Governance and best practice in workplace pensions

To address widespread under-saving for retirement, the Government has introduced automatic enrolment into workplace pensions. Beginning with the largest companies in October 2012, employers will be required to enrol their employees into a workplace pension scheme and to make contributions to that scheme if the employee does not opt-out. This requirement applies to employers on different dates, depending on the number of employees, but the process will be completed by 2017 for all existing employers.

Auto-enrolment will bring many millions of people into pension saving for the first time; however, the world of pensions is complex and confusing for many people. Most of the new pension savers will be enrolled into Defined Contribution (DC) schemes which place a burden on scheme members to make decisions which can affect their retirement income.

However, many of these individuals will understandably not be equipped to do this. This means that high quality pension scheme governance, which protects members and focuses on maximising retirement income, will be essential in the future.

There are particular difficulties in the way that contract-based DC schemes are governed.

Decisions made by contract-based scheme providers, and the employers who enrol their employees into them, may not always be made in the best interests of the scheme member.

Trust-based schemes generally offer members greater protection, as scheme trustees have a fiduciary responsibility to act in the interests of scheme members. However, trust-based schemes are not without problems.

A confusing array of costs and charges is applied to pension pots by pension providers, especially in DC pension schemes, and these costs and charges can have a serious negative impact on an individual’s retirement income. There is broad agreement that charges have reduced across DC pensions, particularly since the creation of the National Employment Savings Trust (NEST). However, consumer representatives have highlighted continuing concerns that some scheme members may still experience detriment from schemes with high costs and charges.

The charges which cause us particular concern are member-borne consultancy charging to auto-enrolled members, and charges in excess of those applied to current employee members which are applied to employees who stop contributing to their pension scheme (deferred members). If significant progress is not made in the very near future by the industry towards ending these charges, then the Government should ban them.

The communications between pension providers, employers and scheme members will play an important role in determining future outcomes from private pension saving. The current standard of communication is generally poor and often creates a barrier to employers and employees being able to understand the details of their pension scheme and to deal with pension companies on an equal footing.

It is essential that the Government, regulators and the pensions industry ensure that employers have the necessary information in order to make the best decisions about pension saving on behalf of their employees and that employees are properly equipped to make the decisions about pension saving which are required of them. Improving 4 communications will involve using simpler language and providing only the information which is relevant to employers and employees, rather than the current deluge of complicated documentation.

The main responsibility for bringing communications up to the required standard rests with pension providers but the Government, schools, employers, and advisory bodies all have a role to play in educating the public so that people will be in a better position to assess their own future retirement needs and make pension savings decisions that will help them to meet those needs.

There are several bodies with responsibility for regulating contract-based pension schemes and we are worried that the current regulatory system is resulting in inconsistent regulation for workplace pension schemes. Financial services regulation changed in April 2013; two new bodies were established to replace the Financial Services Authority (FSA).

The Financial Conduct Authority (FCA) will now be responsible for regulating contract-based pension schemes. The Pensions Regulator and the FCA need to establish stronger joint working arrangements than those that existed with the FSA.

We are not convinced that the FCA is the appropriate body to regulate contract-based pension schemes. If it remains the responsible body, the FCA must adopt a pensions-specific and proactive regulatory strategy and set up a well-resourced team dedicated solely to regulating contract-based pension schemes.

We remain concerned about current regulatory gaps and the potential for further gaps to arise as a result of three regulators having a role to play in pension regulation. We believe that it is necessary for a single regulatory body to have sufficient powers to ensure that all members of workplace pension schemes are given adequate and consistent protection. We therefore recommend that the Government reassess the case for establishing one body with sole responsibility for regulating workplace pensions.

We welcome the Government’s attempts to tackle the problem of small pension pots through its “pot follows member” approach. However there is potential for this system to result in consumer detriment for some individuals if their pots are transferred from a scheme with low charges and good governance into a scheme with high charges and poor governance. The Government must ensure that its pot follows member solution is accompanied by the necessary changes to ensure that all auto-enrolment schemes benefit from good governance and are free from high charges including deferred member charges in excess of those applied to current employee members, and member-borne consultancy charges.

Risk-sharing schemes can allow their members greater certainty over retirement benefits and can provide a more even balance of risk between employees and employers. We welcome the Government’s intention to explore possibilities for Defined Ambition (DA)

risk-sharing schemes as an alternative to Defined Benefit or Defined Contribution schemes. The Government should continue to encourage employers to consider DA schemes as an option. Legislative and regulatory barriers to DA schemes will also need to be removed by 2016, when contracting-out is due to end, if DA schemes are to offer a real alternative to Defined Benefit schemes. However, the Government’s main priority should be ensuring that the millions of people being enrolled into DC schemes benefit from high 5 standards of governance and reasonable and justifiable charge levels.