The issue of scheme governance is coming increasingly to the fore with the Investment Governance Group, composed of Government and industry representatives, having published best practice principles late last year.
But market forces are driving the issue too. Nest has thrown down the gauntlet and rival schemes such as Now: Pensions are making scheme governance central to their investment proposition – obviously with auto-enrolment in mind.
This takes place in the context of an ongoing debate about current standards of governance for defined contribution contract and trust-based schemes and about standards of governance where trustees are supervising both DC and DB arrangements.
Contract-based schemes are also coming out with governance-like structures but actuarial firm Hamish Wilson managing director Hamish Wilson is firmly on the trust side of the debate. He believes that the host of potential problems with DC will mean that many people will seek someone to blame and a trust structure will offer some protection.
“At the end of the day, DC arrangements are a disaster waiting to happen. Inevitably Joe Public is going to look for someone to blame.” He says that in a contract DC arrangement which fails to deliver, those in the firing line will be the individuals – who won’t blame themselves, providers – who will stand back and say they weren’t giving advice, the government, and the employer.
“The Government is totally risk averse, and won’t even countenance risk sharing, but is going to introduce more legislation. That is happening through the regulator taking more interest in DC arrangements. There will be increased governance. Employers are in the firing line and once they realise they have got that role, I think they will realise that trustee arrangements are the best.
“Governance has to incorporate a functionality that calls into question the provider. If it doesn’t then it is not good governance. That is the acid test. It has got to be impartial.”
Others however do not see this issue as quite so black and white.
Mark Hodgkinson, director at governance specialists Muse Advisory, says: “Our view is there is little difference in the legal structure with respect to governance as long as value is delivered to the members. An employer needs to have very clear objectives and ensure that somebody or some entity is charged with the oversight and management. If it is a contract-based scheme, that could be someone in the senior management.
If it is a trust-based scheme, it is going to be a group of trustees or a trust-based company. Then it’s a question of how well that management is undertaken.”
But he does think there are some issues that require greater definition.
“With contract-based schemes the issue is whether the performance of the pension plan is reported to someone at an adequately senior level, and then monitored. That person needs to make sure they are right on top of making it happen. Or a firm needs a properly constituted and empowered committee within the company with the right people on it.”
Chris Atkin, managing director of Atkin & Co, sees challenges for either arrangement in terms of increased responsibilities.
He says: “The governance grey area is in relation to investment. If it is a trust-based scheme their role is almost like the role of independent financial advisers, because of issues like OMO and the need to help people make the right decisions. It is an uncomfortable position for trustees because they are almost being expected to give independent financial advice. That needs to be clarified. With contract- based arrangements, does the employer have the same responsibility or do they leave it to employees to invest in their own contract?”
Atkin believes auto-enrolment will certainly increase the pressure on contract arrangements. Do you provide direction to 10 funds or offer thousands, and how much responsibility is there to help a retiring employee get an impaired annuity rate?
He adds: “With stakeholder it wasn’t really an issue. Contributions were voluntary and therefore the employer could say ’I will choose the investment, I am paying the bill or paying contributions so I don’t have to worry about governance’. But with compulsory arrangements or auto-enrolment, has the responsibility changed? Does the employer have to ensure it is the best scheme available, that members are getting the proper advice? Risk passes to the individual, but it is being muddied by the requirement for the employer or the trustees to look after employees.”
Buck Consultants head of defined contribution and wealth Philip Smith says: “With auto-enrolment and more focus on outcomes, there is a trend for employers wanting to be a lot more engaged with their plans. They can achieve some of the governance features through the contract-based plan. But if they really want governance then trust is the way to go.
“With the Investment Governance Group, there is pretty clear guidance about what is expected. Where there is ambiguity is in the trust-based world where you have to follow that guidance. In the contract-based world it is still voluntary. But I don’t detect a huge desire to make contract-based plans more complex, but a general encouragement. Regulators will get more involved in DC plans. I think auto-enrolment will force people to take their governance more seriously and will act as a catalyst to bring more governance into the process.”
Bluefin head of technical marketing and research Robin Hames says his firm takes a pragmatic approach: “Our view is that whatever type of arrangement suits the employer’s outlook, there is a requirement to put good governance around that arrangement. I don’t think a trust in itself is a guarantee, though a lot of trusts do good governance.”
Jelf head of benefits strategy Steve Herbert believes that contract arrangements will dominate. “In the SME market, between 50 and 2,000 employees, nobody is setting up pensions other than contract-based and haven’t been for the last few years. The level of governance or pseudo governance is limited. Occasionally a firm will set up a governance committee with an adviser sitting on the panel. It is not really embedded in the GPP culture, it is safe to say.”
However, he thinks more employers will consider governance as part of their justification for not recommending Nest.
Hames suggests that such governance arrangements covering wider benefits have some strengths.
“Governance committees in a contract-based world tend to be broader. The committees we have set up for clients have tended to incorporate health and risk benefits. That can give them a broader insight, than those focused on trustee issues, for example in areas like takeup. They can consider why people aren’t joining.”
Other experts see other weaknesses in the trustee structure.
Smith says: “Trustee boards have been guilty of not paying enough attention to DC. Historically DC has been a bit of a side show, it will have to change.”
Hames says: “Within a trust covering DB or DC you should have different roles. You should treat them as two separate schemes, so each get the treatment they deserve to make sure you are delivering good outcomes for trust DC.”
Wherever advisers stand in the debate, independent consultant Rachel Vahey envisages a big role for advisers in the next few years.
“Governance, particularly of contract-based schemes, is a growing issue. This is no doubt being accelerated by automatic enrolment – and the fact each employer has to pick a scheme for most of their employees – but also by the introduction of Nest, which acts as a comparitor and is keen to display tight governance principles.”
She says the biggest governance issue is the operation of the default fund, and employers and advisers need to make sure they have a mechanism to review not just performance but also suitability.
“It is up to them to make sure that the default fund is appropriate for the changing needs of the membership, they can no longer just pick one off the peg. And that is at both outset and also on an ongoing basis, as the membership may change shape.”
Nest is certainly forthright in its advocacy of best practice. Nest chair Lawrence Churchill says: ’I think that others expect Nest to adopt the highest standards of corporate governance. I believe we are living up to this and we are determined to keep this up. Good governance benefits Nest members as it makes Nest a more efficient organisation, which is, of course, in members’ interests. Good practice is good practice and we want to continuously learn and share when it comes to maintaining high standards of governance.”
But it has also prompted other schemes to emphasis their governance standards. Now: Pensions is making a big play of theirs and boasts a high powered line up.
Nigel Waterson, former Conservative shadow pension minister and current chairman of the advisory committee to Now: Pensions, says: “We, and ATP – our mother ship as it were – have gone to some lengths not just on charging, but also to have transparent governance. On that we and Nest are on the same page. Our advisory board includes John Monks from the trade union side, Imelda Walsh, former head of HR at Sainsbury’s, and Chris Daykin, the former chief government actuary. There is a lot of independence there. We enjoy good relations but we are not part of ATP. In a few weeks’ time we will morph into being the trustee board, and in an extreme case we could sack ATP if they didn’t come up scratch under our key performance indicators.”
However Waterson suggests that some master trusts have ’popped up’ recently and he wonders why some firms that previously ignored the Turner review demographic are interested now.
“We have an anxiety about some of these pop-ups and how they operate, and whether members are central to their governance,” he says. He would like to see more regulatory guidance in this area.
However, others are less sure. Hames says: “Arguably we have had quite a bit from the regulator. The debate has to move away from ’trust good, contract bad’. It should be what a good consultancy is about. If everything needs to be led by a central government body it doesn’t say much for people who have been charging clients for their advice.”
The providers offering master trusts believe they stand scrutiny as indeed do almost all the arrangements on offer. Standard Life’s head of pensions policy John Lawson says: “Looking at personal pensions, they are pretty well governed by the FSA. We have the DWP guidance on default funds and the Investment Governance Group’s paper, which we are implementing internally at the moment. Providers undertake a lot of governance. I think the biggest risk is with own trust governance. In a lot of schemes they are amateurs. Do you want amateurs or guys who know about pensions running pensions. In the biggest firms the trustees are good, but there is a large swathe of trust-based schemes where the trustees don’t know what their responsibilities are. I think contract-based is governed better than people from the trust side of the world would give it credit for.”
He also says the master trust arrangement can be very beneficial in updating schemes. “If you have an occupational scheme with an own trust, which is costing you an arm and a leg to run because you have outsourced administration and consultancy and you want rid of that with a single clean price, then master trusts are the way ahead. You can transfer into a new scheme without member consent, as long as the trustees agree that the members are not being penalised. The master trust is that sort of middle ground, a vehicle for transferring from the old master trust world into the new individual contract world,” says Lawson.
Scottish Life’s group head of communications Alasdair Buchanan believes the provider’s governed range has been set up with attention to detail bringing in academic input on behavioural economics from Cass Business School and having been vetted by AKG.
He says: “We see governance as being very important. It is not a ’nice to have’ or a passing fad. We have developed the market-leading approach to having corporate governance on tap. We retained AKG to give an independent assessment, kicking the tyres and seeing what could be improved to ensure it provides best practice approach,” he says.
One key feature is that the highest and lowest risk portfolios, the outliers, require individual financial advice.
Vahey adds: “Every party in the process – employer, adviser and provider – needs to know what their duties are, carry them out and communicate to others. They have to be sure there are no ’cracks’, and duties are not being carried out because no-one knows if it’s their responsibility or not.
“Governance is an area where advisers can really show their worth. Employers need to understand this issue and advisers can help them. Advisers could view this as an opportunity to differentiate their offering. And, of course, this is even more significant in a RDR world where corporate advisers need to be able to show clearly to employers how they earn their fees.”