Introduction
As a result of the introduction of auto-enrolment, there will be many new members of pension arrangements who have not chosen to join and who are not engaged with the arrangement. The Pensions Regulator (TPR) is concerned, therefore, that these arrangements should be of appropriate quality. Hence it is putting in place a régime to regulate the quality of such trust-based schemes, based predominantly on setting standards for schemes to follow.
Earlier this year TPR consulted on its proposed regulatory régime, which comprises three main strands:
- a code of practice,
- guidance to accompany the code and
- its regulatory approach, which describes the regulatory framework it proposes to adopt.
Contract-based schemes – that is Group Personal Pension plans – are regulated mainly by the FSA, so are not covered by the majority of TPR’s materials. However, TPR has performed a comparison between the two regulatory regimes and is confident that the two are imposing consistent standards.
Following the consultation TPR has now issued its response and the draft code of practice has been laid before Parliament. It is expected to come into force in November 2013, at which time the final regulatory guidance will also be published. There is also now an additional document in the suite: an “Introduction to Code of Practice 13”, which lists the features, identifies where they are mentioned in the Code and the regulatory guidance and outlines key issues relating to each area of DC governance and administration.
Background
The existing regulatory framework for DC schemes relies on trustees following regulation and codes of practice. Non-compliance is reported to TPR by the trustees or their advisers, under the terms of the Pensions Act 2004. TPR has now, however, adjusted its focus, concentrating instead on “member outcomes” – what a member receives ultimately from his pension arrangement.
In December 2011 TPR published its 6 principles for good workplace pension schemes, focussing on trustee governance and administration objectives that are expected to contribute to good member outcomes.
Principle 1: essential characteristics
Schemes are designed to be durable, fair and deliver good outcomes for members
Principle 2: establishing governance
A comprehensive scheme governance framework is established at set-up, with clear accountabilities and responsibilities agreed and made transparent
Principle 3: people
Those who are accountable for scheme decisions and activity understand their duties and are fit and proper to carry them out
Principle 4: ongoing governance and monitoring
Schemes benefit from effective governance and monitoring through their full lifecycle
Principle 5: administration
Schemes are well-administered with timely, accurate and comprehensive processes and records
Principle 6: communications to members
Communication to members is designed and delivered to ensure members are able to make informed decisions about their retirement savings
These were followed in June 2012 by a draft list of “DC quality features”, which represent the standards that trustees are expected to meet to demonstrate compliance with the legal requirements.
TPR has undertaken research into the extent to which schemes already comply with the features in the draft list. This indicated – perhaps not surprisingly – that larger schemes exhibit more of the features than do smaller schemes.
The Regulatory Approach
TPR has the following statutory objectives in relation to DC arrangements:
- protecting the benefits of members of work-based pension schemes and
- promoting and improving understanding of the good administration of work-based pension schemes.
It has finalised the list of 38 “DC quality features”, based on its six principles. It believes that:
- schemes which demonstrate the quality features are more likely to meet the required standards of governance and administration and
- members and employers should be confident that those responsible for running schemes demonstrate the quality features.
The Code of Practice focuses on quality features that are essential for compliance with pensions legislation, while the DC regulatory guidance covers those quality features that TPR regards as good practice.
TPR’s enforcement approach will involve monitoring, investigating and putting things right. Monitoring is likely to be more proactive than has been the case to date, with TPR expecting schemes to be able to demonstrate their compliance with the quality features. Where there is evidence that a scheme has not met the expected standards TPR may investigate the scheme: this is particularly likely to happen if the scheme has not complied with the code of practice. Where TPR considers that there is a risk to member outcomes enforcement measures include:
- warning letters,
- improvement notices,
- publishing a report about the case,
- imposing a fine of up to £5,000 for an individual or £50,000 for a corporate body,
- appointing trustees,
- prohibiting someone from being a trustee,
- applying to a court to restrain misuse and misappropriation of assets.
In its response to the consultation TPR stated its intention to consider further the introduction of a notifiable events régime for DC schemes, similar to that in operation for DB schemes since 2005.
Code of Practice 13
The code of practice applies to trustees of all DC or hybrid pension schemes with two or more members, in relation to the DC element of their scheme. It does not apply to personal pension schemes, since these are regulated by the FCA/PRA. Following the consultation, it is good to see that the length of the draft code has decreased!
The current draft, unlike the initial draft, suggests in the introduction that, although trustees will need to be familiar with the whole Code, they might benefit from working through one section at a time, on a modular basis. The same section notes that some of the guidance is designed to apply particularly to certain types of scheme, such as master trusts. Trustees will need, therefore, to consider carefully which sections are relevant to their scheme.
The code is split into 5 sections:
- know your scheme
- risk management
- investment
- governance of conflicts of interest and advisers
- administration.
Each section contains the relevant legal requirements, the DC quality features that apply to that section and some practical guidance.
Know your scheme
The section on knowing your scheme repeats and stresses the trustee knowledge and understanding requirements, noting particularly the need to know:
- what benefits the scheme offers,
- the scope of the trustees’ powers under the rules,
- key issues for trustee meetings, including:
- investment monitoring,
- scheme risks,
- costs and charges,
- administration,
- communications,
- legislative updates,
- trustee training and
- the requirement to keep written records of meetings.
This section includes guidance on compiling a trustee training programme, including the key areas that should be covered, with particular emphasis on investment, administration, the process of providing member benefits at retirement and the balance of powers between the trustees and the employer.
Much of this material is contained also in Code of Practice 7 – Trustee Knowledge and Understanding.
Risk management
The risk management section includes the requirement that trustees identify, evaluate and manage the risks relating to their scheme and maintain an internal controls framework specific to DC issues. Particular risk areas that are mentioned are:
- fraud,
- investment risk,
- cost management,
- administration,
- regulatory requirements,
- communications,
- corporate activity and
- members’ retirement.
There is also guidance on managing risks.
Much of this material is contained also in Code of Practice 9 – Internal Controls.
Investment
Investment is particularly important in a DC scheme because the members bear the investment risk and investment performance has a direct effect on their retirement benefits. If members are offered a choice of funds, the number of investment options should enable them to make meaningful choices. The options should also be appropriate to cater for members’ needs throughout their membership. The potential benefits and risks of every fund offered should be communicated clearly to the members so that they may make an informed choice.
Trustees should devote sufficient time and resources to:
- understand the investment objective for each fund,
- understand the basis of charges levied on the assets and
- ensure that information provided to members is accurate.
Schemes that will be used for auto-enrolment must offer a default investment strategy, so that members may join the scheme without having to make any decisions. TPR expects all DC schemes to offer a default, regardless of whether they are to be used for auto-enrolment, that is appropriate for the risk profile of the members.
Trustees should consider what protection is offered by various types of investment (for instance whether the funds qualify for protection under the Financial Services Compensation Scheme) and ensure that they understand these and communicate them to members.
Trustees must monitor and review the investment performance of the funds they offer, with particular emphasis on funds in which a significant proportion of the scheme’s assets are invested. Such reviews should be documented.
Governance of conflicts of interest and advisers
In relation to conflicts of interest TPR expects trustees to have in place:
- a documented conflicts policy,
- a register of interests for recording all actual or potential conflicts and
- declarations of actual or potential conflicts, on appointment and ongoing.
TPR is concerned particularly about the conflicts that may exist in a master trust, where the provider has a financial interest in the scheme.
This section also contains guidance on the appointment of, and ongoing relationship with, advisers and providers.
Administration
Good record-keeping and administration are essential to the running of a DC scheme, to ensure that the correct contributions are deducted and that they are invested correctly and promptly.
Common and conditional data should be reviewed at least annually. Some of the actions TPR expects of trustees in this area are quite detailed; for instance, in relation to conditional data, TPR expects trustees to check:
- that members’ investments correctly reflect the appropriate point in the lifestyle formula,
- that there is a matching transaction for each contribution recorded,
- that there is a contribution recorded for each pay period where a member is active in the scheme and
- that there is a record of each investment sold, date sold and amount realised.
Code of practice number 5, on reporting late payment of contributions, is also relevant.
Regulatory guidance
This last document in the suite will cover investment, governance, administration and member communications. It aims to provide information, education and assistance to trustees on good practice standards through more detailed guidance. There is particular focus on:
- how to conduct a value-for-money assessment to ensure that the scheme represents good value to members,
- scheme design and flexible contribution structures (employer responsibility rather than trustees) and
- facilitating members’ decision making at retirement.
Comment
This new code of practice represents a different approach from that contained in the first 12 codes, in that it requires trustees to take action to demonstrate that their scheme is compliant. Most sets of trustees will need to implement a programme, with the help of their advisers, to work through the code of practice and the guidance, to ensure that their scheme is compliant and to compile the evidence to demonstrate that it is so.