Of importance for all those involved in DC benefit provision, in both trust- and contract-based schemes, is the command paper published by the DWP on 27 March 2014: Better workplace pensions: Further measures for savers.
The measures are intended to complement the Budget 2014 provisions in respect of DC pension reforms and bolster the implementation of auto-enrolment.
The changes will be implemented in a number of ways, including under the Pensions Bill 2013-14, related secondary legislation and new regulations and rules for the Financial Conduct Authority (FCA). The DWP is also interested in exploring other avenues for the improvement of standards of administration, including accreditation or quality marks. The consultation runs until 15 May 2014. The FCA is expected to consult separately this year about changes to its rules for providers of DC contract-based schemes.
In brief, the proposals include, from April 2015:
- new minimum quality standards for all DC workplace pension schemes to ensure those running schemes consider scheme quality and prioritise members' interests. Reflecting their importance, the requirements for trust-based schemes will be set out in regulations (enforced by TPR) and the FCA will consult on rule changes to oversee the quality standards in contract-based schemes;
- providers of contract-based schemes will be required to operate Independent Governance Committees (IGCs) to assess value for money and compliance with quality standards, with powers to escalate concerns to members, employers and the FCA. From the same date, trustees will be required to consider and report against the quality standards. Thereafter, new requirements will be introduced to make standardised disclosure of all pension costs and charges mandatory. The information will be provided to trustees and IGCs, and made available to employers, scheme members and regulators; and
- a charge cap of 0.75 per cent of funds under management will be introduced but only for default funds of DC qualifying schemes used for auto-enrolment. The cap will exclude transaction costs. Consultancy charges will also be banned in all qualifying schemes from this date. The position will be reviewed in 2017.
From April 2016, member-borne adviser commissions and active member discounts will be banned in qualifying schemes.
The command paper follows on from the DWP’s consultation on charges in DC schemes, as reported in ourNovember 2013 update, and also the DWP’s call for evidence on DC pension standards, as reported in our July 2013 update.
The key proposals are examined in more detail below.
Mandatory minimum quality standards and independent governance process
From April 2015, new minimum quality standards will apply to all DC workplace pension schemes to ensure those running schemes consider scheme quality and prioritise members' interests. The requirements for trust-based schemes will be set out in regulations (enforced by TPR) and the FCA will consult on rule changes to implement the quality standards in contract-based schemes.
The overarching quality standards for all schemes (contract- and trust-based) are summarised as follows:
- all schemes must be governed by a body with a duty to act “in members' interests”, acting freely and able to explain how conflicts of interest are handled;
- the governing body must consider default investment design and performance, administration standards, member-borne charges and pension asset investment costs;
- the governing body must have, or have access to, all “of the resources, knowledge and competencies necessary” to run the scheme properly; and
- the chair of the governing body must produce an annual report explaining how the scheme has performed against the quality requirements.
For trust-based schemes, these standards will be delivered through a scheme's trustee board and for contract-based schemes through new Independent Governance Committees (IGCs). Included in the overarching list is the requirement that “the majority of individuals - including the chair - of the governing body must be independent of the pension provider”. It appears that this is only intended to apply to contract-based schemes and master trusts. Specific proposals for quality standards are set out in Annex B to the Command Paper, including a definition of “independent”, but while independence is explicitly required in the case of IGC and master trust board membership, the occupational-DC standards only refer to requiring that the trustee board has a chairperson. The DWP emphasises that many schemes will need to change their governance procedures to comply.
For occupational pension schemes, until the new governance standards are introduced, TPR's DC code of practice and guidance will continue to apply after which they will be updated to reflect the new regime.
The new ICGs
The framework for IGCs builds on an agreement already in place between the Association of British Insurers and the Office of Fair Trading but places IGCs on a mandatory footing. Guidance is given on the proposed role of the new mandatory IGCs. IGCs would have an explicit duty to act in members' interests, but providers would not. The IGCs would engage investment advisers and lawyers independent of the provider. In terms of taking action to meet the quality standards, rather than having executive powers, IGCs will have a role to “influence” providers. Under revised FCA rules, providers' management should “fully consider” IGC recommendations and act on them unless there were “reasonable barriers” to doing so, in which case there would be a duty to explain non-compliance with the recommendations.
The DWP highlights that personal pension plans may have contractual restrictions on the extent to which changes can be made in members' interests. It notes that the Independent Project Board overseeing the audit of high cost and legacy schemes announced by the OFT on 11 February 2014 will be considering whether transfers from or amendments to poorly functioning contract-based pension schemes can be made to ensure value for money for scheme members.
The DWP also confirms it will also be considering the recommendations made in the Law Commission's report on Fiduciary Duties of Investment Intermediaries, which is expected in summer 2014, when developing policy and regulations. In addition, the DWP flags that some models of trust-based schemes, particularly master trusts run for profit, have the same potential for conflicts of interest recognised in contract-based schemes. It proposes that master trust boards must have at least seven trustees, with the majority (including the chair) being independent of membership and with arrangements in place to hear directly from members. Such schemes would also be affected by the new assurance framework for master trusts, which is due to be implemented in summer 2014.
Qualifying schemes: charge cap and other restrictions
The DWP recognises that there are differences of opinion in industry about the principles and consequences of charge capping (which was one of the reasons the implementation of the cap was postponed), but it concludes that some restrictions are necessary to protect at least those savers who have made no choices about their pension scheme. Therefore a cap against high charges is justified in respect of default funds of qualifying schemes to support the implementation of automatic enrolment.
The DWP proposes the following restrictions for qualifying schemes:
- from April 2015: 0.75 per cent default fund charge cap on funds under management, excluding transaction costs. As a transitional measure, any commission or active member discount (AMD) structures must not take member-borne charges above this level.
The ban on consultancy charging in qualifying schemes will be extended to include where a legally enforceable agreement was in place before 10 May 2013.
- from April 2016: AMD structures and member-borne commission will be banned in all qualifying schemes.
There will be further “work with stakeholders” on the details, following which regulations will be introduced to implement these measures.
In 2017, there will be a further review, in which the Government will consider whether transaction costs should also be included in the default fund charge cap and whether the level of the cap should be lowered.
Transparency about costs and charges for all DC schemes
From April 2015, new requirements for schemes to report on costs and charges will be introduced for all DC schemes in line with the new quality standards. There will be a standardised format for trustees and IGCs to disclose both administration and transaction costs to ensure greater comparability and consistency between schemes.
Related transparency and disclosure measures were covered by recent amendments to the Pensions Bill 2013-14. Others will be introduced through FCA rules, cooperation between industry, regulators, employers and consumer groups ahead of implementation.
Timing and consultation
The Command Paper outlines a timetable for implementation of these proposals. The Pensions Bill 2013-14 includes the primary legislation to deliver most of the measures. After Royal Assent (expected in April 2014), the aim is to lay regulations before Parliament in the latter part of 2014.
The consultation questions include requests for comments on quality standards for trust-based schemes and whether contract-based-style independence standards are appropriate for master trusts. The DWP is also seeking views on whether the transparency requirements should be extended to DB schemes in future to assist sponsoring employers in scrutinising the costs of such schemes.
The consultation runs until 15 May 2014.
The FCA business plan
The FCA will consult separately in summer 2014 on rules for IGCs. The FCA's business plan also mentions that in 2014/15 it will assess whether life insurance firms are operating historic policies, including pensions products, in a fair way and whether they have adopted strategies that exploit existing customers.
Following the spotlight on DC provision arising after the surprise focus in the Budget 2014, there is now clear momentum to improving the way these schemes are run, with the command paper focusing chiefly on governance and administration rather than risk issues.
With DC pension benefits firmly positioned centre-stage since auto-enrolment commenced, it is essential that scheme members have confidence in the way their schemes are managed. Requirements for transparency and standardised mandatory disclosure should enable trustees, members and regulators to make easier comparisons between schemes, and this is to be welcomed.
In what feels like a recent whirlwind of change for DC pension provision, it is also good news that the new requirements are to be implemented in phases. The first wave of changes should be in place by 2015, followed by more in 2016. The level of the charging cap is then to be reviewed in 2017.
These intended changes, together with the governance controls proposed in IORP II, should be watched closely by all involved in DC pension provision.
View the Command Paper.