Newsletter – April 2014


Pensions News Bulletin April 2014

The pension scheme is dead, long live the pension scheme!

In the budget on 19 March there were some radical pension announcements. Now the pensions minister’s talk of buying Lamborghinis has died down and the share price of annuity providers has bounced back, let’s look at the issues.

The Chancellor set out a number of changes that are intended to be effective from April 2015 and there is a consultation process to assess how these proposals could be implemented.

The proposals are:

  1. Defined contribution (DC) retirees to have a choice of either

    • all their pension savings as a lump sum
    • draw them down over time
    • or buy an annuity.

  2. Pension providers will have to offer DC retirees free, impartial, face to face guidance on these choices.

The Chancellor also announced changes, effective from 27 March, to allow DC retirees greater flexibility immediately. These are:

  • reducing the amount of guaranteed income people need in retirement to access their savings by income drawdown from £20,000 pa to £12,000 pa
  • increasing the amount of total pension savings that can be taken as a lump sum, from £18,000 to £30,000 (25% tax free)
  • increasing the capped drawdown withdrawal limit from 120% to 150% of an equivalent annuity
  • increasing the maximum size of a small pension pot which can be taken as a lump sum (regardless of total pension wealth) from £2,000 to £10,000, and
  • increasing the number of personal pots that can be taken under these rules from two to three.


The key concern is how many will take all their pension as a lump sum, and either spend it or invest it less sensibly than in a lifetime pension. In either case, when they run out of money what will they do?

It is certain that people will be living longer in future and will need greater levels of income in later life whether they have to fund healthy or ‘ill healthy’ retirements. At CORPIAS we have been looking at how this could impact employers.

Due to age discrimination rules employers can no longer require employees to retire at a particular retirement date. The consequences of this include:

  • an ageing and less fit workforce
  • increased ill health absence
  • exiting employees by individually negotiated settlements or legal recourse
  • lack of recruitment.

We can work with an employer to build a strategic pension and benefits framework to ensure the adverse impacts are mitigated and the virtuous cycle of recruitment, retention, succession and retirement is improved and future-proofed.

Another talking point since the budget is about how many investment funds will no longer be fit for purpose if the annuity they are aiming to purchase is no longer required. Huge numbers of investment funds would be affected. Most readers of this article with DC schemes will find their own default funds affected. This is another topic we will be pleased to speak to you about.

A further concern is how pension providers will be able to offer all DC retirees face to face guidance on the choices they have. This doesn’t seem achievable by next year but its an interesting challenge to solve. If the government really does want to start this in April 2015 it would need to be on some phased approach.

You can find the Government’s budget proposals for all savings here: “Support for Savers”.

Low cost default funds being replaced by higher cost funds

Research by Towers Watson of FTSE companies has shown that in the past year the use of passively managed defaults within trustee-run DC pension schemes has decreased from 62% of all defaults to 35%. That is a huge change to happen so quickly.

Is the trend working down into smaller company pension schemes? Probably.


It is ironic when the focus from regulators has been on reducing charges to pension scheme members, that more expensive funds are replacing cheaper funds.

Passively managed funds are system and process driven. Usually they replicate an index or other specified benchmark without allowing human judgement to influence the stock or sector selection. Because they do not require any discretionary input, they are much cheaper than actively managed funds where the judgment and skill of the manager is what the investor is looking for.

On one hand it could be that scheme trustees are worried that the volatility inherent in an equity tracker is worrying for scheme members. On the other hand it could be that the diversified growth fund (DGF), which is the smoothed return approach, is more heavily marketed to pension schemes. Which we believe is the case. The DGF is a more sophisticated approach which needs constant oversight and management of many asset classes. DGF funds may be marketed with the mantra ‘equity-like returns with bond-like risks’, but they haven’t been widespread for long enough to show a long track record of this. With sophistication comes complexity which comes at extra cost. A DGF fund is often the most expensive fund in a DC scheme’s fund range.

Other points to consider:

  1. Without smoothing you must expect volatility, especially in equities, but the principle of “£ (pound) cost averaging” makes volatility a potentially good force in regular pension savings. The important thing here is to let pension scheme members understand this.
  2. Always consider the fund returns after costs. Performance charts are usually gross rather than net of costs. They are also usually ‘time weighted’ (i.e. from start of period to end of period) rather than ‘money weighted’ (i.e. takes into account when contributions are paid in and out). ). These two tips mean that these charts do not show the returns members receive.
  3. Make sure you’re using the total expense ratio (TER) not just annual management charge (AMC) in assessments and comparisons. An extra 1% charge can reduce the pension pot over a working life by an extra 25% (Calculation from the Pension Institute at Cass Business School

New governance rules for Defined Contribution Schemes

The DWP published “Better Workplace Pensions: further measures for savers” which seeks to level the governance between trust-based and contract-based DC schemes (GPPs and GSIPPs) by setting minimum quality standards and removing outdated commercial models. The headline requirement is for all GPPs and GSIPPs to set up an Independent Governance Committee (IGC). We look at the main points that IGCs and trustee boards must master.

The “further measures” referred to in the paper’s title are further to the flexibilities which were announced in the budget and featured at the top of this newsletter. The paper which runs to 100 pages, excluding appendices and notes, sets out a great deal of explanation and intention about the following:

  • All schemes must be governed by a body with a duty to act in members’ interests.
  • Independent Governance Committees (IGCs) will protect members’ interests in contract-based schemes.
  • Stronger measures will be introduced on trust based schemes.
  • The governing body must be able to freely exercise its duty to act in members’ interests and must be able to explain how any conflicts of interest are handled.
  • The majority of individuals – including the chair – of the governing body must be independent of the pension provider.
  • The governing body must consider:
    • the design and net performance of default investment strategies
    • standards of administration
    • charges borne by scheme members, and
    • costs incurred through investment of pension assets.
  • The governing body must have – or have access to – all of the resources, knowledge and competencies necessary to properly run the scheme.
  • The chair of the governing body must produce an annual report explaining how the scheme has performed against the quality requirements.

The paper also sets out the intention to legislate for the automatic transfer of small pension pots when a scheme member changes scheme or moves employment. This will help to consolidate pension savings into an individual’s latest employer’s scheme. The Pensions Bill gives broad powers to implement the ‘pot follows member’ model, and the government intends to bring forward subsequent secondary legislation later this year.


These measures will undoubtedly add complexity and cost to pension scheme provision which is a shame for all the companies with pension schemes that the report says do a fine job with regard to pension governance and compliance. However, across UK plc the measures should help build trust and confidence in workplace pension saving and allow people to feel they have been enrolled into schemes that have been designed properly and will deliver value for money.

With regard to ‘pot follows member’ when employees transfer schemes, it is going to be a hard issue to get right. It will make it easier for people to keep track of their pension savings but there could still be a value for money and quality issue between schemes, and we are not convinced it will help people to plan better for their retirement and secure a better income as the report states.

CORPIAS is experienced in pension scheme governance and has in-house experience of pension trust management and governance committees and would be pleased to help providers and schemes set up or improve their own governance framework.

Thank you for reading.