupational pension plans in the UK, would be required to appoint a depository for the safe-keeping of assets. This will inevitably result in increased costs for such plans, which will ultimately be borne by the members, and yet it is not clear what problem this requirement is designed to address or what the benefit to members would be.
Member States have the option of extending this requirement to all occupational pension plans.
Information to members
The new IORP Directive would impose an obligation on IORPs to issue:
- annual pension benefit statements to members;
- information about "all the features" of the scheme to prospective members;
- pre-retirement information to members at least two years before retirement; and
- information about their benefits and payment options to pensioner members.
The requirements relating to the information that needs to be provided to prospective members, members pre-retirement and pensioners are high level. In contrast, the Directive contains very detailed and prescriptive requirements relating to the format and content of pension benefit statements, in an attempt to harmonise these across the EU.
Some of the requirements are sensible, such as the need for benefit statements to:
- be written in a clear manner avoiding the use of jargon and technical terms where everyday words can be used instead (although it is unclear how this would be enforced, for example, who decides what constitutes "jargon");
- disclose information on contributions and charges (however, it is unclear whether this would capture all charges and the Directive draws no distinction between DB and DC plans, even though this information is not really relevant for a pension benefit statement under a DB plan); and
- state the benefits accrued by the member or the capital sum accumulated as at the date of the statement.
- However, the Directive would also require pension benefit statements to, amongst other things:
- include investment profiles for each of the investment options under the scheme and a short description of each option or, where there are more than five investment options, include profiles for five representative options including the most risky and the least risky options;
- include information about the past performance of each investment option and a synthetic graphical indicator of each investment option; and
- explain the nature of any guarantees.
All of this information (and any other information which would normally be included in such statements) would have to be included on two sides of A4 paper when printed. Without some serious and counterproductive manipulation of margins and font sizes, this will be an impossible task given that the requirements themselves take up 7 pages of A4 paper when printed.
In our view, this level of prescription is inappropriate for a European Directive and it removes the ability for the contents of benefit statements to be tailored to suit the relevant pension arrangement and member profile. In addition, enshrining these requirements in legislation would make it difficult to change them in future to ensure they keep pace with developments in the pensions market.
What happens next?
The new IORP Directive is a formal legislative proposal from the European Commission and it will now be considered by the European Parliament and the Council of Ministers as part of the EU’s usual ‘co-decision’ legislative process. Some of the requirements contained in the Directive are likely to be amended as it goes through the legislative process. However, the overall framework is unlikely to change significantly.
The proposed Directive states that national Governments will be required to implement the new requirements by 31 December 2016. This is a very tight timescale because, whilst the Council is likely to start working on the Directive shortly, the European Parliament is unlikely to start serious work on it until the Autumn, given the impending Parliamentary elections on 25 May 2014. That said, we would expect the EU to complete legislative scrutiny of the proposal towards the end of 2015.
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There is a certain irony in the fact that on the day that the UK Government announced plans to cap charges under qualifying pension schemes, the EU published proposals for a new Directive which it is estimated would cost UK schemes at least £328 million to comply with in the first year alone. Whilst we support moves to ensure that occupational pension plans are well governed and that member communications are clear and effective, we are concerned that many of the requirements in the proposed Directive, are unnecessary and over-burdensome red tape and do not represent value for money for members. In addition, the level of detail and prescription over the contents of pension benefit statements is inappropriate for a European Directive. In our view, the Directive should set out in high level terms what should be included and then leave it to Member States and national regulators to decide the more detailed requirements for pension benefits statements in their jurisdiction. We will be lobbying members of the European Parliament and UK Government Ministers through our involvement with the NAPF, CBI, 100 Group, European Employers Group and Association of Pension Lawyers to try and ensure that the final Directive is less prescriptive and focuses on issues where there is a real need for action.