Occupational Pension Schemes (Administration, Investment, Charges and Governance) (Amendment) Regulations 2021
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Baroness Stedman-Scott
That the Grand Committee do consider the Occupational Pension Schemes (Administration, Investment, Charges and Governance) (Amendment) Regulations 2021.
The Parliamentary Under-Secretary of State, Department for Work and Pensions (Baroness Stedman-Scott) (Con)
My Lords, I am pleased to introduce this instrument, which was laid before this House on 21 June. Subject to approval, these regulations will continue the Government’s reform of occupational defined contribution—DC—pension schemes and prepare them for the opportunities that lie ahead.
With more than 10 million workers now saving for retirement in an occupational pension thanks to the success of automatic enrolment, we want these savers to achieve the best possible outcome in retirement. These regulations put improved member outcomes at the centre of the defined contribution occupational pensions market in the UK and ensure that the best interests of pension savers are driving the administration, governance and investment strategies of schemes.
By introducing a new “value for members” assessment for schemes with less than £100 million in assets and which have been operating for at least three years, we will ensure that members are not languishing in poorly governed and under-performing schemes. By requiring the trustees of certain occupational DC schemes to publish information on the performance of their investments for the first time, we will ensure that competition on overall member value replaces a narrow focus on cost.
By allowing occupational DC schemes to smooth performance fees over a multi-year period within the charge cap, we will make it easier for trustees of such schemes to pay higher fees for products where they have evidence that this will provide greater returns to members.
The Government are committed to building on the success of automatic enrolment with a consolidated, innovative, member-focused market for saving in occupational DC pension schemes. These regulations take significant action to this end. I am satisfied that the Occupational Pension Schemes (Administration, Investment, Charges and Governance) (Amendment) Regulations 2021 are compatible with the European Convention on Human Rights.
Occupational defined contribution schemes, or DC schemes, are the future of occupational pension saving. The Government are committed to ensuring that the DC market in this country can continue to grow and deliver the best possible outcomes for the millions of workers now saving in a DC scheme. These regulations take forward several measures which amend a number of existing sets of regulations. The first of these, which is made by Regulation 2 of this instrument, is the introduction of a new “value for members” assessment for occupational DC schemes with less than £100 million in assets. While there is currently more than £100 billion of pension savings in occupational DC schemes, this is split among more than 3,000 schemes. This system risks inefficiency and creating inequality. For example, some people, as a result of the scheme their employer chose, possibly years ago, may be getting a lower return on their savings, paying higher charges or having a worse customer experience, therefore limiting their engagement with their pension and outcomes in retirement. We aim to change this.
That is why this instrument amends the Occupational Pension Schemes (Scheme Administration) Regulations 1996 to require trustees of relevant schemes, a term which covers most occupational DC schemes, with less than £100 million in assets and which have been in existence for at least three years to conduct an annual assessment of the value that the scheme offers to its members. The regulations specify the criteria that must form part of this assessment. They include the quality of the scheme’s record-keeping, the promptness and accuracy of administration and the extent to which existing requirements in the Pensions Act 2004 concerning trustees’ knowledge and understanding are being met.
However, the most important aspect of this assessment is the comparison between the scheme’s net investment returns, ie the performance of its investments less costs and charges, relative to three larger schemes. Larger schemes are likely to be better governed and to achieve greater investment returns than a smaller scheme with limited expertise, capacity and budget. We expect that the majority of schemes will not perform favourably in this test.
Regulation 3 of this instrument requires schemes to report to the Pensions Regulator the outcome of this “value for members” assessment. If schemes in scope determine that they do not offer value for members, Regulation 3 of the Register of Occupational and Personal Pension Schemes Regulations is amended by these regulations to require such schemes to inform the Pensions Regulator of whether they intend to wind up the scheme or to explain the reasons for not doing so and the immediate improvements that will be put in place. These measures will encourage a quicker pace of consolidation in the occupational DC pension schemes market and help members who are stuck in schemes that are delivering sub-optimal retirement outcomes for them. Scheme consolidation is a priority for DWP so that members are able to benefit from the economies of scale and access to a diverse range of asset classes that larger schemes bring.
The other measures in this instrument aim to broaden the range of asset classes available to occupational DC schemes. At present, occupational DC schemes are primarily invested in traditional assets such as listed equities and bonds. Only a small number of the largest schemes are accessing so-called illiquid assets, such as infrastructure, property, private credit and private equity. These illiquid assets have the potential both to diversify an investment portfolio and deliver greater returns. As a result, Regulation 2 of this instrument amends Regulation 23 of the Occupational Pension Schemes (Scheme Administration) Regulations 1996 to require occupational DC schemes to report, for the first time, the return on investments after deduction of any charges or transaction costs, known as net investment returns. We believe that members deserve to know how their investments are performing and how they fare relative to other schemes.
This will also catalyse competition between pension providers not just on cost but on overall value. Employers, consultants and members should be able to assess a scheme based on this metric, and competition should incentivise trustees of occupational DC schemes to explore illiquid assets and other innovative investment strategies. This is essential given that net investment returns have a much greater effect on retirement outcomes than whether a scheme charges its members 0.3% or 0.4%.
Both these measures, the new “value for members” assessment and net investment returns reporting, have been introduced alongside statutory guidance entitled Completing the Annual Value for Members Assessment and Reporting of Net Investment Returns, which will help trustees of schemes that are in scope to meet these requirements.
Finally, this instrument makes additional changes to regulations to improve governance of occupational DC schemes. All occupational pension schemes will be required to report on the total assets of the scheme annually to the Pensions Regulator at the scheme year end.
The changes to regulations in this instrument will also require schemes to produce costs and charges illustrations for all funds and not just those currently available. They will exempt wholly insured schemes from some governance requirements and ensure that occupational DC schemes “with a promise”—a small number of schemes that contain a commitment to members—report on their statement of investment principles to those members.
In conclusion, the measures in this instrument offer opportunities to improve member outcomes and help prepare the occupational pensions market for the challenges that lie ahead. I therefore commend the instrument to the Committee and beg to move.
Baroness Janke (LD)
My Lords, we certainly agree with the policy aims and mechanisms of this instrument and endorse the Government’s actions to make sure that
“members do not languish in sub-optimal arrangements that do not meet governance requirements and are unable to take full use of investment opportunities, to the benefit of the end saver’s eventual retirement outcome”,
as the Explanatory Memorandum states.
As the Minister has said, paragraph 7.6 of the Explanatory Memorandum explains that Regulation 2 requires that schemes holding assets worth less than £100 million and which have been operating for three or more years are to compare charges, transaction costs and the return on investments with three other schemes. We are not clear how those schemes are to be selected and who is to select them. Is it the trustees, for example? Are there selection criteria other than that they have assets of more than £100 million and are personal pension schemes? If it is not the trustees, who selects the comparator schemes?
Paragraph 7.8 states:
“Where the trustees have reported that the scheme does not provide good value for members, they are also required to report whether they propose to wind up the scheme and transfer the members’ rights into another scheme or explain to TPR why … not … and what improvements they are planning to make.”
What happens if these improvements are not acceptable to the Pensions Regulator and what powers does the regulator have based on compliance or non-compliance with Regulation 3?
We would probably all agree that it is a good idea to encourage smaller funds to transfer rights or improve if Regulation 2 comparisons show poor performance, but what about larger funds? Should there not be a requirement for them to undertake the same comparisons and take the same actions if their schemes show poor value for money for their members? It is easy to see why small funds should be encouraged in this way but hard to see why larger firms are not similarly encouraged. I would welcome the Minister’s clarification on these points.
Baroness Stedman-Scott (Con)
I thank everybody who has taken part in this interesting debate for their contributions. I shall take some of the points that noble Lords have raised and will deal with them as they come.
I thank the noble Baroness, Lady Janke, for her positive endorsement of the regulations. The noble Baroness and the noble Lord, Lord Davies, asked how the schemes are to be selected. We would expect trustees to choose the scheme to compare their scheme to, and master trusts are likely to be the best schemes to compare against.
The noble Baronesses, Lady Janke and Lady Sherlock, asked about the Government’s plans for future DC consolidation. The Government have been very open that consolidation is key to the future of the defined contribution pension market and that the pace of consolidation must increase. Consolidation will improve governance and enable more occupational DC schemes to reach the critical mass needed to access a broader range of investments and drive down costs through economies of scale. In September 2020, DWP consulted on new regulations to require trustees of occupational DC schemes with less than £100 million in assets to justify their continued existence via a new “value for members” assessment, and this will come into force this autumn. This was phase 1, and now we turn to phase 2, which will look to drive consolidation further and faster.
The noble Baronesses, Lady Drake and Lady Sherlock, both raised a question about the call for evidence, which was launched on 21 June, being far too ambitious. We know from other countries such as Australia that scale is among the biggest drivers in achieving value for money for savers and ultimately better retirement outcomes. It is therefore important that we move quickly, and I echo the commitment made by the Minister for Pensions. However, we recognise concerns about the pace of change. That is why we have developed a phased approach, starting with occupational DC schemes with less than £100 million in assets. The call for evidence closed in July. We are currently considering the responses received and will issue a response in due course. We are exploring options for consolidation, and, as the Minister for Pensions said, this is likely to include all schemes, including master trusts.
The noble Baroness, Lady Drake, made the point that the PM and the Chancellor are calling for an “investment big bang” and that these measures could wrongly force schemes to invest in illiquid assets. The Government do not wish to direct the investments of trustees of pension schemes. Trustees must invest in line with their fiduciary duty—that is, in the best financial interest of their beneficiaries. Instead, we are seeking to remove barriers to investments in illiquid assets. The provisions in this instrument have received support from the pensions industry.
The noble Baroness, Lady Drake, raised the point that the Government believe that high charges are fair. We want to ensure that net returns are considered, which balances cost against performance. Low-charging investments can deliver value for money, but cost should not be the only factor.
The Deputy Chairman of Committees (Baroness Watkins of Tavistock) (CB)
My Lords, there is a Division in the House. The Committee will adjourn for 10 minutes.
Baroness Stedman-Scott (Con)
The noble Baroness, Lady Drake, referred to the PM and the Chancellor calling for an “investment big bang” and said that these measures wrongly force schemes to invest in illiquid assets. The Government do not wish to direct trustees of pension scheme investments. Trustees must invest in line with their fiduciary duty; that is, in the best financial interest of their beneficiaries. Instead, we are seeking to remove barriers to investments in illiquid assets. The provisions in this instrument have received support from the pensions industry.
The noble Lord, Lord Davies, talked about default schemes. He is correct that almost all members save into the default arrangement. Those who self-select still receive regular information on charges and are generally engaged. He raised the subject of the threshold for “value for members” assessment being set at less than £100 million, which had increased from £10 million at consultation. He asked whether it would increase further in future. The Government increased the “value for members” assessment threshold following consultation with industry. The reason for this was to capture as many potential poorly performing occupational DC schemes as possible. We have evidence that the smaller a scheme is, the more likely it is to be poorly governed. By our moving the “value for members” assessment threshold from assets under £10 million to £100 million, more occupational DC schemes will have to undergo this rigorous new assessment. This will mean that more members will benefit from improved governance, administration and returns as a result. We will review the assets under the £100 million threshold regularly but have no plans to change it at present.
The noble Lord, Lord Davies, asked how meaningful to members the information would be. The Government are taking forward several measures—dashboards and simpler statements among others. The SI is about how these schemes are governed internally. We are intervening to prevent members languishing in poor schemes.
The noble Baroness, Lady Sherlock, raised a point about CDC. I am advised that we will write to her on that. She also asked what the instrument would mean for the future of look-through and said that the Government had said that they would advise on a policy in July. The instrument does not amend the Government’s policy on treatment of such costs. In our consultation response on improving outcomes for members, published on 21 June, we state that occupational DC pension schemes should continue to look through closed-ended funds as they would all funds of funds and incorporate such costs within their regime of charges levied on members.
If there are points raised by noble Lords that I have not dealt with—
Baroness Sherlock (Lab)
I am grateful to the Minister. Could she write to me with that last point, as I did not quite catch the bit about look-through funds and look-through operations of closed-ended funds? I asked two questions. First, my noble friend Lady Drake and I both asked what the Government’s optimal number of schemes is. Would it be one big or enormous scheme—would that be fine? Is it fine to have lots of schemes? Can the Minister give some idea what the centre is in that? The other thing I asked about, which I do not think she answered, was what guidance would be given to trustees or employers who might want to consolidate but were concerned that the moving goalposts would mean that they could end up simply being moved again and, potentially, again. If she did respond to that, I apologise for having missed it.
Baroness Stedman-Scott (Con)
I will write to the noble Baroness on the three points she has raised and put a copy in the Library for everybody to see. If there is anything, having looked at Hansard¸ that we have not dealt with, other than that which the noble Baroness raised, I will write to all noble Lords.
This instrument makes several different changes to several different sets of regulations. It has one theme at its core: improving outcomes for pension savers. We have a duty to ensure that those who have engaged in pension saving in their workplace as a result of automatic enrolment can rest assured that their occupational DC pension scheme is on course to deliver the best possible outcome for them. This instrument does this by tackling poor levels of governance, shifting the attention of the market from a narrow focus on cost to overall value, and removing barriers to schemes allocating to a wide range of different assets. I therefore commend it to the House and beg to move.