> Pension Funds Insider> The Pensions Regulator's principles - enough to unlock DC's potential?
How can the UK's Pensions Regulator surmount the structural obstacles found in Defined Contribution (DC) schemes and put its words on good governance into action?
The 'six principles for good workplace DC' were published by the Regulator to set the goalposts for the introduction of further guidance and regulation, due next year. They emphasise good governance, accountability, administration and communication, things that are all clearly desirable if DC schemes are to become good alternatives for retirement saving given the continued demise of defined benefit (DB) schemes.
The Pension Regulator's DC policy manager Darran Burton told Pension Funds Insider that it was inspired by the feeling that "the DC landscape is about to expand significantly and now is the right time to intensify our preventative work in this area to reduce the need for enforcement action later."
But putting these principles into practice will be a challenge that will define the future of saving in the UK.
Some wary voices have been raised about what could happen when millions of people are enlisted by millions of businesses into unfamiliar occupational DC schemes for the first time.
And it will be individual employees who are the first to suffer from any poor management in DC pensions, unlike the clued up corporate finance directors who are the first to feel the pinch when a DB scheme slips up. That is a recipe for disaster, some say.
Yet even if the Regulator achieves its goal of blanket adherence to the principles, that may not be enough to drag all DC schemes up to an acceptable performance level.
Michael Cowley, a partner in the employment, pensions & benefits group at legal firm DLA Piper UK LLP, says that there are a number of problem areas that the Regulator has to surmount. Namely: the proliferation of providers; the cliff edge between occupational and personal pension scheme supervision; and – crucially - a lack of interest from most consumers in what happens to their pension savings.
The rocky road to regulation
The Pension Regulator acknowledges that it faces no easy rise. Its chief executive Bill Galvin announced the principles by warning that "at present DC standards are mixed with too many schemes providing poor value for money."
How then can the Regulator surmount the structural obstacles that seem to lurk in DC and put its words on governance into action?
Alliance Bernstein's head of investment research and design, David Hutchins, argues that for trust-based schemes the Regulator's role "is to make it clear on how you manage risk as a trustee. If you don't follow certain principles or processes then you are exposing yourself as a trustee or employer to future action."
He believes that the regulator needs to lay down some clear process: "We need some strong legal precedent. Like with 'safe harbour' regulation in the US we need to make sure that as long as you go through the right process and safely govern a scheme then you will be well protected whatever (the) investment outcomes are."
Burton says that the Pensions Regulator is not looking for additional powers as a result of the principles, which would reassure someone like Hutchins. However, he adds, "where there are breaches in legislation or failures in duty, we have powers to take action against trustees - and we also work closely with other regulators and agencies, for example where we believe that there may be fraud or tax issues linked to mismanagement of pension schemes."
So any hopes of a black and white canvas that DC trustees can work on remains elusive.
A crunch point for the regulatory regime of DC could come if the Regulator takes any big names to task for failing to live up to these principles. Their preliminary nature probably makes that unlikely for the time being, but Burton argued to Pension Funds Insider that the Regulator is being active on DC already, highlighting the issue of active member discounts.
Burton says "It is not true to say that we have not done anything about poor value DC schemes – we have published a range of guidance on good governance and administration processes, including a recent statement to trustees highlighting our concerns about 'active member discounts'."
The message therefore, is clear. None of this should come as any sort of surprise.
Lighting the way
The Regulator's job could be made a whole lot easier if all employers taking a contract-based route chose a large provider.
Steve Watson, head of delivery at Alexander Forbes emphasises how careful employers need to be in their choice of occupational DC provider, for the time-honoured logic of keeping business simple and employees happy.
"The selection process is critical, get it wrong and payroll administration becomes a nightmare and member satisfaction and subsequently take-up rates become negatively impacted upon," he says.
Burton is adamant that the Regulator did not base its principles on admiration for any particular provider's DC offering, but hinted that big players have an advantage. "We know that large DC schemes, which benefit from economies of scale and good governance, with engaged employers and members, often have the characteristics needed to deliver good outcomes for members," he says.
This doesn't mean that size is a critical factor for the Regulator, however. Burton is quick to reassure smaller providers, saying that other models can also work well for members and that "the principles are broad enough to apply to a range of DC provision".
Staying on course
Hutchins confidently feels that Alliance Bernstein's DC solution is the only product to have fully pre-empted the regulator's principles. Other providers are unlikely to volunteer themselves to any shortcomings on the principles, however.
Advisors are paying more attention to helping employers pick from the wide, if not bewildering range of DC products being touted for auto-enrolment compliance.
Watson says established track record in efficiency and innovation should be some of the most important things employers look for in a provider. He says for instance, that "there are some pension providers that are able to cope with employees paid weekly and there are some who do not have the capability."
Watson adds that firms must be careful to select providers who want to understand the underlying demographics of the employee database: "Are there any cultural and religious aspects that need to be taken into account? For instance, does a specific employer have Muslim employees? If the answer is yes, then the selection process needs to ensure that there is an appropriate Sharia Investment Fund available."
Time is on your side
Hutchins says some respite can be gained from recently announced delays to the auto-enrolment schedule.
He says that "the biggest scandals" associated with auto-enrolment could easily happen at smaller firms and that the delay granted to them provides all parties with time.
"Larger employers will be a good testing ground as they will be enlisting good advisers and are likely to be fully conscious of the risks that they are taking," he says.
Not that difficult?
Alliance Bernstein's Hutchins has been plotting his firm's approach to the opening up of DC for some time and claims that despite all the noise surrounding regulation, it should not be "especially difficult to regulate".
Hutchins argues that the difficulty is that DC requires a different mindset to DB. "The brightest minds in this industry have predominantly been in DB," he claims. "It needs a new way of thinking, a way back to basic principles and thankfully this is what the Regulator is doing."
Hutchins emphasises that making the wholesale switch from DB to DC is the real challenge. "Being a trustee of a DC scheme is a very different challenge to being a trustee of a DB scheme although often it's the same groups of people in the roles," he says. For employers, their role essentially comes down to following a due process, seeing as their role is limited to selecting and overseeing a provider.
While many fret about the shift of risk onto individual savers, it seems there are good common-sense reasons to expect occupational DC schemes to behave themselves when regulation is fully rolled out.
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