Making Sense of Pensions

Hugh Nolan

The Pensions Ombudsman has made a few slightly controversial rulings over the last 12 months, finding maladministration by schemes relative to an extremely high standard and with the benefit of hindsight. His recent ruling on the Hampshire County Council transfer case follows these precedents but goes even further.

In the latest case, Mrs H transferred to a scam pension scheme and the Local Government Pension Scheme (Hampshire Pension Fund) paid the transfer value as she requested and is now being forced to pay her benefits too. It’s great for the member that she will still get her pension benefits but the scheme has to pay twice, though the Ombudsman has kindly said that Hampshire County Council can keep any money it manages to get back from the scammers.

The background to the case is that the scheme paid a transfer of £26,234 to a scheme that had only been set up fairly recently. The member involved was approaching her Normal Retirement Age and lived hundreds of miles away from the sponsoring employer of the new occupational scheme to which she was transferring. Incidentally, the member had also declined to join the Hampshire Pension Fund originally and then joined much later. The Ombudsman took this as evidence that she was not financially astute and, therefore, argued that the trustees should have taken extra care to protect her. The scheme did send her the Scorpion literature and she signed a form declaring that she had read the leaflet and understood it was entirely her own responsibility to make sure the benefits in her new scheme were appropriate.

In fairness to the Ombudsman, the Hampshire Pension Fund seemed to believe, incorrectly, that the member had a right to take the transfer and they had no ability to stop her. In fact, she may have had a right to a transfer but she did not have a right to transfer to that particular scheme, as she was not (and never had been) employed by the sponsoring employer. That is a pretty esoteric point, and one that the transferring scheme did not know, but I can see that they might have checked further if they had realised they did have some discretion after all.

Nevertheless, the transferring scheme did warn her about scams and highlighted her personal responsibility. She chose the receiving scheme (albeit with dubious ‘advice’) and requested the transfer be made. The Ombudsman says that Hampshire should have realised that it was a scam as they didn’t check whether she worked for the new employer, but apparently doesn’t mind the member choosing an occupational scheme that she hadn’t worked for. The Ombudsman says that the recent approval by HMRC was another red flag, rather than placing any responsibility on HMRC (or pension regulations generally) for approving a scam scheme. The Ombudsman criticised the scheme for thinking it was obliged to make the payment, but has repeatedly made clear that it will uphold complaints wherever schemes do not fully comply with their legal obligations within the statutory timeframes, even where there is a strong suspicion and evidence that the receiving scheme is a scam. Successive Governments have declined to introduce legislation to give trustees an option to withhold transfers in suspicious cases but trustees are still expected to police the issue, with little or no support from the Ombudsman or legislature.

I have had conversations with members who have requested transfers to schemes that look suspicious and these members can be upset, frustrated, confused, aggressive and even abusive. I have, however, always eventually been able to persuade them that the trustees were trying to protect their best interests, leading the members to withdraw their requests (even if they later transferred somewhere else).

I thought that was a good example of how we go above and beyond the basic call of duty to administer our schemes in the best possible way. But now it seems that we are only doing what is actually needed to protect ourselves against future claims for compensation. I feel sorry for schemes that haven’t always gone to such lengths and I thank goodness that we set our own standards high enough to stand the test of time.

I am all in favour of high administration standards across the pensions industry. However, I just can’t get completely on board with an Ombudsman who sometimes seems to see trustees as an easy target for compensation, despite their best efforts to look after their members even when they don’t get much help from the rules to do so.

Andrew Kerrin

Welcome to our third Quarterly Update for 2019. We’ve only just said goodbye to British Summer Time, we thought we’d be saying hello to the post-Brexit era, but instead we’ll be wrapping tinsel around our polling cards as we head out to vote in the upcoming General Election. Anyone for a surprise Christmas gift?

You would be forgiven for thinking that there is no other news, and hoping that extensions, flextensions and even political tensions would melt away in the snows of winter … but regardless, the pensions world continues to turn and we’ve compiled our list of topical pension articles from the last quarter.

Inside you’ll find details of the new CMA requirements for trustees to engage with investment consultants and fiduciary managers and an update on your favourite subject (next to Brexit!) – GMP Equalisation. We also look at the ‘legacy’ that is RPI and the anticipated move to CPI. Should there be a professional trustee on every scheme? We look at both sides of the debate. And as if that’s not enough, we’ve got an investment market update, news from the Pension Scams Industry Group and PRAG, a summary of the TPR and PPF Report and Accounts and information on changes to Data Subject Access Requests (DSARs).   

You can’t vote for your favourite, but we do hope that you enjoy reading our take on the latest industry news.

Click on image above or this link to download.

Brendan McLean

Greenwashing

In recent years there has been a huge push for society, and fund managers, to consider environmental, social and governance (ESG) factors. This has led to claims of greenwashing. Greenwashing is when a firm claims to have a greater ESG focus than they actually do.

As people grow increasingly interested in ‘going green’, the issue of greenwashing is becoming a problem faced by all of society, not just pension schemes. Investment managers and companies are seeing opportunities to capitalise on the changing sentiment by making their products appear greener than they really are. A recent example is the fast food restaurant McDonalds. They swapped their single-use plastic straws for a paper alternative. However, in August 2019, a leaked internal document showed that the straws were non-recyclable.

From October 2019, trustees need to set out how they take account of ESG issues in their statement of investment principles (SIPs). This has resulted in a frantic push from managers to make their funds meet the standards – which could encourage greenwashing. A key issue with ESG factors is the lack of clarity on what it means, making it easier for managers to greenwash their funds.

Going colour blind

Pension schemes could have been affected by untrustworthy ‘green’ credentials from investment managers. I suspect many may not realise it has happened as it is difficult for trustees to scrutinise managers’ ESG claims. A concern for trustees is that if they allocate to a manager based on their ESG values, the manager may not act as expected, which would create a lack of trust with ESG investing. Greenwashing could, therefore, destroy investors’ confidence as they may lose faith in companies or fund managers that promote themselves as focusing on ESG issues. This could have a knock-on effect by slowing down the pace of ESG investing, which would be detrimental to the positive impact it can have. Greenwashing also makes it harder to identify managers who are truly trying to make a difference, potentially reducing the pace of ESG innovation.

The grass can still be greener

Often managers state they have been integrating ESG for many years, but their team and head of ESG are all recent hires. Trustees should look for a more seasoned team to mitigate this concern. Many managers make assertions that they have been following ESG practices for many years by excluding certain sectors. However, this is often driven by client demand rather than the managers’ ESG beliefs, so it can be tricky to get a clear understanding of a managers’ ESG credentials.

It is difficult for trustees to ensure that their investments are as environmentally responsible as managers claim. Trustees place a great deal of trust in their investment managers to act in their  best interests, but it is hard for them to monitor. Often, the easiest way for trustees to be confident that their investments are environmentally responsible is to allocate to managers who have a genuine track record of integrating ESG into their investment philosophy and process; and not to those managers who have simply jumped on the bandwagon to include it.

Trustees should look at managers’ track record of stewardship and engagement with companies, and to the quality of their ESG team. They should also work with their investment consultants to help provide a deeper understanding of the managers’ credentials.

Angela Burns

This guide is intended to be a useful reference for companies preparing their 30 September 2019 pensions accounting disclosures, whether under FRS 102 or IAS 19.

In this guide, we will review the changes in the investment markets over the last 12 months and consider the impact these will have had on a typical pension scheme. We will also review recent developments in the area of pensions accounting, highlighting issues that you should be aware of.

With the wealth of corporate advisory experience available at Spence, we are well placed to provide you with guidance in how to best manage your pension scheme liabilities.

The implications of the recent developments should be considered to help you avoid any surprises. Spence can help guide companies through these complexities and have a proven track record in navigating to the best outcomes for our clients.

We would be happy to discuss the options available to you in reaction to the market trends discussed above, including:

  • How to lock in asset gains;
  • Decrease future risk;
  • Reduce funding level volatility.

To discuss these topics further, please contact Spence through your usual contact or connect with our Corporate Advisory practice associate, Angela Burns, at angela_burns@spenceandpartners.co.uk  or by telephone on 0141 331 9984.

Angela Burns

In our last update we provided a summary of the GMP equalisation ruling in the Lloyds Banking Group court case that has required all pension schemes to equalise guaranteed minimum pensions.

Our update was very much ‘wait and see’ as a number of points had still to be clarified. 

There are still a number of outstanding issues but there has also been positive movement in some areas.

The formation of the GMP Equalisation Working Group

The first guidance from the GMP Equalisation Working Group has been issued.

Contrary to previous updates, the working party guidance has more of a ‘get things moving’ feel to it.  The path for equalising GMP’s seems a bit clearer although there are still a number of outstanding issues to be clarified.

The guidance sets out a summary of the requirements of GMP equalisation and includes some helpful worked examples on each permissible method for equalising GMP’s.

There were some interesting comments in the guidance surrounding previously raised issues:

  • De minimis cases – the guidance states that it expects most Trustees would not apply a de minimis amount, as the work required to determine the amount is comparable to the work required to calculate and pay the uplift;
  • No further liability cases  – the guidance suggests Trustees should write to members to determine if contact can be made, prior to agreeing that no calculations should be carried out;
  • Lack of opportunity cases – where members have lost out on an opportunity as a result of having unequalised benefits (for example retiring early) it will not be possible to compensate for this.

The GMP Equalisation Working Group will produce further guidance on:

  • the availability of data to carry out the exercise;
    • impacted transactions;
    • tax issues (alongside HMRC guidance);
    • reconciliation and rectification of GMP’s.

Issues still to be clarified

The following issues have still to be clarified:

  • There will be a further instalment of the Lloyds court case to determine if transferred out benefits have to be considered in equalisation projects;
  • HMRC are producing guidance on how uplifts should be treated for tax purposes.

Actions for Trustees

The guidance expects that most schemes won’t implement a solution until the tax implications are fully understood.  However, Trustees should be speaking to their advisers about:

  • An appropriate methodology given their schemes circumstances;
  • Availability of data and GMP reconciliation (bearing in mind that further guidance will be released);
  • Understanding the Trust Deed and Rules and any forfeiture rules.
Brendan McLean

Recently, the government rejected the suggestion from the British Business Bank (a state-owned bank that helps finance new and growing businesses) to reform the current 0.75% cap on annual charges that defined contribution pension scheme members pay for the default investment strategy. Maintaining the current charge cap can reduce members’ ability to invest in more alternative (and also more expensive) asset classes such as venture capital (VC).

No entry to the dragon’s den

Venture capital involves investing into early stage companies, as in the premise of the BBC show Dragons’ Den. VC investments can grow from minor beginnings into hugely successful companies, e.g. Facebook and Uber. It offers investors the opportunity of significant returns. The government’s rejection denotes that members may find it difficult to get access to a potentially rewarding area of the market which would help diversify and increase their pension pots. However, it will save them from paying high management fees, and also from the risk of their capital being locked away for a long time due to the inherent illiquid nature of the asset class.

Allowing VC and other expensive and illiquid funds to be accessible to DC members would increase member potential returns, but also increase risk. Selecting any investment manager that outperforms net of fees is notoriously difficult and there is little evidence to suggest retail, or even institutional investors, can do this successfully over time. The performance of VC managers varies considerably and there is no way of knowing which would be successful – this would put members’ capital at risk.

What’s the alternative?

A key challenge to changing the charge cap is in answering the question ‘what do we change it to?’. VC fees can become complicated as they charge carried interest, similar to a performance fee. This could result in the member paying many multiples of 0.75%. Carried interest could encourage the VC manager to take excessive risks to get their very lucrative carried interest fee. Perhaps having a higher base fee could be a solution i.e. some funds have two share classes, one with a performance fee, the other with no performance fee but a higher standard fee.

An alternative to VC could be investing into small or micro-cap passive indices as these are more correlated to VC than traditional large cap indices. This may help members achieve higher growth but will increase the volatility of returns. As most members are likely to be invested for an extremely long time (e.g. 30-40 years), many listed and passive funds could provide a similar return to their illiquid active peers without the need to allocate to expensive and illiquid VC funds.

Brendan McLean

Unrated bonds

Rated bonds have been assessed for a fee by a credit rating agency (Fitch, S&P or Moody’s), and the agency issues a rating based on the likelihood of a bond’s default. Unrated bonds are simply bonds which have not been through this process and do not appear in benchmark indices.

Many companies, particularly large multinational firms, have both rated and unrated debt in issue; they may just choose not to pay a ratings agency to analyse a particular bond.

This can be for a number of reasons, including the size of the debt issuance, the cost of obtaining a rating, the need (or lack of) for visibility, and the level of complexity of the issue. Unrated bonds do not necessarily mean less liquid, for example, The Kingdom of Spain government bonds are highly liquid, but not rated. The sovereign (i.e. the country as a whole) is rated but not each bond.

Active bond managers are able to identify market inefficiencies between two similar bonds, one rated and the other unrated. The rated bond will often command a higher price, without necessarily offering better security or value, purely on account of being rated by one of the rating agencies (the enhancement of the rating).

By investing in unrated bonds, investment managers can increase the diversification of their portfolios, enabling them to better manage risks and enhance yield.

We prefer investment managers which can make full use of their credit research skills and investment universe by allocating to unrated bonds and build portfolios that are designed to achieve superior long-term returns.

David Davison

Employers in England, Wales and Northern Ireland LGPS will be bracing themselves for the results of the March 2019 actuarial valuations which should be landing in the inbox shortly (Scottish employers have another year to wait). So, what are they likely to see?

Asset returns have been positive over the period which will have a positive impact on the funding level, all other things being equal. Inflation is also broadly unchanged over the period. There was some optimism around mortality rates although an announcement of a fall in deaths in 2019 has potentially put something of a damper on that.

However, that’s likely to be all the good news. Gilt yields have continued to fall from just below 2.3% in 2016 to around 1.6% in 2019 placing a higher value on liabilities. Gilt yields have continued to fall subsequently with yields down around the 1.0% level now.

The big issues likely to make an impact are likely to be legislative ones. These valuations will see the incorporation of additional liabilities related to GMP equalisation. In July we also witnessed the Government being defeated in the McCloud case with speculation this could cost Funds billions of pounds. The case found that the Government had forced younger members of the Judges and Firefighters schemes to join less valuable schemes while older colleagues were protected by transitional arrangements providing them with valuable additional benefits. The Government was not granted leave to appeal so steps will now have to be taken to rectify the problem. The LGPS has similar transitional protections.

These issues will likely increase liabilities and therefore funding costs.

The uncertainty created is also likely to hit exiting employers and will result in uncertainty around the impact for employers providing out-sourced services who may be left ‘holding the baby’.

Many schemes had been going through a cost cap review which suggested they may have to increase the level of benefits being provided (as there was a cost surplus), however these deliberations were deferred awaiting the impact of these changes.

Employers may have to brace themselves for further cost increases with no real viable route to escape. Hopefully the LGPS England & Wales Consultation will look at offering some additional flexibilities and a more equitable exit basis. Fingers crossed.

Alan Collins

20 years in pensions

Last week, I passed through the ‘20 years in pensions’ landmark. Year 21 is as busy as ever, but I did find some time to pause for some reflection.

1999 was my first year in a ‘proper job’. It was the year when people waited to party like Prince predicted back in 1982. It was the year when businesses were fixated by the impending doom of the Millennium Bug, which after greater preparation, pretty much came to nothing (see GDPR). In 1999, Scotland had recently qualified for a major football tournament and suffered its first of many glorious failures in attempting to qualify for Euro 2000. Ah, the days of glorious failure instead of just plain old failure.

I started work in Towers Perrin’s North of England Office (St Albans!) and so my quest for the actuarial fellowship qualification commenced. In the financial world of 1999, the Bank of England base rate was 5.0% a year (no I haven’t missed the decimal point). Long-term interest rates were expected to average at 4.5% a year for the next 20 years.

So, if you were to borrow £1,000 for 20 years back in 1999, you would be expected to pay back £2,412 i.e. £1,412 of interest. Today, the amount to pay back would only be around £1,220 i.e. only £220 on interest of around 1% a year.

The late-90s pensions industry was adapting to the post-Maxwell world of the Pensions Act 1995 (PA95) and the soon to be forgotten Minimum Funding Requirement (MFR). Amongst a raft of legislation, PA95 introduced mandatory pension in payment increases and enshrined in law the protection of pension benefits built up in the past.

It was also a time-period when it was becoming clear that the actuarial profession had significantly underestimated life expectancy. This was (and still is) another significant factor in past pension promises costing more than had been expected.

My years in pensions have sped past, now finding my home at Spence for almost ten years now. Fellowship of the actuarial profession eventually came in 2006 and I have been proud to advise many pension scheme trustees as their Scheme Actuary since 2008. I have seen the sad, but inevitable, demise of final salary pension schemes for most members. As such, my job in the main involves helping trustees and sponsors deliver the past benefits that have been built up.

To end this reflection, I mused about the most significant turning points in the pensions industry over my time. Several came to mind, but I would plump for the introduction of full buyout solvency debts on sponsoring employers and the introduction of the Pension Protection Fund (PPF).

From what I recall, the introduction of full buyout debt sort of snuck up on sponsoring employers. Of course, the vast majority want to provide full pensions for all members. However, with the huge challenges and costs of pension schemes, how many would turn back the clock and wind-up schemes with lower obligations? Very many, I am sure.

The mere existence of the PPF is often cause for celebration and rightly so. In the fifteen years since it opened its doors, it has given shelter to around 250,000 members and undoubtedly provided them with a much better financial outcome than would otherwise have been the case. So, to the next 20 years.

What will happen? Don’t ask me, I’m an actuary!

Hugh Nolan


(Almost) every stakeholder in the pensions industry wants the same thing – better member outcomes. Sponsors. Trustees. Regulators. Government. And, of course, members.

Why the odd and perhaps grammatically shady parenthesis at the start of the sentence? Well, unfortunately, operating on the fringes, or even lurking in the shadows, are parties less interested in the member outcome and more interested in personal gain. Sponsors do occasionally misappropriate members’ pension funds. Not all financial advice is given exclusively in the interests of the member. Scammers will leave retirement plans in tatters and jet off to sunnier climes without a second thought.

Governance is used widely across the industry to reaffirm how seriously we take our duties in support of better member outcomes. Quite rightly, we need to be rigorous in how we govern schemes in relation to matters of investment, risk, administration and member communications.

However, when it comes to protecting members’ interests when they transfer out of schemes, the industry is sometimes caught between a rock and a hard place. The rock being the individual’s statutory right to take their pension in a different shape or form, through a more flexible arrangement; the hard place being the industry’s desire to protect the member from making decisions that could have a detrimental effect on their financial future.

Perfect storm

To paraphrase a well-worn cliché, every cloud has the potential for rain. The significant fall in gilt yields over the last year has proved good news for defined benefit transfers with the average amount having risen substantially. However, the allure of pension freedoms, coupled with increased transfer values, may have brought on something of a perfect storm.

Members need to be aware that the decision to sail away from the safe harbour of defined benefit to the unchartered waters of pension freedoms will not always lead to an island paradise. They will need to first avoid the pirates and sharks.

The FCA has previously stated that defined benefit transfers are not generally in the interests of individuals and that advisers must provide compelling factors that mitigate the transfer. Nevertheless, between April 2015 and September 2018, seven out of ten transfers from defined benefit schemes were apparently approved by independent financial advisers.

The government has ruled that every individual with a transfer value of more than £30,000 must take independent financial advice before transferring from a defined benefit scheme. Without sufficient education and support to make the right decision for their own specific circumstances, members may not make the most appropriate decision for their future. The Work and Pensions Committee has said that the rise in defined benefit transfers is a ‘major mis-selling scandal’ and sees contingent charging – where advisers only receive payment when transfers go ahead – as a ‘key driver’ of poor advice.

Industry collaboration

Step forward the Pensions Administration Standards Association (PASA). It has launched new transfer guidance to help support members of defined benefit schemes to make better choices. PASA’s transfer guidance aims to improve the administrative efficiency of transfers, assist the overall member experience (both in terms of speed, and crucially, safety) and provide better communications and transparency. PASA’s DB Transfer Guidance is intended to make it easier for providers, advisers and members to see all the information they need to make better informed choices.

While many within and without the industry firmly believe that members are likely to be better off staying in their defined benefit scheme, the appeal of pension freedoms will often be too strong to resist.

Those members that choose to transfer need all the support the industry can provide. This new guidance is a good example of the industry working collaboratively, along with government and The Pensions Regulator, to help provide more support to members and deliver the better outcome (most) stakeholders are looking for.

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