Pensions Essentials - October 2024

The legislation to allow collective money purchase or defined contribution schemes (CDC schemes) is in the Pension Schemes Act 2021 and accompanying regulations.

CDC schemes differ from conventional money purchase schemes in several key respects.  Employers and employees pay fixed contributions to fund a target benefit on retirement.  That benefit is provided from the scheme as it would be in a defined benefit scheme, but the employer does not guarantee to meet the balance of the cost of benefits in the event that the assets are insufficient to provide the target benefit.  Members collectively bear the longevity and investment risk, including pensioners, which means that pensions in payment can go down as well as up if asset values fall.  To ensure that members understand this aspect of CDC schemes, there are statutory requirements around member communications. 

The key advantages of CDC schemes are certainty of costs for employers, pooled longevity risk for members (so they do not have to guess how long they will live when working out retirement income options), and potentially higher investment returns (because the fund is managed by the trustees and members do not have to actively manage their investments). Modelling has indicated that there is potential for CDC schemes to provide significantly higher pensions for members than DC schemes and even DB schemes for the same level of contributions.

Under the current legislation, CDC schemes must be for single or connected employers only (preventing commercial schemes from being set up), authorised by TPR and established and run by fit and proper persons.  They must also satisfy various design and operational requirements.  

The Government is consulting on widening the CDC legislation to accommodate schemes for non-associated employers e.g. schemes set up by commercial providers.  The legislation will be broadly similar to the current regime but changes will be made to the authorisation criteria to make them more comparable to the regime that applies to commercial master trusts. 

In addition, some other key features in the consultation include:

• The authorisation process includes the need for a viability report setting out the design of the scheme and confirmation from the trustees that in their view, the design is sound.  This will need to be accompanied by a certificate from the scheme actuary confirming the actuarial matters set out in the report.  In a commercial CDC scheme, the actuary will also need to confirm that expected increases in benefits over the first 10 years will be at least in line with the expected increases in CPI and give some consideration as to whether the value of benefits to be provided is equal to the value of contributions paid.
• TPR will consider the ability of the scheme proprietor (the entity liable for the costs of setting up the scheme and making business decisions in relation to its commercial activities) to meet relevant costs.  The scheme proprietor cannot be the trustee of the scheme, to ensure the trustee can focus on the interests of members.
• It is envisaged that the scheme proprietor will carry out the marketing of a commercial CDC scheme or appoint other people to do so.  The trustee will not be allowed to carry out marketing activities.  TPR will also look at whether adequate checks are in place to ensure that marketing is not misleading and is clear.
• The current legislation requires any benefit adjustment to apply in the same way to all members and for benefits to target increases in line with inflation when the scheme was established.  However, as new employers can join commercial CDC schemes over time, the legislation will permit the scheme rules to allow for members’ benefits to target different annual increases, based on the performance of the scheme since their employer joined.
• In the event that a scheme is so well-funded that it can pay above-inflation increases, the costs of doing so in the long term are managed by providing for a maximum threshold for increases of CPI +2%, beyond which sustained annual increases cannot be applied.  Additional amounts can be paid as a one-off increase in a single year. Schemes could set a higher threshold in their scheme rules.
• Where a scheme experiences lower than expected investment returns and benefits need to be reduced, there are provisions which allow for this to be smoothed over a maximum of three years and which set out what happens where there is a bounce-back in investment performance (in the same way as for single or connected employer CDC schemes).

The consultation closes on 19 November 2024.  It is worth noting that it does not address the use of CDC schemes as a decumulation-only vehicle – that is, as an arrangement into which members can transfer conventional DC funds on retirement.  The Government has said that it is continuing to explore this option with the industry and would be interested in talking to anyone who is currently considering this possibility.

Slaughter and May advised Royal Mail on the UK’s first CDC scheme, the Royal Mail Collective Pension Plan, which launched on 7 October.  This means that we are uniquely placed to advise other employers and providers who may be contemplating CDC as an option.

As we reported in the September edition of Pensions Essentials, the FCA has recently consulted on a new value for money framework which will apply to contract-based schemes, and similar provisions are intended to be made for DC occupational pension schemes in the Government’s promised Pension Schemes Bill.  The proposals would require most schemes to make significant disclosures around investments and quality of service and compare themselves to other, very large, schemes.  The intention is that requiring schemes to consistently measure and disclose performance should reduce the number of members in DC auto-enrolment schemes that are delivering poor value.

Any changes are likely to take some time to come into force but, in the meantime, it is worth remembering that there are already some requirements in pensions legislation on providing information about the extent to which a scheme provides value for members:

• Where trustees have to prepare a chair’s statement, they must also assess the extent to which charges and transaction costs borne by the members represent good value, and explain the results of the assessment.
• In addition, there are specific requirements on assessing value for members in smaller DC schemes with assets of less than £100 million (subject to some exceptions).  These include comparing the investment returns and the costs and transaction costs borne by members with those in at least three other schemes that have assets of more than £100 million, and the trustees must have discussed with one of those schemes the possibility of accepting a transfer-in from their scheme in the event that it is wound up.  There is statutory guidance on complying with these requirements and the Pensions Regulator has also provided guidance.
  
  The outcome of this assessment will need to be reported in the chair’s statement and the scheme return.  If the conclusion is that a scheme does not provide value, the scheme return will also need to say whether the trustees propose to transfer members out and wind up or, if not, why not, and what improvements they intend to make. 

In March 2023, TPR announced a new regulatory initiative to check that the enhanced value for members provisions were being  complied with, as a survey suggested that 64% of schemes were unaware of the new requirements.  TPR has now reported that around 17% of DC schemes it engaged with concluded that they did not offer good value and opted to wind up.  It goes on to say that if these results were reflected across the whole landscape of in-scope DC schemes, more than 200 schemes would be opting to wind up. 

TPR’s most recent compliance and enforcement bulletin shows it used its powers 10 times in relation to the enhanced value for members assessments between January and June 2024, issuing seven penalties, totalling £19,250, and three improvement notices.  The bulletin does not provide details of what the failures were.  However, trustees of non-compliant schemes can expect to see more penalties issued in the future as TPR continues to analyse relevant data.

The Ombudsman’s website sets out the normal process for a complaint.  Generally speaking:

• Receipt of a complaint will be acknowledged within 20 working days.
• A review will be done to determine the basic nature of the complaint, who it is against and whether or not the Ombudsman can deal with it.
• If a complaint can proceed, it will be allocated to a caseworker for investigation and they may ask the parties for more information.
• The Ombudsman will then allocate an Adjudicator when one becomes available with the appropriate knowledge and skills.  They can informally resolve a complaint by agreement.
• If either party does not want to accept the informal resolution, it will be passed to the Ombudsman, who will make a binding determination. 

Earlier this year, the Ombudsman said that that his office was “at the point… where the demand for our services is outstripping our capacity to resolve cases for complainants and respondents in a timely fashion” and a review was undertaken to determine how to address this. Following the review, three areas were prioritised:

• Resolution Team changes – tightening the conditions for investigating a complaint and requiring complainants to demonstrate that they have exhausted any formal complaints process (such as an IDRP).
• Expedited determinations – extending the use of short-form decisions and determinations for appropriate cases at all stages of the decision making process.
• Thresholds for accepting complaints – exploring whether there are categories of complaints that are more appropriately dealt with by other organisations and whether a de minimis threshold should be applied in some circumstances. 

In a September blog, the Ombudsman confirmed his office has been piloting expedited decision-making at earlier stages of complaints.  The pilot focussed on complaints that appeared to have a clear outcome, such as:

• where a pension provider supplied an incorrect benefit statement, but no loss was caused by the error;
• where a scheme member complained that automatic fund switches in a lifestyling investment strategy cost them investment returns, but where the default arrangement was adequately communicated; and
• where a member wanted a scheme to honour a cash equivalent transfer value but the member was responsible for not meeting the statutory time limits.

As the pilot was successful, the Ombudsman will be “fully rolling out expedited decision-making” from September.

The expedited process appears to allow the caseworker to make a decision, possibly based only on the information submitted in the initial application.  This decision will be issued to all parties and if any party doesn’t agree, they can ask for the matter to be referred to the Ombudsman.  The Ombudsman will issue a final and binding determination if he agrees with the caseworker’s view.  This enables the parties to get a determination without going through the adjudication process and should reduce the amount of time customers currently wait by as much as 18 months.  It will also allow the Ombudsman to focus adjudication resource on the complex cases that require more in-depth investigation.  

As these expedited determinations will not normally be published, the Ombudsman is also exploring how it can make sure any industry-wide learnings can be shared, for example though case studies or broader insight products. 

Despite this expedited process, delays can still be expected where complaints are made to the Ombudsman.  His latest annual report and accounts show that in the 2023/24 year, the Ombudsman’s office closed 6,634 complaints. However, it received 7,778 new general enquiries so demand continues to increase. 

Trustees and sponsors may also be interested to note that of the 245 complaints that were subject to a formal determination, only 39% were resolved in favour of the member.  

Trustees have a statutory obligation under the dashboard legislation to ensure that data in relation to all scheme benefits is returned to the dashboards within the required time-limits when a member makes a request.  Where schemes have AVCs invested with and administered by a third party, trustees need to consider how they are going to ensure that this obligation is complied with. 

In response to an FAQ earlier this year, the Pensions Dashboard Programme said: “Under the legislation, the main pension provider or scheme must ensure all elements of the benefits for which they are responsible are available to their members via dashboards.  This includes AVC pensions linked to the main pension.  Since AVC pensions are usually administered by a separate provider… [that provider] may connect to the ecosystem directly, or via a third party.  They would return data via a separate connection to the one used by the main pension scheme… [or] provide the AVC data to the main pension provider or scheme. Irrespective of the setup, the pension provider or scheme should work with the AVC provider to ensure data for the AVCs is available on dashboards.”

This means that AVC data is something that trustees may need to address separately to other data.  To help with this process, PASA published the first content for its new pensions dashboards toolkit for scheme administrators, which focuses on AVCs. They have provided a summary of which AVC providers will provide data to the dashboards directly and which will provide it to schemes.  There is also a questionnaire for trustees to send to AVC providers so that they can make sure their dashboard obligations will be complied with in relation to AVCs. Finally, PASA have provided a checklist for administrators of AVC-related issues to consider in relation to dashboard connection.

It is also worth noting the pensions minister said in a statement earlier this month that “it is too early to confirm a launch date for public use”  of the dashboards, so there is still no date for them to go live to members. The Dashboard Regulations require industry to be given at least 6 months’ advance notice of the date they are intended to go live to ensure that administrators and other third-party providers have sufficient capacity to deal with requests and queries.