Public Bill Committee...public bill committee published by authority of the house of commons london—the stationery office limited pbc (bill 012) 2014–2015 pension schemes bill

Public Bill Committee

PUBLISHED BY AUTHORITY OF THE HOUSE OF COMMONSLONDON—THE STATIONERY OFFICE LIMITED

PBC (Bill 012) 2014–2015

PENSION SCHEMES BILL

WRITTEN EVIDENCE

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Contents

Mercer (PS 01)

TUC (PS 02)

Society of Pension Professionals (PS 03)

Equity Release Council (PS 04)

John Greenwood (PS 05)

British Airline Pilots’ Association (BALPA) (PS 06)

Association of Consulting Actuaries (ACA) (PS 07)

Intergenerational Foundation (PS 08)

John Ralfe (PS 09)

National Association of Pension Funds (PS 10)

Association of Professional Financial Advisers (PS 11)

Partnership Assurance Group plc (Partnership) (PS 12)

Bernard H Casey (PS 13)

First Actuarial LLP (PS 14)

Institute and Faculty of Actuaries (PS 15)

Investment Management Association (PS 16)

NASUWT (PS 17)

Association of Professional Financial Advisers— - supplementary (PS 18)

Pension Schemes Bill 3

Written evidence

Written evidence submitted by Mercer (PS 01)

Mercer is a global consulting leader in talent, health, retirement, and investments. Mercer helps clients around the world advance the health, wealth, and performance of their most vital asset—their people. Mercer’s more than 20,000 employees are based in 42 countries, and the firm operates in over 130 countries. Mercer is a wholly owned subsidiary of Marsh & McLennan Companies, a global team of professional services companies offering clients advice and solutions in the areas of risk, strategy, and human capital.

In the UK, our client base includes employers and trustees providing occupational pension schemes to employees in all sectors of industry. We provide pensions advice and services to companies in the FTSE100, but we also have a larger proportion of clients that are employers classed as “Small to Medium sized Enterprises”, or trustees of pension schemes with sponsoring employers in this class. Our response takes the interests of our diverse client base into account.

Summary

1. The new legislative framework for pension scheme design might lead to innovation in retirement savers’ interests. However, that is a long term aspiration. Our more immediate concern is with the consequences to the thousands of existing pension schemes, and this is the focus of our submission.

2. We implore the Committee to have existing pension schemes and their members at the forefront of their minds when scrutinising the Bill and throughout its journey through Parliament.

3. Not only does the Bill, in its current form, seem likely to rewrite a swathe of pensions legislation, but the distinction between “defined benefits schemes” and “defined contributions schemes” is not as stark as suggested in the Explanatory Notes (e.g. paragraph 6). There are already a lot of risk sharing arrangements within the defined benefit world. Imposing a new regulatory structure on these would be destabilising and, in some cases, result in employers placing more employees into defined contributions schemes.

4. If the Government wants a new regulatory regime for new scheme designs, it should apply it to new schemes only. Existing schemes ought to be able to continue to be regulated under existing law and to opt into the new regime if they see any advantage to it.

IntroductIon

5. We have considered the draft Pension Schemes Bill 2014/15 in detail and the way it interacts with existing legislation. My colleagues and I have contributed to the evidence submissions being put together by the industry and professional groups we are members of, which we understand will comment on the detail of the Bill’s drafting and whether it will work from a technical perspective. Also, the Bill is very high level, with much of its application depending on subsequent regulations and legal interpretation for individual schemes, and it is not yet clear what the implications will be for specific schemes. So, rather than commenting on the Bill’s detail again in Mercer’s own submission we will only comment on general principles.

6. In particular, we are concerned that the impact of the proposed legislation on existing pension schemes and their sponsors is being overshadowed by consideration for scheme designs which do not, and may never, exist.

SpecIfIcS

7. So far, there has been very little interest in “defined ambition” or “collective defined contribution” schemes from our clients. That may change in future, and we would welcome that, but the hard fact is that our clients’ focus is overwhelmingly on their existing schemes. These include risk sharing schemes, established and operated under the existing defined benefit regime, but the rising costs of pension provision have left many of our clients wary of setting up or continuing anything but defined contribution arrangements.

8. Furthermore, due to auto-enrolment, almost all of our clients have had to review their pension arrangements in the last few years. Most have put in place money purchase arrangements to meet their new statutory obligations and are now bedding in the complex auto-enrolment framework.

9. Although the relatively small proportion of schemes with ongoing, contracted-out accrual will have to review provision again in respect of the April 2016 changes, we do not envisage employers having much appetite to spend time and money putting in place new, potentially complex, arrangements that they may perceive as creating extra costs, risks and management burden for them.

10. In our view the level of demand for defined ambition schemes is far “softer” than the evidence quoted by the government suggests1. As Mr Webb himself said, “Understandably, firms are not queuing up to declare for this form of pension provision.” Employers (and trustees) are likely to be more concerned with the effect of the Pension Schemes Bill on their existing schemes, than on what new schemes it might allow them to create.1 Hansard, HC (series 5) vol. 585, cols. 201 and 244 (2 September 2014)

4 Pension Schemes Bill

11. The draft Pension Schemes Bill creates new “Categories of Pension Scheme”. Although there might not be an intention to change the substance of regulation applying to existing schemes, the Bill cuts across and rewrites existing fundamental legislation, with perhaps unexpected, as yet unknown, and potentially destabilising consequences. The new language of “pensions promises” is particularly abstract; it does not sit well with existing pensions legislative concepts, nor with the flexibilities permitted by most schemes’ trust deeds and rules. Our clients will need legal advice to understand how their schemes should be categorised and how the rewritten legislation applies to them.

12. There may be unintended consequences particularly for those who have used more innovative benefit designs than “pure” defined contribution arrangements or “traditional” final-salary schemes. These will have been designed and their administrative arrangements set up with consideration for the current law. To change the law applying to them would be to pull out the rug from under them, with the possibility of both members and scheme sponsors being bruised.

13. Unless further Regulations are made, the Bill, in its current form, seems to categorise many existing schemes as “shared risk”, thereby changing and increasing the governance and communication requirements they must comply with. Almost all defined benefit schemes include provision for the trustees to grant discretionary benefit increases, including: the large number of final salary schemes operating discretionary increases for pre 6 April 1997 service; discretionary increases agreed as part of a scheme wind-up; and more recent designs such as those with longevity adjustment factors. It might also include schemes that seek to mirror state/public sector pension schemes because of the way their normal retirement ages are linked to state pension ages. It is not clear to us that these schemes need different, or further, regulation. We also note that clause 5(6) of the Bill as introduced only covers cases where the scheme confers a discretion to vary the benefit. We suggest that is it extended to also cover cases where the scheme confers a discretion as to whether to grant any benefit.

14. If the intention is not to increase or change the regulation currently applying to existing schemes then the new legislation should be written so that it only applies to new schemes. Existing schemes might be allowed to opt-in to the provisions of the new legislation, and some might choose to do so—many others will be content to remain where they are.

15. Then, to the extent that the Bill’s reforms are needed to encourage new and innovative pension provision, that can take place, but without imposing increased and unnecessary regulatory burden on existing schemes.

October 2014

Written evidence submitted by the TUC (PS 02)

The Trades Union Congress is the voice of Britain at work. We have 54 affiliated unions and work with them to support the six million trades union members in the public and private sectors to increase pension saving.

Background

1. This briefing covers the Pensions Scheme Bill, focusing on Part 3 containing the clauses relating to collective defined contribution (CDC) pensions.

2. The TUC is a strong supporter of the introduction of CDC pensions. We believe that the proposals would provide a welcome opportunity to improve the prospects for working people in retirement by delivering higher incomes in retirement.

3. Under CDC, employee members pool their assets and share investment and mortality risks, unlike traditional defined contribution arrangements where everyone invests their own money in their own individual pot. The pooling process means that these benefits are more stable than individual schemes, and can smooth out the ups and downs of investment markets. It also removes the responsibility for taking complex investment decisions from the hands of individuals and delivers economies of scale. But, as with individual defined contribution schemes, employers would not be required to guarantee an employee’s income in retirement.

4. We are, however, concerned that some of the specific provisions in the Bill may restrict the widespread take-up of the new CDC models the legislation aims to support. We also believe that the Bill gives insufficient attention to the need for robust governance at CDC schemes.

collectIve BenefItS

5. One of the advantages of defined contribution schemes is that they can respond to market conditions by increasing or reducing the speed at which benefits are accrued. This includes in some circumstances, albeit extremely rare ones, reducing the level of accrued benefits and pensions in payment. The ability to take such action means that CDC schemes do not amass the sorts of significant deficits that have been faced by some defined benefit pension schemes. However, it is critical that this process is undertaken in a way that does not create intergenerational unfairness.


6. Taken together, Clauses 20, 26 & 28 produce the risk that unfairness could occur. In 20 (2) (c) the Bill requires schemes to set initial targets so that they meet or exceed a level of probability specified in regulations to be drawn up at a later date. The Department for Work and Pensions has indicated that it would prefer to see these probabilities set at a high level, for instance around the 97.5% mark required at some Canadian schemes at least for core benefits. Set at this level, scheme members would have the advantage of knowing there would be a very high chance they would receive the targeted income.

7. However, it would likely see schemes amass large buffers as they are run with this demanding level of probability in mind. This has the potential to penalise older generations as younger generations benefit from the eventual distribution of excess assets. It would also mean that the targeted income levels would be set low making them less attractive to potential scheme members. Returns might also be muted as schemes invested in lower risk assets to improve their chances of reaching the desired target. Clause 28 (3) & (4) allow scope for regulations to proscribe how schemes deal with the “deficit” or “surplus” over the target probability that is amassed. Depending on how this is implemented, this too could restrict how schemes operate. For instance, some schemes may wish to keep funding levels in a window of 90 per cent to 110 per cent of probability of delivering target pensions. They may make frequent changes to increases in the target pension or even cut target pensions, including those in payment. Others schemes may deem it more appropriate to operate with wider 80 per cent to 120 per cent funding with less frequent benefit changes.

8. The overall impact could be to restrict the diversity of CDC models that could operate in the UK. We believe it would be desirable for the DWP to set a relatively low minimum level of probability, ideally around the 50% mark but certainly no higher than 65%, and then allow schemes, if they wished, to operate to higher levels of probability.

governance

9. The Pension Schemes Bill makes no provision about governance of CDC pension schemes. It refers to “trustees or managers” throughout, indicating that it would be permitted for schemes to be set up under contract-based or trust-based governance. We believe that this is a mistake and the robust nature of trust-based governance would be by far the most preferable.

10. Pension provision is notoriously open to conflicts of interest. Individuals often have little knowledge of what their pension provider is doing and little influence over their actions. In CDC there are important decisions to be made to ensure the sharing of risk between members that requires beneficiaries to have a high degree of trust in the way a scheme is run.

11. The business model of insurance companies that provide contract-based pensions requires them to extract profit from the saver. This makes them badly placed to take decisions that involve balancing the interests of investors and savers and different groups of savers. In trust-based governance trustees have a single duty—to look after the interests of all scheme members both active and deferred. They also have the ability to draw on the perspectives of employer and employee representatives.

12. It would be best if CDC pensions, like defined benefit pensions, were only to be introduced under trustee management run on a not-for-profit basis. The primary duty of the trustees should be to represent the interest of the members. The trustee boards should have members with adequate expertise to manage the investment and benefit issues they will confront. By establishing CDC pensions as trusts it would ensure they were run entirely in the interests of beneficiaries. This would avoid the potential conflicts of interests that previously hindered with-profits investment products.

13. In particular, robust governance will help mitigate concerns about intergenerational unfairness. Fears have been expressed that younger savers could end up subsidising the pensions of older pensioners if investment returns are muted. It should be noted that the current system of pure defined contribution schemes is unfair in intergenerational terms because people saving the same amounts can end up with very different retirement incomes based on the health of the financial and annuities market when they retire. Under CDC, pensions in payment, as well as those still being accumulated, can be reduced to reflect changing conditions. This is usually small and temporary. What is important is that the decision-making process is overseen by trustees with no loyalty to anyone other than scheme members.

October 2014

Written evidence submitted by the Society of Pension Professionals (PS 03)

IntroductIon to the SocIety of penSIon profeSSIonalS

SPP is the representative body for a wide range of providers of advice and services to work-based pension schemes and to their sponsors. SPP’s Members’ profile is a key strength and includes accounting firms, solicitors, insurance companies, investment houses, investment performance measurers, consultants and actuaries, independent trustees and external pension administrators. SPP is the only body to focus on the whole range of pension related services across the private pensions sector, and through such a wide spread of providers of advice and services. We do not represent any particular type of provision or any one interest—body or group.


Many thousands of individuals and pension funds use the services of one or more of SPP’s Members, including the overwhelming majority of the 500 largest UK pension funds. SPP’s growing membership collectively employs some 15,000 people providing pension-related advice and services.

The Society of Pension Professionals was previously known as the Society of Pension Consultants (SPC).

Summary

1. These comments do not cover the collective benefits provisions in the Bill, as those simply delegate powers to the Secretary of State to make regulations—without those regulations, there is not much of substance on which to comment.

2. The Bill appears to be relatively modest in its intentions and we do not have any material concerns.

3. Our concerns at this stage are as follows:

(a) some imprecision in the new classification, particularly regarding the definition of “defined benefits scheme”;

(b) lack of clarity over DC schemes with internal annuitisation;(c) lack of clarity over cash balance schemes;(d) the Bill is drafted in terms of “schemes”, therefore apparently not recognising that there could be a

number of different arrangements within a scheme. We wonder whether it might, indeed, have been better to borrow the concept of “arrangement” found in the tax legislation;

(e) the definition of “retirement income” (page 4 of the Bill as published) does not seem to recognise income drawdown.

claSSIfIcatIon of penSIon SchemeS

4. The new definitions of “defined benefits scheme”, “defined contributions scheme” and “shared risk scheme” appear at first glance to be a significant reclassification of pension schemes for statutory purposes.

5. However, on closer inspection, the changes appear to be rather more modest. The intention seems to be simply to create space in legislation for “shared risk” (or “defined ambition”) schemes in certain parts of the legislation where those schemes need special treatment, namely short service benefit, revaluation, transfer values, section 67, indexation, and quality requirements for automatic enrolment. The new classification is only used in certain quite specific areas.

Defined benefits scheme

6. The only significant positive use of the definition of “defined benefits scheme” is for the purposes of the automatic enrolment legislation. It is also used negatively, in that such schemes are carved out of the definition of “shared risk scheme”. We do have some concerns about the precision of this definition, including the following:

(a) the concept of a “promise” is vague and not defined. It could be read as meaning that no private sector scheme could be a “defined benefits scheme”. This is because, in the event of employer insolvency, a scheme might not have sufficient assets to fully secure all benefits—and so be unable to provide “a promise, at all times before the benefit comes into payment, about the level of the benefit”, thus failing the necessary “full pensions promise” requirement for a “defined benefits scheme”.

On this reading, all private sector schemes which are currently thought of as defined benefits would become “shared risk schemes” under the new definitions.

We assume that this is not intended, but the question should be put beyond doubt.(b) the requirement for normal pension age to be “fixed” excludes schemes under which normal pension

age changes by reference to state pension age, or is determined by a notice given by the employer to the employee;

(c) uncertainty over the reference to factors “other than longevity”; and(d) the carve-out for discretionary benefits in clause 5(6) does not cover scheme-wide discretions (e.g.

discretionary increases for groups of pensioners).7. Despite the fact that the definition is somewhat imprecise, we do not consider that its use is likely to cause

many problems in practice, because of the limited circumstances in which the definition is (currently) intended to be used. Nevertheless, if its use is extended in future there is potential for confusion.

Shared risk scheme

8. This definition appears intended to cover: defined benefit schemes with a defined contribution underpin, defined contribution schemes with a defined benefit underpin, cash balance schemes, defined contribution schemes with guaranteed investment returns, etc.


9. We have a query relating to defined contribution schemes, which offer internal annuitisation. If a promise has been made about conversion factors, is that sufficient to classify the scheme as a “shared risk scheme” rather than as a “defined contributions scheme”?

Defined contributions scheme10. The definition of “defined contributions scheme” is not widely used either. For the most part, the Bill

amends existing legislation to replace references to “money purchase scheme” with “a scheme under which all the benefits that may be provided are money purchase benefits”. So the new definition of “money purchase benefits” (resulting from the Bridge case) is still used for these purposes.

11. The limited circumstances where “defined contributions scheme” is different to the existing concept of a “money purchase scheme” is only likely to be relevant where a scheme offers internal annuitisation. This would be caught by “defined contributions scheme” but would not be a scheme under which all the benefits are “money purchase benefits” on the new definition.

12. The removal of the statutory concept of a “money purchase scheme” may have been intended to avoid confusion from having references in statute to both “defined contributions scheme” and “money purchase scheme” with the terms being defined differently. However, there is still potential for confusion over this.

caSh Balance SchemeS

13. We have a concern about where cash balance schemes fall in the new classification. For the purposes of Part I of the Bill, they would appear to be shared risk schemes.

14. The position is less clear in the following areas.

(a) The Pensions Act 2014 will insert a reference to “money purchase benefit” for the purposes of the new 30-day period for an entitlement to short service benefit in section 71 of the Pension Schemes Act 1993. Clause 11 of the Bill will replace this with a new concept of “non-salary related benefit”. It is not clear whether this captures cash balance schemes and whether the period for short service benefit to apply is two years or 30 days.

(b) The new revaluation provisions inserted by Schedule 2 of the Bill use the distinction between “money purchase benefit, “salary related benefit” and “flat rate benefit”. The explanatory note states that, for the purposes of the new revaluation provisions, the benefits from a “final salary cash balance scheme” are “salary-related benefits”, but this does not appear to reflect the legislation itself.

October 2014

Written evidence submitted by the Equity Release Council (PS 04)

Summary

The Equity Release Council is the industry body for the equity release sector. Born from an expansion of the remit of SHIP (formerly Safe Home Income Plans), the Equity Release Council represents the providers, qualified financial advisors, lawyers, intermediaries and surveyors who work in the equity release sector. The Council has nearly 350 members.

The Council welcomes the opportunity to provide a written submission to the Pension Schemes Bill Committee. The overall message the Equity Release Council would like to convey to the Committee is the need, following the pension reforms, for people to be able to access holistic, personalised advice which takes into account all sources of wealth for retirement, including housing wealth, to help them decide on the best options for funding their retirement. Some estimates put the housing wealth in the hands of older people in the UK at £1.4 trillion.

The Government has announced that measures to introduce a ‘guidance guarantee’ will be introduced in the autumn via amendments to the Pension Schemes Bill. The Council would like to urge the Government to think not just about pensions, but about the full range of options for funding retirement. We would also like to emphasise the need for advice to be distinct from guidance. There is a fundamental difference between the two, and if the pension freedoms announced in the Budget are to be truly successful, this must be recognised.

1. The Equity Release Council has engaged extensively with the new pension proposals, particularly the guidance guarantee, since they were announced at Budget 2014. We are aware that the guidance guarantee is not included in the Bill presently; however given that successful implementation of the guidance guarantee is vital to successful implementation of the overall reforms, and that the Government has noted its intention to bring forward amendments during Committee stage, we will seek to address this in our response.

2. We would like to strongly emphasise the importance of impartial guidance for those nearing retirement. While many people will still find that an annuity is the best option for them, an increased range of choice will mean that more people will benefit from help with planning their retirement. Therefore, we very much welcome the guidance guarantee.


3. Pensioners now have even greater autonomy in how they manage their retirement savings, so it has never been more important for people to receive help and guidance to be able to fully understand the options available to them.

4. We would emphasise that there should be a clear split between guidance—as provided for in the guidance guarantee—and advice—in the sense of regulated financial advice on specific products—with the appropriate point for the hand-off to advice made clear. The guidance guarantee must ensure that people are able to access professional independent financial advice where it is appropriate for them to do so, for example if they want to access more complex products. We look forward to more detail from HM Treasury on how the guidance guarantee will operate.

5. During our engagement with the Care Act and related consultations such as Caring for Our Future, we emphasised the importance of access to regulated financial advice given by a qualified adviser who is regulated by the Financial Conduct Authority (FCA), and has appropriate expertise in older people’s issues—particularly when taking out complex financial arrangements such as deferred payments arrangements. Given the complexity of a number of retirement products, and the fact that people approaching retirement are not always in a good position to understand the impact of their current decisions on their later life, people should have access to expert advice where they need it.

6. The Equity Release Council welcomes the suite of “principles-based standards” proposed by the FCA, which the delivery partners who will be providing the guidance must comply with. The proposed standards provide a suitable structure for the delivery partners to provide impartial guidance for those nearing retirement. We welcome the aim of the “principles-based standards” to recognise the importance of impartial, consistent and good quality guidance to create consumer trust in the delivery partners. We also welcome the fact that the standards specify the difference between guidance and advice, placing a duty on the delivery partners to signpost consumers to the appropriate specialist advice service according to their circumstances.

7. Members of the Equity Release Council abide by a similar set of “principles-based standards” to ensure that their customers are fully aware of the implications of using housing wealth as a source of income in later life. The Council recognises that access to information and guidance is absolutely essential for people to properly understand how equity release can help them—this is reflected in the code of conduct that members of the Council must comply with. We strongly believe that our standards provide a valuable point of comparison for the rest of the financial services sector when looking to develop the guidance guarantee.

8. We are particularly keen to emphasise the need for the guidance provided by the delivery partners to take into account all sources of wealth, including housing wealth, when planning for later life. We would note that the FCA’s proposed standards are heavily focused on pension savings as the only source of income in later life. Equity release provides an alternative source of income which can help supplement retiree’s standard of living. Increasing numbers of over-55s are looking to draw upon on the wealth contained with their home to achieve financial security and stability in later life. (Some two-thirds of equity release plans are for drawdown rather than a single lump sum).

9. Housing equity is now increasingly playing a greater role in supporting older people in later life, as it continues to be the most significant asset for many people—often more than their defined contribution pension savings. For many, unlocking the wealth tied up in their property may be a more viable and appropriate option than an annuity or insurance policy, or may complement other sources of income.

10. Our autumn 2014 Equity Release Market Report reveals that in the first half of 2014, the average amount of housing wealth held by those over the age of 55 was £271,293. The average amount lent under an equity release policy increased 12% to £63,741, compared with the first half of 2013. To place this in context, the average DC pension pot is about £20,000. So there is a whole generation of people for whom their housing wealth will be more significant than their pension savings in securing a comfortable retirement.

11. Another issue which needs to be considered is the timing of the guidance provided. Ideally, guidance should not be a one-time event. Initial guidance should be provided five to ten years before retirement to allow people to start planning (for example, increasing numbers of people will want to consider working beyond 65, in part to maintain their family finances), with further guidance just prior to retirement. People then should have access to guidance at key points during their retirement, allowing them to consider their options as their circumstances change—for example if they are considering taking out a new product, such as equity release, to provide additional income, to improve their home or if their care needs change, or make adaptations to their home so they can remain in their own home for longer.

12. If, as the Government hopes, new products come onto the market in response to the changes to how people access their retirement funds, people may wish to reassess their options part way through their retirement. Therefore, guidance should be available at various points during retirement, to ensure that people are continuing to get the best deal for their circumstances.

13. Finally, a further issue we would welcome further clarification on is which body will be responsible for accrediting the guidance providers—and on how the FCA will enforce the standards which are set. Consumers are concerned to ensure that the guidance they receive is impartial, but also that it is sound guidance delivered by advisers who can demonstrate their competence in this area. There will be a need to ensure that advisers have a broad knowledge of issues relating to retirement and later life planning and that they know when to refer


consumers for more specialist advice. The structure of financial advice qualifications means that many advisers will not be qualified to give advice across the full range of areas relevant to older people (or may not have the relevant permissions from the FCA).

14. In summary, we are keen to ensure that the amendments brought forward by the Government in relation to the guidance guarantee recognises the following points:

— The amendments provide clarity on the distinction between advice and guidance, ensuring that people are able to access professional independent financial advice where it is appropriate for them to do so.

— The guidance provided is fully holistic and considers all forms of funding for retirement—including housing wealth.

— The need for further detail on the accreditation of the guidance providers and the enforcement of the principles based standards.

— The timing of the guidance, including the potential to provide guidance from age 55 onwards and to provide the opportunity for further guidance should people’s circumstances change during retirement.

October 2014

Written evidence submitted by John Greenwood (PS 05)

1. I am editor of Corporate Adviser magazine, a magazine for pensions consultants. I am also the author of the FT Guide to Pensions and Wealth in Retirement, former deputy personal finance editor of the Sunday Telegraph and a frequent freelance to several national newspapers.

2. The unprecedented liberalisation of the process for withdrawing pensions, outlined in the Budget 2014 and taken forward within the Pension Schemes Bill, creates huge new areas of potential tax leakage that appear to have been completely missed by the Treasury, the Office for Budget Responsibility and those advising them. It is in this area that I believe I have information and understanding that will be of particular interest to MPs debating this bill.

3. The Treasury’s prediction of £3bn extra tax revenue resulting from its freedom and choice in pensions policy, set out at Chart 1.11 in the 2014 Budget document, appears wildly inaccurate—I believe the Treasury will lose much more money than it will gain. I also believe the Budget papers show the Treasury was not aware of this issue at the time the Budget was delivered.

4. The freedom to access pots entirely once an individual reaches age 55, creates an opportunity for anyone over that age to avoid liability for both employer and employee National Insurance, as well as income tax.

5. I calculate that in excess of £20bn could be lost in the first year of this new policy if everyone over 55 takes advantage of this new option. I have presented this figure to numerous experts in the pensions industry, and none have suggested that the potential loss is not of something of that order. In the course of my job I regularly speak to the most senior professionals in the pensions industry and I am yet to get a kickback on the figures I have put forward. I do not believe that everyone over 55 will take advantage of this loophole, but even if 10 per cent do, that is still a £2bn loss in the first year, a considerably worse outcome than the £300m net gain predicted by the Budget documentation.

6. The Treasury has published measures to restrict tax leakage, which by my reckoning reduce the potential loss per year to around £10bn a year thereafter. But the Treasury’s attempt to close the loophole—the reduced annual contribution allowance of £10,000 pa for anyone taking pension benefits—only reduces the potential for tax leakage for the 2016/2017 tax year—it does virtually nothing to limit tax losses of up to £20bn in the 2015/2016 tax year.

7. Here is how it works—under the current rules individuals over age 55 can start drawing their benefits, but, tax-free cash aside, they can only draw cash out at a rate prescribed by the Government Actuary’s Department, because pension must be paid as income. Therefore, anyone who opts to have their entire salary (less minimum wage, which must be paid by law) into their pension, can build up a big pension pot and will avoid a lot of employer and employee NI, but will not have enough to meet their day-to-day expenses.

8. Under the new rules employers can choose to pay employees into two pots, both of which have complete access for those over 55—salary into the current account or pension into the newly flexible pension account.

9. Payments made through the salary channel attract employer NI of 13.8% on everything over £7,956. Employees also pay NI of 12% on everything over £7,956. And employees pay income tax on the entire amount.

10. Payments into pension are free of both employer and employee NI, and a quarter of them can be taken as tax-free cash.

11. Salary sacrifice for pension contributions is legal and the strategy of maximising it has been used for years by senior executives looking to boost their pension contributions in the year before retirement—they have


been able to do this under current rules because they tend to have other money to live off, so don’t need the income.

12. Salary sacrifice for regular pension contributions is used by a very large proportion of large and medium-sized companies, as well as DB schemes.

13. By opting to be paid through pension via salary sacrifice rather than 100 percent through salary, an individual on £40,000 could cut their total tax and NI bill almost in half, from £9,845 to £4,997. Factoring in lost employer NI, the total cost to the Revenue would be £5,484, a loss off 62 per cent.

14. I originally estimated the total potential tax loss figure, with assistance from industry professionals, at £24bn, a figure that appeared in the Telegraph newspaper on May 29, 2014, but I believe that £20bn is probably closer. This is on the basis of every one of the 5m or so people over age 55 and below state pension age taking advantage of the loophole.

15. Clearly not everyone will do this—many employers will baulk at the complexity. Larger employers may decide it sounds like a wheeze and be worried about reputational risk. But I speak to corporate pension advisers on a daily basis and they say some employers, particularly SMEs will definitely want to go for this.

16. A further avenue of revenue loss is through bonuses. For anyone over, or approaching the age of 55, flushing bonuses through pension will now become the norm. Take the cash through salary and you pay tax and NI on the whole sum, but pay it into a pension and you pay no NI and a quarter of the fund is tax free, and you can still take your money tomorrow.

17. I have made at least six requests to the Institute of Fiscal Studies for some comment, reaction or perspective on the issue and the veracity of my own numbers. They have declined to put someone forward to speak to me, for reasons best known to them.

18. The Government has attempted to close the loophole while at the same time retaining the flexibility of the new reforms, which have proved massively popular with the public. But it cannot do both. Its only lever is the reduced annual allowance for those who take their cash early, but this has been designed so that it does not impact anyone but the highest earners. Earners of all income brackets can save thousands through these new rules. The Treasury’s response to the consultation on these measures actually stated that the £10,000 annual allowance would not affect 98% of the population. So by that same token, it is therefore no deterrent to people taking advantage of this tax avoidance opportunity.

19. In its response to a Freedom of Information Act request from Corporate Adviser, my magazine, for information on the costings and assumptions used in the formulation of the policy, the Treasury has said nothing that suggests it was fully aware of all the ramifications of this policy at the time it was presented to the House.

20. Corporate Adviser requested details of the assumptions made as to increased use of pension rather than salary for remuneration when calculating the effect of the policy—a strategy that would cut the state’s tax take by over £3,000 for each £10,000 channelled through pension.

21. The budget papers set out an increase in revenue of £320m in 2015/16 rising to £1.2bn in 2018/19. Clearly it has made some assumptions to get to these figures—namely that somewhere south of £3bn more will be taken out through flexible drawdown in 2018/19 than would have been the case if people were using annuities or old-fashioned drawdown, and that income tax will be paid on these sums.

22. But the Treasury has given no response to the question ‘did it spot the salary sacrifice issue’ other than ‘go and look at the Budget papers’—specifically the budget Policy Costings document.

23. The Policy Costings document focuses solely on the number of people who access their money early. The statement ‘this leads to an increase in income tax received in early years as individuals will now pay tax on the withdrawals from their pension pot’ is the only post-behavioural costing factor referred to by the Treasury in the entire paper, other than a single line that says ‘adjustments are also made for the higher costs of pensions tax relief to reflect the increased attractiveness of pension savings for some individuals’. There is no mention of lost National Insurance.

24. Under the Policy Costings document’s heading ‘Areas of uncertainty’, reference is only made to the number of individuals making use of the new withdrawal facility, with no mention of the number of employers that could use it to cut their payroll costs.

25. The document then goes on to make the claim that the policy ‘results in increased income tax receipts in each year until 2030’, although it gives no figure for increased expenditure for pension credit and other passport benefits as people spend their money early. Australia has a similar system to that which we are moving towards. The Australian government’s Murray review of the financial system has found that a quarter of those with a pension pot at age 55 have spent the lot by age 74.

26. Detailed example—how salary sacrifice cuts the Treasury’s tax take

An employee aged 55 or older is paid £40,000 a year.

If the entire sum is paid as salary, the individual pays employee Class 1 NI Contributions at 12% for earnings above the primary threshold of £7,956, totalling £3,845.28.


He also pays 20% income tax on earnings above the £10,000 personal allowance, totalling £6,000.

Total tax paid by individual = £9,845.28

Total post-tax income = £30,154.72

AND His employer also pays employer NI contributions of 13.8% for earnings above the primary threshold of £7,956, totalling £4,422.07.

Total tax paid to HM Revenue & Customs = £14,267.35

If the individual opts to receive just the minimum wage as salary (£11,484.20 assuming a 35-hour week), and gets the balance of £28,515.80 paid into a pension, no employer or employee NI is due

From April 2015 the entire pension can be drawn immediately.

tax on Salary

The individual pays employee Class 1 NI Contributions at 12% for earnings above the primary threshold of £7,956, totalling £423.38.

20% income tax is due on earnings above the £10,000 personal allowance, totalling £296.84.

Total tax on salary £717.22

Plus the employer has to pay NI of 13.8% on earnings above the primary threshold of £7,956, totalling £486.89

tax on penSIon

The individual receives 25% of £28,515.80 as a tax free lump sum = £7,128.95

The remaining £21,386.85 is liable for income tax at 20% = £4,277.37

Total tax paid = £4,997.59

Total post-tax income = £35,005.41

Total tax paid to HM Revenue & Customs (incl employer NI) = £5,484.48

Loss to HMRC through freedom and choice in pensions = £8,782.87 (62% of its revenue when paid through salary)

October 2014

Annex

a poll of 39 of the top penSIon conSultantS In the country

Do you expect any of your employer clients to flush more over-55s pay through pension rather than salary as a result of the freedom and choice in pensions changes?

1. Yes 53%

2. No 47%

Assuming £20bn or so of NI and income tax can be avoided by over-55s flushing cash through pension rather than salary in 2015/16, what proportion of that figure will be avoided?

1. None 0

2. 0–10% 32

3. 10–20% 26

4. 20-30% 18

5. 30-40% 11

6. 40-50% 3

7. More than 50% 3


Written evidence submitted by the British Airline Pilots’ Association (PS 06)

IntroductIon

1.1 The caps placed on compensation when a pension scheme is placed into the Pension Protection Fund (PPF) have an onerous effect on a number of our members, and other professional workers, who have contributed large amounts to the schemes. We would urge the committee to investigate how an amendment to this Bill could be used to relieve this unfair situation by restricting the cap to ‘moral hazard’ cases, or at least significantly increasing the cap.

1.2 This matter is of topical importance as there has been press speculation that a scheme affecting some of our members may enter the PPF. We have no knowledge as to whether this speculation is accurate, but if it were, than the issues raised in this evidence will be very apposite.

Background

2.1 Schedule 7 of the Pensions Act 2004 sets out the basis on which the Pension Protection Fund pays compensation where a pension scheme becomes insolvent following the insolvency of the sponsoring employer, and the scheme is transferred to the PPF. It identifies the people to whom compensation is payable, the basis on which compensation is calculated, and the limits on the compensation that is paid.

2.2 So far as the limits are concerned, in broad terms:

a. Compensation is calculated as 100% of the entitlements of members who had already retired over the scheme’s normal pension age when the scheme entered into a PPF assessment period, or who had retired on the grounds of ill-health, and 100% of the entitlements of family members who are entitled to benefits through such members;

b. For other members compensation is calculated as 90% of the members’ entitlements;c. In both cases, the requirements for inflationary pension increases are as specified in the schedule, and

that might be at a lower rate than the increases provided for under the rules of the scheme in question; and

d. Except in the case of members and their family who are entitled to 100% of the scheme entitlements, a cap is applied to the benefits that the PPF can pay.

2.3 The cap is set annually by Orders made by the Secretary of State. It increases in line with the general level of earnings. It varies according to the age of the person concerned. Currently, for a 65-year-old the cap is £36,401.19. The cap is applied before the 90% entitlement is calculated, which in effect means that the compensation which a 65-year-old may receive is limited to £32,761.07 (i.e. 90% of the cap).

2.4 The cap was amended by the Pensions Act 2014 so that a higher limit applies if the person concerned had 20 years’ or more pensionable service in the scheme: it increases by 3% for each complete year of pensionable service over 20, subject to an overall maximum of twice the standard cap. This amendment, introduced by Section 50 and Schedule 20 of the Pensions Act 2014, has not yet been brought into force.

2.5 The cap does not affect many people; however the impact of the cap on individuals can be catastrophic. It bites if a member had a lengthy period of pensionable service (and therefore a scheme entitlement equal to a greater proportion of final pensionable salary), or if they have a relatively high salary (and therefore a scheme entitlement equal to a proportion of a higher amount).

2.6 BALPA represents pilots who have lost more than 50% of their expected pension, and others who will suffer a substantial loss over their retirement due to a combination of the cap and lower indexation of pensions in payment. This includes a number of former BMI—British Midland pilots whose pension scheme was entered into the PPF fund when the company was bought by International Airlines Group (IAG), the owners of British Airways, in 2012.

prevIouS conSIderatIon of the lImItS on ppf compenSatIon

3.1 The limits applicable to PPF compensation were discussed at length in Standing Committee B when the Pensions Act 2004 was considered by Parliament. The then Pensions Minister (Malcolm Wicks) explained that:

3.2 The cost issue is important, but the greatest risk to the pension protection fund is, without question, moral hazard—that those with the ability to influence the way in which a pension scheme is run will take less care than they otherwise would because of the new PPF. Scheme decision makers might deliberately undertake certain activities or fail to take action if they know that the PPF will step in 100 per cent. They may make risky investment decisions or not adequately fund their schemes, especially if their employer is in difficulty and they have to make hard choices about where to put the money. Also, others with influence may be less inclined to intervene if they, or their members, will not lose out. We are concerned about moral hazard.

[Official Report, Standing Committee B, 30 March 2004; c. 486.]

3.3 It is clearly important to ensure that people in a position to influence the way in which a pension scheme is run do not manipulate it (or the finances of the sponsoring employer) with a view to benefitting themselves at the expense of the PPF. But imposing a cap on compensation is not the appropriate way to do so because it does


not distinguish between members who are entitled to a pension above the level of the cap and who are able to influence the company, and those who are entitled to the same pension but are not in a position of influence. There are other provisions in the Act that deal with “moral hazard” including:

a. Section 38, which enables the Pensions Regulator to require a person to provide additional funds for a scheme if he or she has done something (or failed to do something) which is materially detrimental to the scheme or which reduces the liability of the sponsor to make good any deficit;

b. Section 52, which enables the Regulator to reverse any transaction at an undervalue that reduces the assets of a scheme, where the transaction took place within two years of the sponsor’s insolvency;

c. Paragraph 35 of Schedule 7 which says that any rule changes that increase benefits that were made within three years of PPF assessment are to be disregarded;

d. The same paragraph also requires recent discretionary increases to be disregarded;e. More generally, the Regulator has the power to impose a civil penalty (i.e. a fine) or to ban a person

from being a trustee if he or she contravenes any pension legislation or ignores an instruction from the Regulator (an “improvement notice”).

3.4 A cap is too blunt an instrument to ensure that people with influence do not act in a manner designed to game the PPF. It hits people who do not have any such influence as well. Concerns about possible misconduct should be specifically addressed at the conduct that causes concern.

3.5 The operation of the cap was also considered in Committee when the last Pensions Bill was before Parliament. The Minister explained that the cap affects less than 1% of people receiving PPF payments, but a need was seen to protect members with pensionable service in excess of 20 years without benefitting:

... the fat cats at the top.

[Official Report, Public Bill Committee 11 July 2013; c. 422]

concluSIon

4.1 We do not represent “the fat cats at the top.” We represent pilots who have worked hard and contributed huge amounts to their pension schemes. We think the original, well-meaning intent to prevent wrong-doing has resulted in unfair and unjust unintended consequences.

4.2 We would urge the committee to consider these points during the Bill’s passage through the House. We believe there may be legislative solutions to these areas which Members may be able to offer as amendments to the Bill.

4.3 BALPA is happy to provide further information and detail to supplement this evidence if we are able to do so.

October 2014

Written evidence submitted by the Association of Consulting Actuaries (ACA) (PS 07)

1. IntroductIon

1.1 The Association of Consulting Actuaries (ACA) welcomes the main aim of the Pension Schemes Bill, which is to establish a new legislative framework for shared risk (defined ambition) schemes. Whilst we are disappointed that the Government has decided not to proceed with ‘flexible defined benefit’ options in the immediate future, we are pleased that the Government is proceeding with the other proposed models for defined ambition schemes. We believe that such schemes have the potential to provide employees with some measure of certainty, whilst also restricting the level of risk being faced by employers. Over time, we expect that a number of new scheme models will be established in the space being created between traditional defined benefit and defined contribution schemes.

1.2 We also welcome the Treasury’s proposals for enabling increased flexibility in drawing benefits from defined contribution schemes (the consequences of which for DWP legislation will need to be contained in this Bill and which we understand are likely to be introduced at Committee stage).

1.3 The ACA’s 1,750 members provide advice to thousands of sponsors of UK pension schemes, including most of the country’s largest schemes. ACA members are also scheme actuaries to schemes covering the majority of members of private sector defined benefit pension schemes. Increasingly, actuaries are involved in advising on defined contribution schemes and would expect to advise on the design and implementation of shared risk schemes.

2. executIve Summary

2.1 Whilst we are fully supportive of the aim of this legislation, we have concerns as to the drafting of Part 1 of the Pension Schemes Bill, in particular because of the potential impact on existing schemes and the interaction with existing definitions of benefit types. Whilst pensions professionals will undoubtedly adapt to


the new terminology, we are concerned that there is a possibility for confusion amongst members, particularly if they are told that their scheme (which they thought they understood) now has a new description (when in fact there has been no actual change).

2.2 We are also supportive of the concept of ‘collective benefits’, but note that the legislation is unclear as to the roles of ‘actuary’ and ‘scheme actuary’.

2.3 We support the extension of the statutory right of a transfer from DC schemes to continue for as long as benefits are uncrystallised, and would argue for further extensions to the statutory right to a transfer (and the associated statutory discharge) to enable full transfers from DB schemes up to normal pension age as well as a statutory discharge where partial DB transfers are allowed by a DB scheme.

3. categorIeS of penSIon Scheme

Part 1

3.1 Part 1 of the Pension Schemes Bill sets out to divide all pension schemes (both existing and future) into three mutually exclusive categories: ‘defined benefits’, ‘defined contributions’ and ‘shared risk’ (‘defined ambition’). This entails the creation of brand new definitions for each of these categories. Whilst we are fully supportive of the aim of this legislation (to create a regulatory space for shared risk schemes), we have concerns as to the drafting of this part. We would also note that this legislation is for the most part enabling and it will be useful to understand better the policy intent underlying the various delegated powers.

Recategorisation of schemes

3.2 In principle, it would seem appropriate that this legislation should cause the minimum disruption (and hence minimal additional cost) to existing schemes. It is therefore desirable that trustees who currently think of their scheme as defined benefit should continue to think of it as ‘defined benefits’ and so on. However, this is not possible as the legislation is currently framed.

3.3 It seems inevitable that some types of schemes will find themselves effectively reclassified under one of these new definitions. For example, cash balance schemes or defined benefit schemes under which normal pension age can vary will now find themselves classified as ‘shared risk’ rather than ‘defined benefits’. Some moderate level of reclassification is appropriate and meets one of the objectives of the overall policy, i.e. to inform members about the risks they face in their pension scheme.

3.4 However, it is important that such reclassifications are kept to a minimum to reduce advice and communication costs. For example, an existing defined benefit scheme that also offers members benefits on a defined contribution basis (for example, through an AVC or top-up fund) would be classified as ‘shared risk’ under the Pension Schemes Bill since it offers a ‘pensions promise’ in relation to at least some of the retirement benefits of each member, but does not meet the test of a pure ‘defined benefit’ scheme. At present, most defined benefit schemes offer an AVC facility (because of a legal requirement to do so before 2006) so, as it stands, the Pension Schemes Bill would reclassify most defined benefit schemes as ‘shared risk’. We understand that the regulation-making power under clause 6(2) will be used to split defined benefit schemes with AVCs into ‘defined benefits’ and ‘defined contributions’ schemes. Clearly, it will be helpful to have this confirmed during the passage of the Bill through the House. However, this does expose a flaw with the approach taken to the drafting: it ought not to be necessary to utilise secondary legislation to correct for misclassifications that follow from applying the primary legislation.

3.5 We also understand that the regulation-making power under clause 6(1) will need to be used so that a scheme that has within it defined benefit and defined contribution sections, only one of which is still open to members, is regarded as two separate schemes. Whilst we can appreciate the logic of this in the abstract, we are concerned with the potential confusion introduced as the scheme is not split in reality. Moreover, other legislation sponsored by the Department for Work and Pensions will continue to regard the scheme as not being split.

Consequences of being ‘shared risk’

3.6 It is not clear from the Bill what the consequences are if a scheme does find itself categorised as ‘shared risk’. We understand that the intention is for further disclosure and governance requirements under secondary legislation and it would be helpful to explore what these are, and how onerous they may be. The one specific power granted under the Bill in respect of shared risk schemes is a power to create exemptions from indexation (which we welcome as providing a framework for future schemes incorporating conditional or discretionary indexation, although we understand that there is no immediate intention to commence this provision).

3.7 We also expect that there will be amendments needed to tax legislation in due course to provide appropriate methods for testing benefits from new schemes that are classed as ‘shared risk’ against the annual and lifetime allowances. This is because the current methods may give inappropriate tax outcomes for the new designs that the Bill is intending to facilitate.


Interaction with existing definitions3.8 These three new definitions of pension scheme operate alongside existing definitions of ‘benefits’. The

Finance Act 2004 s152 effectively divides benefits for tax purposes into ‘defined benefits’, ‘cash balance’ (a subset of money purchase) and ‘other money purchase’ (money purchase which is not cash balance)—there is (appropriately) no intention to change these. Existing DWP legislation (the Pension Schemes Act 1993 s181) has its own definition of ‘money purchase benefits’. This was recently amended by the Pensions Act 2011 s29 to make clear that only benefits calculated solely by references to the assets available to the member could be ‘money purchase’ (in other words benefits in respect of which a deficit could never arise). Except in the context of auto-enrolment (Pensions Act 2008 s21), there is no explicit definition of ‘defined benefits scheme’: certain provisions in legislation (such as the funding requirements in the Pensions Act 2004 Part 3) are restricted indirectly to defined benefits schemes (by applying them to occupational schemes other than those providing solely money purchase benefits). Until recently, cash balance benefits were only defined in DWP legislation in the context of indexation in payment. There has been a small extension to the application of cash balance benefits following the DWP’s narrowing of the definition of money purchase benefits, but other than this, cash balance benefits remain in the same ‘not money purchase’ category as defined benefits.

3.9 The new Pension Schemes Bill adds further complexity to already difficult legislation by putting a new layer of definitions at a scheme level on top of the existing level of definitions at a benefit level. This new layer is likely to add further to the legal and other advice costs involved in establishing schemes to ensure that the scheme and the benefits it provide are correctly classified under the various pieces of legislation. It has to be questioned as to why this is necessary when, to date, definitions at the benefit level have proved to be perfectly suitable. We also understand that there is no intention to adjust the benefit level approach in existing DWP legislation, so current obligations will continue to be driven from this level, whilst new obligations or easements may be driven from the scheme level approach.

3.10 We find the choice of the terms ‘defined benefits’ and ‘defined contributions’ in the Pension Schemes Bill unhelpful. These new definitions categorise pension schemes from a completely different perspective to that of all the other definitions used for pension benefits, by way of the promise being provided to scheme members, yet they use terminology that is remarkably similar to terms that are already in common usage amongst both pension experts and pension scheme members. Everyone with any knowledge of pensions will confidently say (using everyday language) that a defined contribution scheme and a money purchase scheme are identical. This identity is fundamentally undermined by the Pension Schemes Bill, since a ‘money purchase scheme’ (i.e. a scheme which solely provides ‘money purchase benefits’) is not the same as a ‘defined contributions scheme’.2 It appears that all money purchase schemes will be defined contributions schemes, but the converse will not be true: there may be defined contributions schemes under which there is no pension promise in the accumulation phase, but which nevertheless do not provide solely ‘money purchase benefits’ as defined in the Pension Schemes Act 1993. (Examples would be schemes providing solely collective benefits, or schemes in which pensions from defined contribution pots are secured within the pension scheme.) Clearly, pensions professionals will do their best to use the new terminology correctly, but the potential for confusion among members or lay trustees is very great.

3.11 Whilst it may now be too late in the process for a complete rewriting of the Pension Schemes Bill, it is important that the disadvantages of the approach being taken are realised. In particular, any new disclosure requirements should not require members to be told which definition in the Pension Schemes Bill their scheme meets since that could cause confusion, an outcome contrary to the aim of giving members greater certainty over the nature of their benefits.

Drafting issues3.12 The terminology of ‘pension promise’ is a relatively new one in pensions legislation and we understand

that ‘promise’ is not a fully defined term in wider legislation. We expect therefore that legal interpretations as to what does and does not constitute a promise will vary and that case law may be needed to establish the definition properly.

3.13 We find the parenthesis ‘other than longevity’ in clause 5(3) unclear. If a scheme includes a promise about longevity factors, does that prevent it from meeting the definition or not?

4. collectIve BenefItS

Part 34.1 The ACA supports the development of a framework to create new collective defined contribution (CDC)

schemes.

4.2 The Pension Schemes Bill proceeds by creating a new category of ‘collective benefits’ (not ‘schemes’) which will typically meet the requirements to be a ‘defined contributions scheme’ under Part 1. It will be confusing to many members that a scheme that enables the sharing of risk between members through the provision of collective benefits will not meet the requirement for a ‘shared risk scheme’ (which requires the 2 Although the Pension Schemes Bill removes all mention of ‘money purchase scheme’ in an attempt to reduce the potential for

confusion between these two terms, it continues to exist in all but name.


provision of a promise).3 It is not clear that this was the only or best way to draft this legislation, although we note that in practice wholescale redrafting is unlikely to be possible.

General requirements for collective benefits4.3 In outline, the principles set out in the Bill seem to create a workable and practical framework for

collective benefits, although we will need to see the regulations to be sure. We would welcome a full consultation on the details of the secondary legislation.

4.4 The framework requires the setting of targets and the assessment of the probability that the scheme meets those targets. Where that probability is lower than or exceeds a level to be set in regulations, trustees may be required to have a policy for dealing with a surplus or deficit. We would caution against too prescriptive an approach to the required probability in the secondary legislation. It would not be helpful if some of the gains that may be achievable from a collective benefit scheme were to be lost through an over-cautious investment strategy driven by the need to meet the scheme’s target level of benefits with a hard-coded probability.

Role of the actuary4.5 The Pension Schemes Bill gives a number of roles to ‘an actuary’ (e.g. in clauses 20, 26 and 27). In

each of these clauses, the regulations indicate that the trustees may be required to obtain the necessary report or certification from ‘an actuary who has specified qualifications or meets other specified requirements’. Clause 32, however, includes a regulation-making power for the trustees to be required to obtain advice from ‘the scheme actuary’ (the term to have the meaning given in regulations).

4.6 Although the term ‘scheme actuary’ is widely used in common parlance, section 47(1) of the Pensions Act 1995 defines the role simply in terms of ‘the actuary’, and this is the term most commonly used in legislation (although ‘scheme actuary’ is used in the Pensions Act 2008 in the context of certification against the test scheme standard for auto-enrolment purposes). It may be therefore that a reference to ‘the actuary’ throughout would be preferable. It is not clear on the current drafting whether the intention is that ‘the scheme actuary’ would provide advice under clause 32, but that any actuary would be able to provide the certifications and reports required. We would expect a single named actuary (the scheme actuary in common parlance) to be responsible for all the statutory requirements in relation to a scheme providing collective benefits and for the drafting of the legislation to reflect this.

5. dWp conSequenceS of the treaSury’S flexIBIlIty propoSalS

5.1 The Pension Schemes Bill will include legislation consequential on the introduction of greater flexibility for members of occupational pension schemes with money purchase benefits (which we describe here for ease of usage as ‘DC schemes’—noting however that this is not the same as ‘defined contributions’ schemes as defined by Part 1 of the Pension Schemes Bill). With the exception of clause 14 on the prohibition on transfers from public service schemes (which will need to be amended to reflect the policy intention to allow transfers from funded public service schemes), this legislation is not yet available. Our comments are therefore only on the underlying policy intention.

5.2 The Treasury’s response to its ‘Freedom and choice in pensions’ consultation indicated that it would legislate to extend the statutory right to transfer from a DC scheme up to the scheme’s normal retirement age (it currently only applies until a year before preservation ‘normal pension age’ (NPA) which in some DC schemes could mean (by an accident of drafting) no statutory right to transfer from as early as age 54). This right is enshrined in DWP legislation and will be amended by means of the Pension Schemes Bill. In the current climate of DC flexibility (but noting the Government’s assurance that it will not force schemes to offer flexibility), there is a strong argument that the statutory right should continue as long as the member still has uncrystallised DC benefits in the scheme. There does not seem any reason to draw a line at what is typically an arbitrary scheme ‘normal retirement age’. Alongside this right would naturally come a statutory discharge for trustees on any liability to the member following the transfer.

5.3 We also think that consideration should be given to introducing a statutory discharge for trustees who permit partial transfers from defined benefit (DB) schemes (to allow members to transfer out any DC funds in order to access full flexibility whilst still retaining their DB benefits in the scheme). It may also be considered whether it is appropriate to extend the statutory right to a transfer to include a right to a partial transfer in such cases. (At the moment the DWP legislation only gives rights, and statutory discharges, where a transfer is taken in respect of all the benefit from a scheme.)

5.4 We would also request some extensions to transfer rights/statutory discharge in the DB world. We think the right to transfer should be extended right up to NPA (rather than stop one year before)—together with the statutory discharge; and a statutory discharge (but no imposed right) should be given where the trustees allow a member with DB rights to take a transfer in respect of part of those DB benefits to another scheme. We think this could support an important option that trustees may wish to introduce, allowing members to tailor their retirement provision to suit them, and giving schemes a tool for some de-risking. For example, a member with 3 We note in passing that in the Canadian province of New Brunswick, Collective DC schemes are called ‘Shared-Risk Pension

Plans’.


a £25,000 pa DB pension right and a state pension may well prefer to transfer the value of £10,000 pa of those DB rights for flexible use—if the scheme is willing to allow this.

October 2014

Written evidence submitted by the Intergenerational Foundation (PS 08)

Summary

IF opposes the introduction of “collective defined contribution” (CDC) pensions in the UK for the following reasons:

— They are likely to transfer an unacceptable degree of risk on to the shoulders of younger and future generations of savers;

— It is unlikely that proper risk-sharing safeguards will be introduced for legal and political reasons; — They appear to be incompatible with the new pension freedoms that have recently been announced for

savers.IF thinks it would be more beneficial if instead of trying to create a new category of pension, more effort was

put into encouraging young people to save using established forms of pension instead.

1.0 Who We are...1.1 The Intergenerational Foundation (www.if.org.uk) is a think tank which researches fairness between the

generations in the UK, in order to protect the interests of younger and future generations, who are at risk of being ignored by current policy-makers.

2.0 our SuBmISSIon...2.1 IF is concerned that the type of “collective defined contribution” (CDC) pensions referred to in Part 3

of the draft bill could lead to unfairness between different generations. Several pensions experts (including the independent pensions consultant John Ralfe, and the Association of Consulting Actuaries (ACA)) have publically issued warnings that the implementation of CDC in the UK context could lead to an unacceptable degree of intergenerational unfairness towards young savers.4 It is worth noting that the Department for Work and Pensions actually abandoned its previous research into implementing CDC schemes in the UK because they determined that their model of intergenerational risk-sharing would be too unfair.5

2.2 As ACA argued earlier this year, “the main challenge to the Dutch [CDC] system is that it is potentially unfair across the generations; younger members bear the risk that their benefits will be reduced in future if older members’ benefits are preserved today.”6 Under a CDC arrangement there is no plan sponsor, and the members do not have individual ownership rights to their pension contributions in the way that they do under a traditional DC scheme. This means that the only guarantors of future benefits are future generations of contributors. As the relationship between the amount an individual pays in and receives in benefits is so weak under a CDC scheme, current beneficiaries are likely to end up being paid a pension which is worth more than their contributions if either longevity assumptions or projected investment returns turn out to have been inaccurate. If younger savers believe that they are making payments into the scheme in order to fund benefits for the current generation of retirees which are more generous than the scheme will be able to provide for them when they retire themselves, it would significantly reduce the incentive for them to save.

2.3 There is a danger that, in effect, CDC pensions could come to resemble so-called “Ponzi” schemes, which depend upon attracting an ever greater number of new contributors in order to fund their current liabilities. Under the worst case scenario, if too many current contributors leave these schemes then they would be likely to collapse, leaving a funding deficit. It is worth emphasizing that the CDC schemes that exist in the Netherlands, which British proponents of the CDC model seek to emulate, do not suffer from this problem because workplace pension saving there is compulsory, so each generation can be confident that the next generation will meet its obligations to pay their pensions. Whether the CDC model is compatible with the highly flexible system of pensions we have in the UK is clearly open to debate.

2.4 In theory, the design of CDC pensions is supposed to balance the interests of younger and older generations by enabling these schemes to reduce benefits in payment and implement less generous forms of indexation if the scheme’s funding projections turn out to have been inaccurate. The pensions expert John Ralfe has argued that for CDC to be implemented in Britain, it would require “strict and transparent solvency rules, with the ability to cut pensions in payment, and, even claw back pensions already paid, if solvency deteriorated due to poor investment performance or increased longevity forecasts.”7 In practice, it would be far from certain whether such an assault upon pensions that were already in payment would be able to survive 4 Association of Consulting Actuaries (ACA) (2014) Are collective defined contribution schemes the future for UK workplace

pensions? London: ACA5 Department for Work and Pensions (2009) Collective Defined Contribution Schemes London: DWP6 Ibid.7 Ralfe, John (2012) “CDC could lead to Ponzi schemes” Financial Times 26 April 2012


legal challenges, given Britain’s tradition of treating pensions in payment as inviolable. It must also be doubtful whether politicians would be willing to allow such reductions in current benefits to take place given that it would harm the interests of an extremely important section of the electorate.

2.5 One other important factor is that it is not at all clear how CDC pensions would be compatible with the new private pension freedoms that have recently been announced. Given the lack of individual ownership rights over pension contributions which are invested in a collective fund, there would have to be some mechanism for enabling scheme members to take all their contributions as flexible drawdown or leave them to their heirs upon death, but enabling older people to withdraw money from the collective fund would weaken its solvency position, meaning young people would potentially be asked to contribute more to keep it afloat. IF would urge the Coalition Government to abandon its plans to introduce CDC pensions in the UK, and spend the resources and political capital which would have been used to implement them on getting more young people to save into one of our well-established types of pension scheme instead.

October 2014

Written evidence submitted by John Ralfe (PS 09)

I would like to submit my comments on Part 3 of the Pensions Schemes Bill 2014/15, new “Collective Defined Contribution” pensions and would be very pleased to provide oral evidence to the Committee. CDC plans are intended to provide a higher and more stable pension versus a Defined Contribution pot combined with buying an annuity, by smoothing investment returns through “inter-generational” risk sharing.

I am an independent pension consultant working with a range of private sector employers, including FTSE350, as well as smaller unquoted companies and partnerships. One of my FTSE100 clients has introduced a form of “Defined Ambition” pension for its staff.

I have written widely on many aspects of pensions, in the Financial Times and elsewhere, as well as being interviewed regularly on the Today Programme. I have taken part recently in debates on CDC, including those organised by the NAPF and the CSFI.

my Summary poIntS are:1. The detailed mechanics of how CDC could work in practice have not been clearly defined by its advocates

and it seems to mean “all-things-to-all-people”. This lack of clarity is reflected in the Bill, with much left to regulations.

2. Although the Netherlands is often used as an example, the structure and history of its CDC pensions are often misunderstood. I believe that the fundamental differences in Dutch CDC mean it cannot be adapted as a model for the UK.

3. Robust and transparent regulation is crucial for any new financial product to gain the confidence of consumers. Whilst Dutch CDC plans are highly regulated, the UK seems to be envisaging “DIY” regulation by individual trustees, with no specific funding rules.

4. “Inter-generational smoothing”, when properly analysed, looks very like a Ponzi scheme, requiring a continuous stream of new members to continue, with the first generation of members getting a “free ride”.

5. None of the employers I speak to are planning to offer CDC.

6. Although some of the practical issues of CDC mechanics are capable of resolution, CDC still has a fundamental problem. Its underlying premise is that equity risk declines with time, so a CDC plan can hold equities for longer than any individual and obtain the expected equity risk premium. Since this premise is incorrect, even if the details are resolved, CDC is flawed.

1. defInItIon of “cdc”1(a) Unlike Defined Benefit or Defined Contribution pensions, which have clear definitions and clear

mechanics, the commercial details of how “CDC” pensions could work in the UK are still unclear. As CDC has been discussed for several years, including a formal consultation process by the DWP in 2009, rejecting it, this lack of detail is extremely surprising. Setting up a new legal framework for CDC pensions, without very clear details of how it will work, risks wasting public time and money.

1(b) I suggest that the Committee ask CDC advocates to provide a straightforward two-page explanation addressed to potential members, who are not pension experts.

2. dutch cdc planS

2(a) The Netherlands has often been cited as a CDC model which can be adapted to the UK, including by the pensions Minister. However, we should be clear that Dutch CDC plans were not originally set up as this, but as what we would recognise as Defined Benefit plans, with a company sponsor liable to make good any shortfalls between pension assets and liabilities.


In recent years, however, the Dutch Courts have ruled that the company sponsor had no such liability, and “DB” plans, transmogrified into what were christened “Collective Defined Contribution”. A Dutch actuary, Falco Valkenburg,8 chairperson of the Pension Committee of the Actuarial Association of Europe has said, “CDC was set up to look like Defined Benefit to members and Defined Contribution on company balance sheets”.

2(b) As well as the obvious underlying social and political differences between the UK and the Netherlands, pension membership is compulsory for employees in the Netherlands, ensuring a continuous stream of new CDC members. Since pension scheme membership is voluntary in the UK, there would be no such continuous stream of new members, which is crucial for “risk sharing”.

2(c) Many younger Dutch employees are concerned that their current pension contributions are being used to used to pay current pensioners, rather than to pay their pensions when they retire, and with little certainty that their pensions will ever be paid. There are also concerns that there will be a mass exodus, if pension membership becomes voluntary.

In addition, a number of influential Dutch pension experts have criticised the shortcomings of CDC arrangements and are recommending a move to DC, including this recent excellent article by Professors Lans Bovenburg and Raymond Gradus.9

3. regulatIon of uk cdc planS

3(a) The Dutch pension system is, by UK standards, highly regulated and all CDC plans are obliged to use market discount rates fixed by the DNB to measure the value of their liabilities. Longevity assumptions are also set down by the DNB. There are strict deadlines for making up any shortfalls against the value of assets, by increasing contributions, not giving inflation increases or reducing pensions paid.

3(b) The UK has no such consistent and tough regulatory framework, even for DB pensions, with the Pensions Act 2004 setting down “scheme specific funding standards”. The current Bill seems to envisage a similar funding standard for CDC plans, with individual trustees deciding on the valuation of liabilities, how to measure shortfalls and how to repair shortfalls.

4. “Inter-generatIonal SmoothIng” 4(a) Because CDC property rights, unlike DC, are undefined, we must be clear how “inter-generational

smoothing“, would work in practice. In particular, if, and when, any individual CDC member could receive in pension payments more than their underlying share of assets, including contributions and returns, at the expense of another member.

4(b) Each generation may be prepared to sign up to a cross subsidy from younger to older if it knew the next generation would, in turn, also sign up—each generation running the risk of paying an older generation, in exchange for the possibility of receiving a payment from a younger generation. Because occupational pensions are compulsory in the Netherlands, this issue does apply.

But the first generation in a CDC plan gets a “free-ride”. It has the possibility of a subsidy from the second generation, without having faced the possibility of subsidising an earlier generation. Equally the last generation faces the risk of paying the penultimate generation, but it cannot receive a payment from a younger generation. End-to-end the first generation gains at the expense of the last.

4(c) CDC “intergenerational risk sharing” only works with new generations of members, each one able to subsidise the previous generation, in what is a Ponzi scheme. If this is properly understood would any employees voluntarily join a CDC plan, fearing they could be the first and last generation of members?

4(d) It seems that poor equity returns could, for a period, lead to older members already drawing a pension getting more than their underlying share of pooled assets, at the expense of younger members contributing. This cross subsidy from young to old may encourage younger people to simply leave the CDC or not join in the first place—threatening any possible “intergenerational risk sharing”.

4(e) The CDC mechanism, must also allow pension drawdown, announced in the Budget, and allow unused pension pots to be passed on to heirs, as recently announced. Neither of these features are available in the Dutch CDC, which pays a pension only.

5. attItude of employerS

5(a) UK private sector employers have spent the last decade trying to get out of the DB pension business, with its huge investment and longevity risk, totally unrelated to their core business. They have closed pension schemes to new members, reduced new pension promises and closed altogether to existing members.

DB has been replaced by DC, with the legal commitment stopping with the monthly pension contribution. 8 http://www.falcovalkenburg.eu/9 https://www.cda.nl/fileadmin/Organisaties/WI/2014__Bovenberg__Gradus__Reforming_Dutch_occupational_pension_schemes.

pdf


Against this background, all the employers I talk to are extremely reluctant to move away from DC and have said they will not be setting up CDC plans.

5(b) This reluctance is partly because of the risk that regulatory requirements may tighten at some point in the future, but is mainly concerns about reputational risk that if members are unhappy with the CDC plan at any point in the future, they will look to the employer for redress.

5(c) Some employers have also said that increasing labour mobility makes setting up individual company pension schemes questionable. I am not aware of any cross company CDC plans being considered and, indeed, I understand that the TUC has said it will not sponsor a CDC plan.

Insurance companies could set up a CDC, plan but since they already have standard “With Profits” arrangements it is not clear how a CDC plan would differ in practice.

6. can cdc delIver hIgher expected penSIonS?

6(a) Advocates of UK CDC have claimed that it can provide a more stable pension 30 per cent to 50 per cent higher than the equivalent defined contribution pension, which is then used to buy an annuity. These figures were developed before the Budget changes and assumes the saver buys an annuity at retirement with their pension pot. Presumably, since people can remain invested in equities the CDC “premium” is lower, although I have not seen any comment on this.

A CDC plan, with economies of scale, could certainly lower transaction costs, but so can existing DC arrangements, including NEST.

6(b) CDC appears to be about “risk sharing” in a collective fund, versus individual accounts. Advocates say that because it has a longer time horizon than any single individual, a CDC plan can take more investment risk—a higher proportion of equities, a lower proportion of inflation-protected bonds—to generate higher investment returns and a bigger pension. This is the familiar argument that the risk that equities will earn less than inflation-protected bonds decreases with time, so long-term pension savers should hold more equities.

6(c) But the proper measure of long-term equity risk is not the volatility of past equity returns; it is the cost of buying insurance against underperformance versus the risk-free return—a “put” option on a stock market index. If risk really does reduce over time, the cost of equity put options should fall the longer the option period. In reality, the cost increases the longer the option period, reflecting increasing not decreasing risk. The theoretical price and actual prices charged by banks are about 25 per cent for 10 years and 30 per cent for 20 years.

October 2014

Written evidence submitted by the National Association of Pension Funds (NAPF) (PS 10)

OVERVIEW OF NAPF RESPONSE

IntroductIon

1. The National Association of Pension Funds (NAPF) is the voice of workplace pensions in the UK. We speak for over 1,300 pension schemes that provide pensions for over 17million people and have more than £900billion of assets. We also have 400 members from businesses supporting the pensions sector. We aim to help everyone get more out of their retirement savings. To do this we promote policies that add value for savers, challenge regulation where it adds more cost than benefit and spread best practice among our members.

general commentS

2. We have long supported greater risk-sharing in pension arrangements, and broadly welcome the creation of a framework that enables scheme members to share risk with each other or with a sponsoring employer and thereby potentially allow for greater certainty around outcomes in retirement. The Bill as drafted, however, creates the risk that all existing schemes will need to check their status against new definitions of defined benefit and defined contribution. It is not clear that this step is necessary to create the regulatory framework for shared risk and collective schemes to operate. Costs for schemes must be kept to a minimum under the new plans, and any necessary costs must be clear and transparent, so that schemes are able to plan effectively.

3. Collective schemes already exist and operate successfully, to a degree—in the Netherlands, for example—but this is in part down to specific cultural and societal frameworks that do not necessarily translate to a UK context. For example, in the Netherlands membership of a pension scheme is compulsory, and the Dutch pension system is highly regulated. Furthermore, recent developments in the Netherlands have highlighted that their pension system is not working as well as has been suggested—particularly when it comes to the unintended consequences of intergenerational risk-sharing, which has led to reduced payments and is causing disquiet among younger scheme members. Consequently, there seems to be a movement towards a system that more closely resembles the large scale DC schemes that operate in the UK.


4. Both collective benefits and risk sharing may well play a role in our future pension system. However, there are more pressing issues given the Government’s determination to press on, simultaneously, with Freedom and Choice and the governance and charging issues addressed in Better Workplace Pensions. We have included as Appendix 1 a list of questions, which the Government needs to address well before next April. We are concerned that there remains a lack of clarity around the Guidance Guarantee, and that the Government faces a huge challenge in having the required structures and framework in place to ensure that guidance is able to be delivered in April 2015, when the new pension freedoms come into effect.

categorIeS of penSIon Scheme

5. We are longstanding advocates of shared risk pension provision as a means of giving savers greater certainty and confidence. However, given the competing priorities of automatic enrolment, Freedom & Choice and Better Workplace Pensions, we do not believe it is an immediate concern for many employers. In particular, automatic enrolment has caused large employers—always the most likely to be able to bear the sharing of risk—to choose or extend a pension scheme to cover all their staff and ensure it is fit for automatic enrolment. We should not expect many of them to quickly unravel that decision and introduce a risk-sharing scheme.

6. The approach the Bill takes to facilitating risk sharing creates unnecessary expense and ambiguity for current schemes. In particular, it introduces new definitions of “defined benefit scheme”, “risk-sharing scheme” and “defined contribution scheme”. It is not obvious which schemes fit into which category. Many final salary schemes would appear to be “risk-sharing schemes” as now defined. While we think there may be some merit in defining a “collective defined contribution” scheme and regulating for this type of scheme specifically, there is no reason to further define categories of schemes.

7. The Impact Assessment fails to specify or quantify the costs and benefits of the proposals, and for the reasons above, we think that the costs to existing schemes of determining where they sit in the new regime will be substantial. The NAPF believes it is essential that the Government clarifies the specific circumstances under which existing schemes—and ultimately scheme members—would face additional costs to determine what scheme they would qualify as under the new definitions. We are unsure as to why, where the definition of a scheme is already clear and does not stand to change under the new framework, such a scheme should incur costs to be told this.

general changeS to penSIon SchemeS

Restricting transfers out of public service defined benefit schemes8. We broadly support maintaining freedom for the individual to transfer out of a DB scheme, whether to

a DC or collective benefits arrangement. However, we are concerned that there are no unnecessary costs or burdens for schemes and look forward to further clarity around how this would work for both the scheme and the individual saver. Pension schemes also need to be taking this time to revisit their insufficiency reports so they are in a position to apply any deduction they believe is required to a members’ transfer value from next April.

Collective benefits9. We believe that the benefits of collective saving have been somewhat “oversold” as a means of reducing

the volatility of income between generations and providing higher returns. The potential for higher returns come from the lower costs associated with scale administration and investment and the ability to remain in return-seeking assets for longer, neither of which are unique to collective schemes. The reduced volatility comes from active management of risk, which can be achieved through investment strategies such as target date funds which do not require pooling of members’ assets.

10. We do see a potential role for collective benefits in providing retirement solutions which combine an element of the certainty offered by annuities with the scope for post-retirement growth offered by drawdown products. However, even here it is unclear how collectivism generally fits with two other major current pension trends—namely, automatic enrolment, under which all large employers have already selected their pension provision and default investment approach, and the Freedom and Choice agenda, which encourages people to manage their retirement income on an individual basis.

Guidance and decision-making11. In light of the new pension freedoms announced by the Chancellor, the need for guidance to be given to

savers around what to do with their pension pots has arguably never been more apparent. However, with only a few months until the new freedoms come into force there is an urgent need for further clarity about what will be provided and how it will be delivered. The need for signposting is clear, as is the need for the Government and the FCA to have in place from the outset a method of measuring the quality and effectiveness of the guidance service, as well as the availability of independent financial advice for those using the service.

12. The NAPF response to the FCA consultation on the Guidance Guarantee highlighted the need for the standards and rules for signposting the Guarantee to be clarified by early October if the required systems are to be in place and clear messages are to be delivered to pension savers from April 2015 and beyond. Trustees are


starting to send out wake-up packs to members who will retire next April. They need to start preparing scheme members and giving them information now, and are not in a position to do so. This could lead to confusing, inconsistent messages being sent to members.

13. We also recognise the challenge of engaging savers with the new Guidance service and getting them to the point of making an informed decision. NAPF research shows over a third of people already do not feel capable of making a decision around what to do with their pension savings. When it comes to next April, the figure could be higher still.

14. Next April will be a confusing time for those retiring. They may have heard about the new freedoms but their own scheme may not yet have developed the systems to deliver all of these. Some new products available on the market may carry risks and costs that are not immediately apparent to those retiring and some may only be accessible through a financial adviser, access to which could be costly for some. It is not yet clear exactly how FCA regulations on the sale and delivery of drawdown products will change but without change, many modest pension savers may remain excluded from the drawdown market. Neither is it apparent how the annuity market will look next year, with the potential for choice in this sector to be much reduced.

15. Faced with complex decisions and a complex marketplace, those retiring in 2015, even with the help of guidance, may struggle to make a decision. Some may be in a position to defer making a decision while others may have an urgent need for some money. Taking their pension as cash to invest it or spend it elsewhere might seem the easiest thing to do, even where a regular income might serve them better.

16. For some savers, it may be attractive to transfer out of their DB scheme and into a DC scheme to take advantage of the new pension freedoms. The Chancellor’s recent announcement of the abolition of the 55% tax rate on drawdown pension funds when the holder dies may well make a transfer more attractive to some people. As is the case more generally, however, it will be important that savers fully understand the implications of transferring out of a DB scheme and take FCA-regulated advice. Schemes will need to know that the individual has taken advice but it remains unclear how they will be able to do this and where the burden of proof will lie—whether with the individual, through written or oral confirmation of their advice, or with the scheme itself.

17. The NAPF is concerned that situations could arise where an individual receives their Guidance but this does not leave them in a position to make a decision about what to do with their pension savings. Not everyone will have the financial resources to seek further advice from an Independent Financial Adviser (IFA), nor will they necessarily be able to turn to friends and family for advice. It has been suggested that full financial advice, covering the full range of at-retirement options, could cost up to £1,000. NAPF research indicates that of those who want to receive independent financial advice, fewer than half (43%) are willing to pay anything for it, with only 3% willing to pay over £300. This reinforces the scale of the challenge that the Guidance Guarantee will be required to address and the shortfall in financial awareness and capability that many will be relying on it to make up.

18. The NAPF is increasingly of the view that pension scheme members will need more than just Guidance. Many large employers already provide services to members that go beyond that envisaged for the Guidance service; either through seminars to scheme members, access to individual advice or on-line information. However, not all employers and schemes have the resources to be able to deliver these additional services and the charge cap may cause some schemes to draw back from offering these benefits.

19. Some schemes are clearly developing their own drawdown capability but the number of trust-based schemes able to do this is likely to remain small in the near future. It also remains unclear whether schemes can nudge their members into drawdown or how they can promote the service to existing scheme members without risking this being seen as advice or a conflict of interest in seeking to keep the member and their money inside the scheme.

20. One option that could help scheme members make a decision that delivers the income that they expect from their savings is to allow schemes / trustees to design and promote a simplified set of solutions that they believe will deliver good outcomes for their members. These solutions would perhaps have to meet certain standards, including: not being prohibitively expensive, meeting certain risk criteria, being approved by trustees, and being clearly and adequately communicated. However, for schemes to feel confident in delivering these, they would need assurance that there could be no comeback from the member and that trustees were protected from any claims of misselling.

APPENDIX

APRIL 2015 PENSION REFORMS: 101 KNOWN UNKNOWNSThis document summarises the questions and uncertainties that remain to be resolved (as at October 2014)

in order for the full range of new pension freedoms to be made available to members of DC pension schemes and for the implementation of Better Workplace Pensions to take place. Some of these questions set out in this document have been partially answered by command papers, draft regulations, and legislation that is being considered by Parliament. However the questions cannot be considered to be fully answered until the legislation receives Royal Assent and regulations are made, as schemes and their service providers cannot make expensive system changes without that certainty.


freedom & choIce

Taxation of pensions

Reduced Money Purchase Annual Allowance1. Have structures been put in place at HMRC to detect members who exceed their annual allowance?

2. How will the reduced allowance affect beneficiaries who inherit a member’s flexi-access fund and take drawdown from it, if at all? Will it vary according to whether or not the individual takes an income? Will this differ according to the member’s age at death?

Taxation of benefits on death3. Will dependants receiving income as a result of annuity guarantee periods be allowed to take these funds

as lump sums once again? How will such lump sums be taxed?

4. Is the before/after age 75 distinction likely to remain?

5. Why is it OK for those taking drawdown from inherited funds to not be taxed (if death before 75) but beneficiaries who choose to buy an annuity to have to pay marginal rate of tax?

6. When will schemes have to move from the 45% tax rate to marginal rate on payments to beneficiaries?

Some answers expected in amendments to Taxation of Pensions Bill currently before Parliament.

Communication with members (disclosure)7. What changes will be made to annual statements? For example, will CETV estimates be required for DB?

8. Will schemes still have to do projections of fund value / income in retirement at all and particularly when member in drawdown?

9. What changes will be made to wake-up letter and other OMO-related communications requirements?

10. Will there continue to be different open market option procedures for contract-based and trust-based schemes?

11. How will trustees be required to signpost members regarding the availability of the guidance guarantee?

12. Which points in time will be relevant for trustee signposting, given that decisions for DC members about how they are likely to want to take their benefits will start affecting their investment strategies as they get into their 50s?

13. Will AVCs on DB and funded public sector schemes be covered by the same disclosure requirements as DC schemes?

14. How will schemes be required to notify members of:

— the requirement for advice on transfer from DB to DC? — the reduction in the annual allowance where they have taken flexi-access funds? — The tax and benefit implications of taking their pension as a lump sum?

Some answers expected in secondary regulations laid before Parliament in early 2015. Some issues awaiting FRC review of annual statements? Some issues may require new guidance from TPR.

Transfers15. Will any changes be made to members’ rights to transfer from a DC scheme, in order to facilitate freedom

and choice?

16. Will there be any changes to the way that cash equivalent transfer values are required to be calculated as a result of the new legislation?

17. How will the right to transfer work where the scheme operates an underpin and the benefit may be either DC or DB on date of retirement, depending on how well the investments have performed.

18. How will the new rules on transfers work with the open market option regime?

19. Will there be different transfer regimes for contract-based and trust-based schemes?

20. Will the Government be coming up with more effective ways to police against scammers who are likely to try to take advantage of confusions caused by the new flexibilities?

21. Will trustees and managers be given additional responsibilities regarding policing the destination of transfers?

— If so, how does this fit with the right of the member to take a transfer?


— Will trustees and managers be given any additional tools to combat transfers to dubious destination schemes?

DB to DC Transfers22. Will there be a threshold below which advice is not required? (There was a reference to the £30K trivial

lump sum threshold in the announcement as somehow relevant.)

23. Current requirements regarding the content of wake-up letters, etc in relation to the OMO are no longer appropriate and in fact may be misleading where members have an option to take a lump sum or transfer to some form of drawdown. What is being done with the OMO regime, which no longer appears to be fit for purpose?

24. What will trustees need to seek from members as proof that advice has been taken?

25. How will the advice requirement interact with trustees’ duties to assure themselves that the arrangement is not fraudulent, now that “liberation” is acceptable under the tax laws?

26. Under what circumstances will the statutory discharge now available to trustees when a statutory CETV is taken be available on transfers by right?

27. What actions by an employer make a transfer employer incentivised (so that the advice must be paid for by the employer)?

28. How, if at all, will the CETV calculation be changed given the new circumstances in which transfers may be requested?

29. Will trustees receive further guidance on how and whether to reduce CETVs in order to protect remaining members of an underfunded scheme?

30. Will advice be required where a benefit within a scheme is transformed from defined contribution to defined benefit?

31. Will there be any restrictions on partial crystallisation of DB benefits in lump sum form, for example, payment of the value of non-statutory inflation increases in lump sum form to the member as an UFPLS, so long as advice is taken?

32. What steps will be taken to prevent schemes styled as occupational DB schemes from evading the DB to DC advice regime?

DC to DC transfers33. Will there be any move to control charges to members from transferring and receiving schemes?

34. What sorts of measures will be in place to prevent schemes styled as occupational schemes from misrepresenting charges, investment strategies and other aspects of their offering to individuals who may transfer in order to take advantage of enhanced flexibilities offered?

Some answers expected in amendments to Pension Scheme Bill to be laid before Parliament in late October 2014 and some in regulations will follow in the Spring.

New products / defaults35. Will schemes be allowed to automatically transfer members to another scheme offering a drawdown

facility and, if so, how and under what conditions?

36. Will schemes be allowed to ‘promote’ their own or others drawdown solutions without wandering into advice? Will the Government facilitate schemes helping their members choose a drawdown scheme without independent advice?

37. How should schemes deal with members who simply cannot make a choice?

38. Will schemes still be able to default members into an annuity at age 75 if the scheme rules currently require it?

Flexi-access drawdown39. Will there be new regulations on suitability and disclosure for trust based schemes offering drawdown

(and UFPLS) and, if so, what form will these take, what will they include and when will they be published?

40. Will there be any impediments to charging members who use flexible access, as opposed to spreading the admin costs across all members?

41. Will a charge cap or other restrictions be applied to FAD?

42. Will current rules regarding the timing of taking tax free lump sums remain?


43. Now that the “death tax” has been removed from crystallised pension arrangements held for members under age 75, what sorts of differential treatment will remain for funds such crystallised funds, as opposed to uncrystallised funds? Will the only difference be the availability of a tax free sum?

44. Will there be regulation around the conversion of a capped drawdown fund to a flexi-access drawdown fund?

45. Will it be possible to inadvertently convert a capped drawdown fund to a flexi-access drawdown fund?

Uncrystallised funds pension lump sums46. Will or should there be anything to prevent providers from simply cashing out small pots as uncrystallised

pension lump sums where members are given notice of right to transfer instead?

47. Will FCA rules (and equivalent DWP regs) for drawdown also be applied to UFPLS? What disclosures will be required at point of withdrawal and on-going?

Lifetime Annuities48. Will there be a different regulatory regime around annuities that may reduce over a pensioner’s lifetime?

If so, who will develop the regulatory regime, FCA, DWP, Treasury?

Answers expected in form of primary or secondary regulations from DWP and new rules developed by FCA in due course?

Guidance guarantee49. What brand will the guidance service operate under and how will schemes have to describe the guidance?

50. Will the guidance service be promoted by the government?

51. What form will the guidance take?

52. Who will be required or given responsibility for providing the guidance?

53. How will F2F guidance be delivered and how accessible will this be?

54. Who will be entitled to the guidance and at what point(s) in their lives?

55. What information will be included in the guidance?

56. What outcome is guidance designed to deliver?

57. Will schemes have to track whether members have sought guidance?

58. What signposting will be required of trustees?

59. What signposting will be required of providers of contract-based schemes?

60. How will the performance of guidance be measured?

61. What will the roles of FCA be in monitoring delivery of the guidance guarantee?

62. What steps will be taken to keep a level playing field regarding delivery of the guidance guarantee to members of contract-based and trust-based schemes?

63. Must/should administrators demand proof that guidance has been sought before paying or transferring benefits? If so, how does this fit with the member right to transfer?

64. Can schemes provide or arrange for alternative guidance in lieu of that provided by the Government? If so, will this be regulated in any way?

65. How soon can we expect to see progress towards “pension passports” for members seeking guidance?

— Will there be a central repository of information? Who will that be? — What disclosure requirements will be expected of trustees and managers?

Some answers expected in amendments to Pension Scheme Bill to be laid before Parliament in late October 2014 and some in regulations will follow in the Spring.

Freedom and Choice odds and ends

Statutory override66. The current override would allow trustees or managers of a scheme to pay benefits in line with the

new tax flexibilities at their discretion on a case by case basis without altering the scheme rules or recourse to the employer. Is it intended that this override (which is very unusual) will remain, or might the process for occupational schemes be managed under section 68 Pensions Act 1995, as is usually the case.


67. Is the statutory override applicable to scheme rules (including rules referencing protected rights) intended to protect spouse’s benefits?

68. Will the override be extended to allow schemes to adopt charging structures related to the new flexibilities?

69. Assuming the power remains as drafted, will TPR be giving any guidance on the circumstances in which trustees would be justified in using or failing to use this power?

Trivial commutation lump sums70. Currently, the TCLS is only available if all benefits across all schemes, including crystallised benefits,

are less than £30K and all must be taken within one year. Now that TCLS will be available only in respect of DB benefits, will funds taken from or remaining in DC schemes continue to count towards the £30K limit?

71. Are any plans afoot (eg the pension passport) to make the pension benefits easier to detect?

Contracted out benefits72. Will the regulations pertaining to contracted out benefits be amended to allow the new flexibilities apply

to guaranteed minimum pensions?

Bankruptcy73. Under recent case law, pension benefits accessible to the member are now accessible to creditors as

well. Will steps be taken to protect at least some of the pension savings of members over the age of 55 from creditors, now that the entire pot can be taken as a lump sum?

Pensions on divorce74. Many earmarking orders on divorce award the spouse a percentage of “the maximum lump sum

available”, based on the assumption that the maximum lump sum will come to 25% of the pension’s value. Now that the maximum lump sum can come to the value of the entire pension, is anything going to be done to prevent these awards from being enforced literally under the new regime?

PPF75. How will the new flexibilities apply to schemes in PPF assessment?

76. Are steps being taken to ensure that lump sums are not taken by highly-paid employees immediately prior to assessment?

QROPS77. Will the rule that QROPS must in certain circumstances pay at least 70% of UK tax-relieved monies as

income be retained?

Minimum pension age78. How and when will minimum pension age change?

Further change79. Will the next government make further changes to pension tax?

80. Will the next government limit the freedom & choice?

81. Is tax relief on pensions sustainable in F&C environment?

Better Workplace penSIonS

Charge cap82. To whom will the charge cap apply?

— All members, including deferreds? — How would this be accomplished in contract-based schemes? — Active members only? — Post-April contributions only?

83. How is this consistent with the desire that deferred members be subject to the same charges as actives?

84. What charges will be counted towards the charge cap?

85. How will charges taken from contributions or as annual lump sum charges be limited?


86. Can the industry expect any help from the Government come April in communicating to members why their investments, or the direction of their contributions, has changed?

87. Will there be any regulations or guidance concerning the efforts of trustees and providers to communicate the change?

88. How and how often will it be calculated—and what happens when market volatility changes the fund on which the charge has been taken?

89. Will it be permissible to charge separately for transfers, outside of the charge cap?

90. How and when will schemes need to report compliance with the charge cap?

91. How will compliance be monitored?

92. Will trustees be entitled to take charges from the fund of a member who has been in the default fund to cover the cost of advice at member request?

93. Can a member who is enrolled in the default fund be charged separately for:

— flexi-access — a transfer — an uncrystallised funds pension lump sum — when he or she chooses any of these options?

94. Are there any plans to provide waivers from the charge cap where there is a guaranteed return?

Minimum quality standards—governance95. What will trustee chairs have to include in their annual statements?

96. What transaction costs should be reported in annual statements when there is no agreed definition?

97. Will there be any requirement on fund managers to disclose transaction costs, and if so what form will that requirement take?

98. What deadlines will trustee chairs have to meet in publishing their reports?

99. What will the requirements for independence and term limits for members of master trust boards?

100. How should trustees assess value for money?

101. How will providers IGCs interact with employers and their own governance arrangements?

Some answers expected in Government response paper and draft regulations in late October 2014. Legislation not expected to be made until early 2015, making it difficult to schedule system changes.

WRITTEN EVIDENCE SUBMITTED BY THE ASSOCIATION OF PROFESSIONAL FINANCIAL ADVISERS (PS 11)

FUNDING THE GUIDANCE GUARANTEE

Summary

1. The Association of Professional Financial Advisers (APFA) fully supports the Chancellor’s belief that greater flexibility for consumers at retirement is a good thing and welcomes the government’s commitment to implementing the guidance guarantee. We also believe that regulated financial advisers have an important role to play in making that vision a reality. However, we are concerned about the current proposals for funding the guidance guarantee, and the adverse impact they could have on advisers and consumers.

apfa SuBmISSIon

2. The guidance guarantee is to be paid for by means of an annual levy on the financial services industry, with HM Treasury setting the amount required. The FCA is considering how that levy should be allocated across the industry. Under its current proposals, financial advisers could be allocated as much as 30% of the total cost.

3. Most advice firms are small owner-managed businesses, and any increase in costs is likely to be passed on directly to their clients. At a time when much is being made of the need to increase access to advice, hitting the adviser community with an additional levy to fund the guidance guarantee will therefore increase the cost of advice generally and hit all consumers. This is contrary to the government’s stated policy intention of making regulated advice more affordable and undermines the aim of the guidance guarantee: to encourage people to seek help with their retirement planning.


4. It is therefore important that any method that is adopted is fair and reflects the relative sizes of the different sectors and their ability to fund this extra levy. It is disproportionate to allocate as much as 30% of the cost to the financial advice sector, where turnover and profits are a fraction of those of the banks and life companies. By way of illustration, the 2013 operating profits before tax of Aviva’s UK & Ireland life business were £952 million—which is equivalent to the aggregated profits before tax for all financial advice firms. This gives some idea of the relative scale of the different sectors, where one life company alone can make as much profit in a year as the entire financial advice sector.

5. APFA is therefore asking the FCA to reconsider its levy proposals, and to use a method that better reflects the relative size of the different sectors. To ensure costs are kept low, so that advice is affordable for as many consumers as possible, we believe the legislation should include a requirement that the guidance guarantee levy is allocated in such a way that it does not increase the cost of advice to consumers. We propose to put forward an amendment which will constrain the relevant levy raising powers in this way.

6. More information is contained in the attached annex. We hope that you will support the adviser community in its efforts to ensure that regulated advice is made affordable for those consumers who want it and would benefit from it.

October 2014

ANNEX

aBout apfa

7. The Association of Professional Financial Advisers (APFA) is the representative body for the financial adviser profession. There are approximately 14,000 adviser firms employing 81,000 people. 40% of investment and protection products are sold through financial advisers, with annual revenue estimated at £3.8 billion (£2.2 billion from investment business, £1.2 billion from general insurance and £400 million from mortgages). Over 50% of the population rank financial advisers as one of their top three most trusted sources of advice about money matters. As such, financial advisers represent a leading force in the maintenance of a competitive and dynamic retail financial services market.

Background InformatIon on the fca fundIng propoSalS

8. The FCA is proposing that the levy to fund the guidance guarantee should be allocated to those firms that would potentially benefit when consumers go on to purchase financial products and services. It suggests that banks, building societies, life insurers, portfolio and fund managers and financial advisers are the sectors that will benefit.

9. Having identified the sectors that should share the costs, the FCA has proposed three options for allocating the additional levy:

i) allocate in proportion to the existing FCA fees allocation. Under this option advisers would pay 30% of the cost (the largest share of all the sectors—see table 1 below);

ii) allocate equally. Under this option, advisers would pay 20% of the cost;iii) allocate in line with consumers’ retirement choices—no figures available, as currently no data available

to indicate what financial products and services consumers choose on retirement.

10. A small proportion of consumers sought advice on annuity purchases in the past, and whilst guidance may raise awareness of the options available, there is no guarantee that consumers will seek regulated financial advice going forward. ABI figures show that, in 2013, the average (mean) annuity in 2013 was bought with a pension fund of around £35,600, but the median was around £20,000, so half of people buy an annuity with less than this10. The reality is therefore that for the majority of people retiring, it is unlikely that paying for regulated financial advice will be economic, given the size of their pension fund. To increase the cost of advice will therefore only make it even more difficult for people who want regulated advice about their retirement options to access it.

11. To put the relative size of the financial advice sector into context:

— the aggregated amount of profits before tax in financial adviser firms in 2013 totalled £953 million;11 and

— the aggregated amount of retained profits in financial adviser firms in 2013 totalled £128 million.12

[We include both because the vast majority of adviser firms are small and the principal adviser is the owner, and therefore pre-tax profits seem higher than they are in reality, as they need to cover the cost of owner/principal adviser’s salary.] 10 Association of British Insurers—The UK Annuity Market: Facts and Figures11 APFA—“The Financial Adviser Market: In Numbers”12 APFA—“The Financial Adviser Market: In Numbers”


12. By way of contrast, the 2013 operating profits before tax of some of the larger life, pension & investment companies are as follows:

— Aviva plc (UK & Irish Life business) £953 million — Lloyds Banking Group (UK Life, Pensions & Investments) £802 million — Prudential (UK life & pensions business) £710 million

13. These figures help illustrate the relative sizes of the different sectors, and the disproportionate allocation of costs currently proposed by the FCA, which we believe needs to be addressed to avoid increasing the cost of advice for consumers.

taBle 1: fca propoSed allocatIon of guIdance guarantee coStS (Assuming annual levy of £20 million)

FCA Fee block

Sector FCA’s basis for allocating fees (“Tariff base”)

Tariff data 2014/15

Option 1 Option 2

% £m % £mA1 Deposit acceptors Eligible

liabilities (i.e. deposits)

£2,857.0bn 28% 5.6 20% 4.0

A4 Insurers—life Gross premium income

£65.9bn 17% 3.4 20% 4.0

A7 Portfolio managers Funds under management

£5,412.3bn 19% 3.8 20% 4.0

A9 Fund managers Gross income £9.4bn 6% 1.2 20% 4.0A13 Advisers, dealers

or brokersAnnual income £25.2bn 30% 6.0 20% 4.0

Written evidence submitted by Partnership Assurance Group plc (Partnership) (PS 12)

1. aBout partnerShIp

1.1 Partnership is a long established UK insurer specialising in the design and manufacture of financial products for people whose health and lifestyle means that their life expectancy is likely to be reduced. Partnership aims to offer higher retirement incomes than traditional providers through undertaking a detailed assessment of people’s health and lifestyle conditions. It is a leading provider of enhanced annuities; typically, our average customer will receive approximately 18% extra income for life, compared to a standard annuity provider, and for those with more serious conditions, potentially much more. We estimate that over 50% of people at retirement could qualify for one of our annuities.

1.2 Medically underwritten annuities allow insurers to take into account a person’s lifestyle and medical history to determine the probability of them living through each future year and therefore the rate at which they can be provided with their retirement income when they buy an annuity. An enhanced annuity can potentially offer consumers significantly higher levels of guaranteed income in retirement.

2. executIve Summary

2.1 Partnership welcomes the opportunity to respond to the House of Commons Public Bill Committee’s call for written evidence on the Pension Schemes Bill (‘The Bill’).

2.2 Partnership welcomes the Bill as we believe that more choice for those entering retirement is a good thing and increased choice should help to enable people to save for, and make informed decisions in relation to, their retirement income.

2.3 However, we believe that consideration needs to be given to the risk around levels of financial literacy and understanding which may lead to a number of people not being able to manage their funds very well over retirement. Therefore, the need for meaningful support and guidance for consumers in making complex retirement decisions is imperative.

2.4 Many consumers will still want, or need, a predictable, guaranteed retirement income that they can rely on for the rest of their life. Underpinning the concept of pension saving is the wish to provide income security for the whole of one’s retirement and to ensure that the individual does not run out of retirement funds before the die. We believe that it is essential that this should be the overarching objective of the guidance guarantee.

2.5 We believe the guidance guarantee should be regularly reviewed to be certain that it provides suitable information to ensure that people can make the important decisions that best suit their needs.


3. fInancIal productS

3.1 As a provider of enhanced annuities, Partnership believes that this form of financial product will remain the most appropriate product for many people. Underpinning the concept of pensions saving is the wish to provide income security for the whole of one’s retirement and to ensure that someone does not run out of retirement funds before they die. Annuity providers take on the investment, credit, inflation and longevity risk for the consumer and provide an income that will last for life regardless of changes in circumstances or investment markets. Research conducted by Partnership found that 64% of people listed a guaranteed income for life as the top characteristic of a “perfect retirement product.”

3.2 Research conducted among Partnership’s customers in 2012, to ascertain what they spent the additional income received from an enhanced annuity on, demonstrated that a significant proportion spent the extra money on higher food bills (61%), heating and electricity (57%), and on meeting the costs of higher council tax and other bills (53%). We believe that this research signifies the importance of the guidance guarantee in outlining the importance of securing critical income in retirement.

4. Guidance Guarantee 4.1 Partnership supports the decision that the guidance is to be provided by independent, impartial

organisations. This will help to ensure that as many people as possible ‘shop around’ and avoid the inertia that has in the past led to consumers taking out inferior products from their pension provider.

4.2 However, we also believe that the below issues need to be addressed ahead of its introduction in 2015.

5. Timing5.1 Partnership agrees that in the immediate term, signposting should be aligned to the current wake up

pack process. However, in the long term, we believe that at a minimum reference to the guidance guarantee should be made at least 24 months prior to the consumer’s retirement date, in all regular correspondence, such as annual statements. This would provide the consumer with sufficient time to start to consider their retirement and research the options that they have. However, Partnership would go further by suggesting that engagement 5 years or potentially 10 years before the earliest access age may be particularly useful. We believe that at its most basic this should, at least, involve a simple ‘wake up’ communication offering consumers the option to call in to start planning their choices and highlight the need to ensure a suitable investment strategy is in place, for instance a service like the free ‘age 50 NHS health check’.

5.2 We would suggest that the Committee looks to the system in place in Denmark, which has been voted as having the world’s best retirement regime. In Denmark decisions about annuitisation are made during the savings process.

6. Engagement6.1 We believe that proactive engagement with consumers is required to ensure good take up of the guidance

guarantee service. To address this, we would strongly recommend targeting a model whereby the guidance provider proactively contacts consumers at agreed points pre-retirement rather than the onus being on the consumer to contact the guidance provider. Consumers would still be able to decline the opportunity to have a guidance discussion but we believe that if consumers are not strongly encouraged or ‘nudged’ to the guidance provider then there is a high probability that they simply stay with their existing provider or take the cash from their schemes and put it into bank accounts. This may not always be a good outcome for consumers, their dependents or the wider society.

6.2 In terms of providers, we believe that there should be a mandatory code enforced by the FCA along similar lines to the current voluntary ABI Code that contains a simple checklist of questions to ask the customer that they have considered, ranging from consideration of health, longevity, death benefits and spousal benefits. Also, whether they are aware of the free guidance service and have they received their guidance yet. Additionally, providers should not interact with their customers in the period between engaging with the guidance services and booking their session and actually receiving the session.

7. Pension Passport7.1 Partnership believes that ‘Pension Passports’ should be introduced to help inform people about their

pension savings and empower them to make decisions in relation to their retirement income by presenting all of the essential information in one place in an easy to understand format. This would be a single document given to people at retirement containing details about their personal circumstances and their different pension pots. This could potentially be given to a guidance provider or an independent financial adviser, who would be able to guide them on how to get the best retirement income for their needs.

8. Components of the guidance guarantee8.1 In order for the guidance session to be meaningful to consumers, the discussion needs to be around a

number of issues. There will be a need to discuss relevant options and the key facts and consequences of each option with the consumer. In particular, personal factors such as life expectancy, potential long-term care needs


and the risk of running out of money in retirement are key to informing consumers’ choices as to how they invest and fund their retirement. Covering these factors with consumers will play a vital role in ensuring that the guidance discussion is meaningful and genuinely useful for consumers.

8.2 It is important that the risks the consumer faces are explained in plain English and not using industry technical terminology. Partnership also recommends that within the guidance framework a budgeting tool is provided to the consumer to encourage people to work out and plan for what they need to spend on a weekly/monthly basis to maintain their minimum/expected lifestyle. In particular, it is important that they understand the cost of their critical costs of living (eg, heating, food, utilities and those which they feel they would not wish to do without).This will make for a more informed discussion on how they use their pension to fund these ‘fixed’ outgoings. This information, together with what the consumer state pension will be, should provide consumers with a very clear picture of what their ‘expenditure gap’ will be (if any). The guidance scheme should then outline how consumers can manage or mitigate that shortfall by a simple explanation of what various different products can offer.

October 2014

Written evidence submitted by Bernard H Casey (PS 13)

I should like to submit comments on the proposal for “Defined Ambition” (DA) and “Collective Defined Contribution” (CDC) pensions.

I am a pensions economist and currently a principal research fellow at the Institute for Employment Research, University of Warwick. Previously I have worked as a principal economist at the OECD and also have often served as a consultant on pensions-related issues to the European Commission. I have published widely in academic journals and am a member of the advisory board of the International Social Security Review.

I wish to add a few comments about international experiences with respect to DA and CDC pensions, especially the Dutch experience. I happen to be more or less fluent in Dutch and can thus access material in the language and converse directly with those engaged in the on-going debate in that country.

1. Briefly, I should like to make the following observations:

1) DA is more or less whatever someone likes to claim it is. There is no single DA, and CDC is but one manifestation of it;

2) DA/CDC, as it operates in the Netherlands, has “worked” but at a cost of loss of trust; and3) for something like DA/CDC to work, pension scheme membership needs to be obligatory.

In addition, I should like to suggest that:

4) the higher returns offered by CDC by virtue of it being “collective” are illusory.

on oBServatIon 12. When the concept of DA is talked about, one sees many references to the Netherlands. However, the term

is less used in that country. Whilst there is recognition of the concept of CDC, most Dutch people still describe their occupational pensions as “defined benefit” (DB). This is because they focus on how there has been a move from final salary DB to career average DB.

3. The Dutch have, over the last few years, sought to control supplementary pension costs by agreeing to fix limits on what the schemes can provide. In particular, if a scheme is deemed insolvent—and the definitions of this are strict—the first line of repair is not through increased contributions but rather through cuts in benefits. It is this which gives the schemes their collective DC characteristic.

4 The Danish mandatory supplementary pension scheme—the ATP or Labour Market Pension—is often quoted as a case of a DA pension. It is a funded DC scheme that guarantees a certain level of pension and pays more on the basis of investment performance. The investment portfolio is appropriately divided to meet these two objectives. Effectively, the scheme is a sort of “with profits” one. Indexation is, effectively, conditional upon performance of the investments. And it is a “bonus”.

5 In the UK, and elsewhere, one hears of “hybrid” or “cash-balance” schemes, which are sometimes classified as DA pensions. In the US, where they are also referred to as “defined benefit in drag”, cash balance schemes are used by some states for their public service employees. These cash balance schemes share features of the Danish ATP scheme in that contributions are granted a minimum return (usually the government bond rate), and members also enjoy a “special dividend” if markets outperform. The employer bears the downside risk.

on oBServatIon 26 The Dutch system of supplementary pensions is complex. Unlike the UK or the US systems, there is

no PPF (Pension Protection Fund) or PBGC (Pension Benefit Guaranty Corporation supporting schemes if they fall into difficulties. One of the principal reasons for this is that there is no obligation to index pensions.


Indeed, for benefits to be uprated at all, strict “solvency rules” have to be met. If they are not, then pensions in payment are raised by less than the rate of increase of prices or wages (as laid down in the relevant collective agreement) or, in extremis, they are actually cut.

7. he DA nature of the system “worked” in the years following the onset of the financial crisis. The table blow illustrates this.

Indexing of pensions in the Netherlands, 2008-2014 2008 2009 2010 2011 2012 2013 2014actual inflation (%) 1.87 1.94 1.11 1.93 2.38 2.90 1.70average indexation (%) 2.52 0.46 0.51 0.13 0.07 0.10 0.40difference (p.p.) 0.65 -1.48 -0.60 -1.80 -2.31 -2.80 -1.30cumulative av. indexing (2008=100) 100 100 101 101 101 101 102cumulative inflation (2008=100) 100 102 103 105 108 111 113

Source: DNB (Dutch National Bank) and own calculations

In short, whilst prices rose by 13 per cent over the years, on average, pensions rose only two per cent. Cuts occurred—70 funds made nominal cuts in 2013; 26 in 2014.

8. One of the consequences of DA “working” has been a fall in public confidence in the system. This is shown in the second table.

Confidence in providers across time, 2004-20142004 2006 2009 2011 2014

pension funds 53 64 44 42 48state 37 42 45 41 41banks 32* 37* 25 34 30insurers 32* 37* 18 20 25*In 2004 and 2006 confidence in banks and in insurers was not asked about separately—rather they were included as a single category.Source: Harry van Dalen en Kène Henkens, Nederlands Interdisciplinair Demografisch Instituut (NIDI), Den Haag, at Netspar expertbijeenkomst, NIDI, 24-9-14

9 The lower degree of nominal cuts in 2014 explains the partial recovery in confidence between the last two observations.

on oBServatIon 310. Participation in an occupational pension scheme in the Netherlands is mandatory as long as a collective

agreement has been concluded for the sector or firm concerned. Labour law allows collective agreements to be extended to include non-signatory employers of the sector. If there is an (extended) agreement, all employees are required to participate. It is for this reason that supplementary pension coverage is almost complete. Only about 10 per cent of employees in the Netherlands are outside the system.

11. Moreover, all schemes annuitize benefits on retirement. No distinction is made between males and females, and all with the same earnings and careers receive the same pension.

12. If a scheme has to improve its solvency, it is for the trustees (effectively, the “social partners” running the scheme) to make decisions about how the “dividend” is allocated and how and when cuts are made. Schemes have discretion about whether adjustment is to be made by some combination of restraint in benefits, increase in the age of entitlement to benefits and/or the rate of contribution. However, these days there is a reluctant to take the last option.

13. Attempts to satisfy the median voter, or pension scheme member, tend to favour the older part of the workforce and pensioners. The burden of adjustment falls upon younger members, and these might see themselves paying for a level of pension that they are unlikely to receive. It is widely recognised that, in the absence of an obligation to participate, younger workers might chose to opt out of the system. In other words, there are elements of Ponzi in the system.

14. Disaffection is already apparent. In an attempt to reduce costs and incentives for early retirement, the government proposed legislation to cut accrual rates from their current 2.25% to 1.75%. This has been calculated as cutting younger employees’ future pensions by some 30 per cent. The youth wings of the three


main political parties (labour PvDA, social-liberal D66 and the conservative-liberal VVD) have issued a 10-point pension plan that calls for more individual saving and more freedom of choice.13 Criticism of the plan has been that it “lacked solidarity”, even though it maintains many of the collective qualities of existing schemes. Investment would remain pooled, and there would still be an obligation to take benefits as an annuity from a common (scheme) pool.

15 Some analysts have gone further. In the year following the plan’s publication, more and more consideration has been given to the potential advantages of individual rather than collective DC, and even to the abolition of an annuity obligation.14 On the other hand, even some of those proposing this recognise the need for individuals to be offered longevity insurance, and to be protected against “short-sighted” investment decisions. And even the most radical proponents of reform have suggested that the need is for prompt action because “if we don’t do anything, we will be forced to adopt a bad DC system, as has happened in the UK”15.

on oBServatIon 416 CDC is commonly argued to achieve higher returns because it can hold equities and similar assets over a

much longer term than an individual DC plan, and so profit from “investment risk”. According to the pensions minister, a CDC member can expect perhaps a 30 per cent better outcome. However, such a return is an “ambition”. No guarantee is offered in the same way that no guarantee was offered for the returns the DWP was projecting when it promoted Auto Enrolment.

17 To provide such a guarantee is costly. It would require the purchase of a long “put”. Such The cost of equity put options can be found in, for example, the back pages of the weekend Financial Times, where quotes for one two and three month futures are reproduced. The price rises with time. Exchanges do not normally trade longer term options; these are purchased on individual, over-the-counter transactions. Prices are normally calculated according to the Black-Scholes model. The diagram below shows the theoretical cost of a long term put and the price of the “insurance” required to purchase a “guarantee”. As can be seen, the latter is probably prohibitive. This is not only why the government made no guarantees, it is also why no company stepped forward to sell them.

October 2014

13 Het 10-puntenplan—see http://niewpensioenenstelsel.nl14 See discussions at the 2014 Pensioenforum in Scheveningen at http://www.euroforum.nl/financieel/congres-het-pensioenforum/15 At the FD Pensioenen Pro IPE congress in Amsterdam, June 2014.


Probability of shortf all and cost of insurance

(Black-Scholes model)

Note : The probability of a shortfall is the probability that returns will be less than 5.5 per cent per year and where the one year volatility is 20 per cent. The 5.5 per cent is the median real rate of return on UK equities used in the UK Pension Commission illustrations. The 20 per cent volatility approximates the standard deviation of rates of return calculable for both UK and US equities over the long-term. The 4 per cent volatility approximates the volatility of rates of return on investment grade bonds. The 30 per cent volatility is included for illustrative purposes.

Source: Bernard H Casey and J Michal Dostal Voluntary saving for old age: are the objectives of self-responsibility and security compatible?, in Social Policy and Administration, Vol.47, No. 3, 2013, pp 287-309.

Written evidence submitted by First Actuarial LLP (PS 14)

penSIon SchemeS BIll part 3 collectIve BenefItS

1. We are grateful to have been given the opportunity to give oral evidence to the Public Bill Committee for the Pension Schemes Bill. The oral evidence covered high level principles of CDC schemes. We felt it appropriate to follow up with our opinions on the wording of Part 3 of the Bill.

typeS of cdc Scheme

2. In the table below, we set out two different visions of the design of a CDC scheme. The completed Pension Schemes Act and Regulations should be capable of accommodating both visions.


CDC as an alternative to defined benefit CDC as an alternative to individual money purchase accounts

Focus is on a level target benefit outcome as the demonstration of inter-generational fairness

Focus is on a level contribution rate as the demonstration of inter-generational fairness

The same benefit accrual rate for all ages for a long period of time

The contribution is converted to target benefits on an actuarial basis which is age related and tracks current market conditions

Even benefit planned(at a higher cost for older members and lower cost for younger members)

Even contribution rate planned(resulting in a higher benefit credit per £1 at younger ages and a lower benefit credit per £1 at older ages)

Might plan the actuarial funding on a prudent basis Best estimate terms for converting contributions into target benefits

If the actuarial funding is planned prudently and if transfer values are best estimate values, then the sum of transfer values would be less than the value of the assets

The sum of transfer values is kept close to the value of the assets.In effect, the actuarial valuation is the device for sharing the pool of assets between members, fulfilling the role otherwise played by individual money purchase accounts.

Suitable for an employer sponsored scheme with single or connected employers, where membership is conditional on employmenti.e. for situations where cross subsidy can be tolerated

Suitable for a scheme which people join or leave individually at any time, whether employees or self-employed, and/or with multiple unconnected employersi.e. for situations where value for money for each individual is important

3. The characterisation of the two types is deliberately polarised to show the opposite ends of a spectrum of possibilities. In practice, schemes might fall between the two columns. For example, a “CDC as an alternative to defined benefit” scheme could be planned using a best estimate basis and pay transfer values which sum to the value of the assets. Indeed, we would prefer it if it did.

4. We do not know what will be in the regulations to follow the Pension Schemes Bill. In their absence, the wording of the Bill does feel rather directed at the “CDC as an alternative to defined benefit” vision. We are concerned that the completed Act and regulations might not accommodate both visions. We think they should accommodate both. If CDC schemes are to be available to people other than employees of employers who happen to provide a CDC scheme, then the “CDC as an alternative to individual money purchase accounts” must possible.

5. In particular, we see a major role for CDC schemes to provide a new alternative to annuities for the provision of income with longevity protection in retirement, for those who saved in money purchase accounts before retirement, of which there will be many millions because of auto-enrolment.

payIng BenefItS and communIcatIng BenefItS

6. We distinguish between a policy for paying target benefits and a policy for communicating target benefits.

7. The legislation and regulations on a target benefit payment policy should permit the preparation of a target benefit payment policy on a best estimate actuarial basis. A best estimate basis seeks to be even handed across the generations.

8. A target benefit communication policy might be deliberately cautious in what it leads members to expect, in order that actual outcomes exceed the prior illustrations more often than not. But a cautious communication policy should not form the basis of the payment policy, otherwise the benefits paid while the scheme is growing will be lower than they ought to be for inter-generational fairness.

9. We would encourage you to clearly distinguish between a policy for paying benefits and a policy for communicating benefits.

memBer protectIon In a cdc Scheme

10. In a CDC scheme, the target benefit policy is not an enforceable promise and therefore cannot be relied upon to protect members. It is the defined contribution which is the promise. To protect members, the contributions being put in for members needs to be spent on the members, fairly.

11. The law must be clear that the target benefit payment policy of a CDC scheme must be non-discriminatory in every respect, especially:

— Age


— Gender — Between active and deferred members, including pensioners who retired from active status and

pensioners who retired from deferred status.12. The basis of deciding non-discrimination might take a benefit outcome focus (on the CDC as an

alternative to defined benefit vision) or it might take a cost of target benefit focus (on the CDC as an alternative to individual money purchase accounts vision).

13. If a CDC scheme is being operated on the “alternative to defined benefit” basis and the target benefit payment policy is specified using a prudent actuarial basis and/or a high probability, the consequence is that not all of the contributions going in are planned to be spent on benefits, some are kept back in reserve. This may be acceptable in an employer sponsored scheme with significant employer contributions, such that the value of the target benefits exceeds the members’ share of the contributions. But it would not be acceptable to communicate the scheme as being worth the defined contribution of (say) 10% of salary, if only 7% is being allocated to a best estimate value of target benefits and 3% is being allocated to a prudent funding reserve.

14. We encourage you to focus on ensuring the requirements for non-discrimination are strong enough because this is the actual source of protection for members in a CDC scheme.

15. We also encourage the use of a governance framework which acts to protect members’ interests. Ideally this would be trustee based and include member representation.

uSe of proBaBIlItIeS In expreSSIng BenefIt targetS

16. We do not think that using probabilities to express benefit targets is helpful. In our experience, the investment models used by different actuarial firms are very different from each other. It would not be appropriate for benefit payments to be dependent upon the model of the adviser chosen by the scheme.

17. It is one thing to make a decision or observation and then carry out a statistical analysis to illustrate the significance of it: the statistical analysis follows the decision, the decision having been made separately. It is quite another to reverse the process and say, “we want this level of probability, what decision goes with that?” Probability based analysis is not remotely firm enough to lead the decision making.

18. We note that amendments have been tabled to modify the references to probability targets to references to a range of probability. These seem like a step in the right direction, perhaps a range of probabilities would not lead the target benefit decision making quite so much.

19. Nevertheless, our position remains that probability based models are not firm enough to drive target benefit payment policy decision making. We think the references to probabilities in the Bill should be removed.

the WordIng of the penSIon SchemeS BIll

Clauses 20 and 2820. It seems odd to us that Clause 28 Policy for dealing with deficit or surplus is separate from Clause 20

Duty to set targets for collective benefits.

21. The target benefit is not an enforceable promise. The contributions going in are fixed, it is the target benefit which is varied to match the contributions and the return earned on them. Specifying how and when the target benefits will be varied is at the heart of a target benefit policy. We would incorporate Clause 28 into Clause 20.

22. We would remove Clause 20(2)(c) to take out the reference to probabilities.

23. We would make Clause 20 about the setting of a target for the payment of collective benefits. A policy for communicating target benefits could be made the subject of a separate, new clause.

Clause 26 Valuation reports24. The Pensions Technical Actuarial Standard of the Financial Reporting Council would not use the word

“valuation” in this context, it would use the word “planning”.

25. We recommend removing the reference to an assessment of probability in Clause 26(1)(b), to be replaced with:

26(1)(b) valuing the target for the payment of collective benefits set following the previous planning report

26(1)(c) recommending an adjustment to the target for the payment of collective benefits in accordance with the policy for dealing with an excess or insufficiency of target collective benefits.

26. Thus the policy for varying the target benefit is part and parcel of the target benefit payment policy, and the actuary is required to include in the planning report the variation to the target benefits which keeps the scheme on track in accordance with the target benefit payment policy.


27. We recommend removing the reference to an assessment of probability in Clause 26(2)(b), to be replaced with:

26(2)(b) require the trustees or managers to obtain a certificate from an actuary certifying that, in the opinion of the actuary, the collective benefit targets have been set at a level that complies with the target benefit payment policy.

Clause 27

28. In Clause 27(1), remove “valuing assets, or assessing the probability of a scheme meeting a target in relation to a collective benefit”.

Clause 29

29. In defined benefit schemes, levies are imposed on the scheme, not the employer. Surely any levy on a CDC scheme should be an imposition on the scheme, not the employer? A CDC scheme catering for individuals transferring in money purchase pots would not have an employer upon which to impose a levy. We would remove “or the imposition of a levy” from Clause 29(1). Re debts due from an employer due to an offence, it seems natural that it should be restricted “to a specified offence by the employer”.

30. There should be no question of a debt on the employer in a CDC scheme, otherwise it is not defined contribution. Surely Clause 29(2) should be deleted?

Clause 30

31. We think a natural transfer value policy would be to arrange for the sum of transfer values for all members to be close to the value of the assets. The completed Act and associated regulations should accommodate such a policy.

November 2014

Written evidence submitted by the Institute and Faculty of Actuaries (IFoA) (PS 15)

1. The Institute and Faculty of Actuaries (IFoA) is the chartered professional body for actuaries in the United Kingdom. Actuaries’ training is founded on mathematical and statistical techniques used in insurance, pension fund management and investment. Actuaries provide commercial, financial and prudential advice on the management of a business’ assets and liabilities, especially where long-term management and planning are critical to the success of any business venture. A majority of actuaries work for insurance companies or pension funds.

2. The IFoA welcomes the opportunity to provide written evidence to the Scrutiny Unit on the Pension Schemes Bill 2014-15. Some of our members who design and advise on both defined benefit (DB) and defined contribution (DC) schemes have provided input to this response. We have focused our evidence on those aspects of the Bill where we have relevant expertise and we would be delighted to discuss our response in more detail if it would be helpful.

Summary

3. The IFoA welcomes the policy intention to increase participation in pension schemes across the UK. However, there are a number of areas in which the draft Bill may make a complex subject even more difficult to comprehend. While we understand the desire to provide a wider scope for scheme design, we would request clarification that the more open approach to defining shared risk schemes should not result in classifying certain types of schemes in a way that was not the original intention of the sponsors.

4. The IFoA would also encourage further research into a possible default decumulation strategy. While there is a need to develop understanding of, and participation in, the accumulation stage, the outcome in retirement is what will ultimately matter to scheme members.

5. The IFoA has also offered a number of comments about the drafting where we would welcome additional clarification. While the exact legislative requirements could be considered in regulations, we would welcome an early indication of what those regulations may contain.

6. The IFoA has a clear obligation with regard to ensuring that its members are equipped to carry out specific functions. An opportunity to comment on the draft regulations will also allow a focus on practical implementation and in particular detail about the duties set out in the Bill that an actuary will be required to perform.


general commentS

7. The IFoA welcomes the Government’s aim of encouraging private pension provision. Complexity in the current pensions system is a significant barrier to saving,16 but the IFoA suggests the Bill, as drafted, could add further complexity for both new and existing schemes. We would encourage Government to explore ways to avoid any unintended consequences for existing schemes that could undermine private pension provision.

8. In our view, there would be merit if existing schemes could continue in their present form under existing legislation. Then, the proposed legislative framework could focus solely on the new arrangements and reduce the risk of unintended consequences. Employers could, under such an approach, resolve to change their schemes to reflect the new legislative regime.

9. As automatic enrolment (AE) increases, the number of schemes and individual participants—providers, employers and trustees—will have an increased responsibility to provide new scheme members with the best explanation of what they may expect to receive in retirement. For many employees joining pension schemes for the first time, or indeed participating in any long-term savings plan for the first time, there might be merit in offering some degree of certainty. The IFoA recognises that shared risk schemes can offer more certainty than traditional DC arrangements (although generally there is a cost to doing so); however, there are a number of challenges that may prevent the establishment of such schemes:

a. The mechanisms for providing increased certainty also have the potential to create more complexity that could deter members from saving.

b. Many members are likely to desire certainty without realising that there is an associated cost. c. Unless employers are able and willing to meet the additional cost of providing certainty, scheme

members will have to bear that cost, which is likely to affect the level of future retirement income. d. Managing a pension fund that offers intergenerational savings and provides for cross subsidy between

each cohort requires substantial technical expertise and strong governance. This is to help ensure that members are treated as equally as it is reasonable to expect. The increased complexity and the inherent opaqueness of collective schemes will also require strong governance and strong fiduciary oversight. This increased governance and the necessary expertise come with a price. It is important that any additional costs in governance provide scheme members with value for money.

10. There is a broad range of scheme designs that could be established within the proposed framework. The IFoA’s Sleepwalking into Retirement Working Party17 considered starting points of either purely DB or DC structures and then sought to demonstrate how to adapt those starting points to provide shared risk schemes. The following table indicates the range of possible scheme designs.

From a DC starting point From a DB starting pointDC in with profits fund Career Average Revalued EarningsDeferred annuities Cash balance schemesManaged DC Flexible retirement ageDC with insured capital guarantees Risk management tools: buy-outs, buy-ins, longevity

swaps and re-insuranceDC with mutualised capital guarantees Core DB + bonusSplit retirement into term annuity plus (mutualised) later life annuity

CETV on leaving employer

CDC Fluctuating pensionsEmployer smoothing fundRisk sharing between multiple employers

11. While we understand the approach taken in the legislation to defining Collective DC, the range of possible outcomes, as shown in the table, may cause uncertainty among providers, employers and members about the exact definition of the schemes they offer. If the definitions do not provide the required certainty, the courts, as in other cases, may step in to make an interpretation that differs from the original policy intent and which imposes additional costs on many schemes.

12. Under current proposals there will be no default decumulation option meaning all members will have to make a choice about how they should draw their benefits. The IFoA suggested in its response to the HM Treasury consultation ‘Freedom and choice in pensions’ that consideration should be given to developing a default decumulation strategy at retirement.18 The IFoA recognises that developing such an approach may not lead to the best outcome for all scheme members; however, it may reduce the risk of poor outcomes.16 Sinclair, D. (2010) ‘Where next for pensions reform? How can we encourage people to save?’ International Longevity Centre—

UK17 IFoA’s Sleepwalking into retirement Working Party (2013) Why DC desperately needs actuaries (http://www.actuaries.org.uk/

research-and-resources/documents/d05-sleepwalking-retirement-%E2%80%93-why-dc-desperately-needs-actuaries)18 http://www.actuaries.org.uk/research-and-resources/documents/ifoa-response-hmt-freedom-and-choice-pensions


13. Under the proposed framework, the least complicated route for many scheme members may be to take DC pots as lump sums at one particular date, which may not be the date of retirement. This provides members with an opportunity to avoid making a more complex decision. While this may be the best outcome for members with small funds, it might not be the best decision for those who would incur large tax charges.

14. We would recommend that the Government conducts research into what arrangements might be put in place to ensure that inertia nudges savers in a direction that would be more appropriate for a majority of retiring scheme members. Consequently, we would also encourage schemes to establish default frameworks that would support good outcomes. The exact form that these might take is beyond the scope of this response, but the significant changes occurring in the legislative environment provide an opportunity to put in place an appropriate default decumulation vehicle, particularly one that meets the needs of the newly auto-enrolled population.

detaIled commentS on draftIng

15. Clauses 20, 26 and 27 refer to specific advice which must be obtained from “an actuary”. Clause 32 says that regulations may require specific actuarial advice to be obtained from “the scheme actuary”, where “the scheme actuary” is as defined by regulations. This is a very different approach from the Pensions Act 1995 (PA 95) which sets out the provisions for the appointment of “the actuary” and specifies the advice that must be provided by “the actuary”. More widely, the only reference in primary legislation to “the scheme actuary” (rather than to “the actuary” appointed under PA 95) is in the Pensions Act 2008. The responsibilities of a DB scheme actuary would not necessarily be the same as those of the primary actuary responsible for a collective DC scheme. The IFoA has responsibility for ensuring actuaries fulfilling specific roles have the appropriate skills and experience to carry out their responsibilities. Consequently, we would welcome the opportunity to work closely with Government towards clarification within the Bill of the roles which are to be reserved to “the actuary” or, failing this, in drafting the regulations to ensure there is clarity in what is required. We would also welcome consistency in legislation between usages of the terms “the actuary” and “the scheme actuary”.

16. The IFoA notes that there is inconsistency in definitions of “money purchase” and “defined contribution” between tax legislation (both existing and new, including the Taxation of Pensions Bill) on the one hand, and DWP legislation (including the Pension Schemes Bill) on the other hand. Given the extent of current regulatory change, the IFoA would encourage Government to implement as much consistency as possible across legislation (without introducing retrospective effects). If (as seems likely) it is not possible to have that consistency, we would suggest using distinct terms between the tax legislation and DWP legislation, rather than using the same terms with different meanings. In particular, including DC benefits as a subset of money purchase benefits under the tax legislation is not helpful given money purchase schemes are a subset of DC schemes under the DWP legislation.

17. There are a number of areas where we suggest the lines between DB, DC and Defined Ambition (DA) are not adequately drawn:

a. As already indicated in paragraph 3 above, the definition of ‘shared risk scheme’ in Clause 3 is very broad and, indeed, may be too broad in practice.

b. The provision outlined in Clause 6 may not work as intended; schemes can share risk by virtue of some scheme members having a ‘pensions promise’ and other having a ‘full pensions promise’ (or any discretionary benefit). Once a scheme is classified as a shared risk scheme it cannot satisfy clause 6(1) and so regulations would need to address such a scheme under clause 6(2). It would be helpful to have greater clarity about what may be in the regulations mentioned in 6(2).

c. If DB schemes with money purchase additional voluntary contributions (AVCs) are to be categorised as shared risk, it is likely that a majority of schemes will be reclassified. Even if the practical effects of re-categorisation are not significant, the costs of advice are likely to increase without any necessary benefit for scheme members.

d. The use of ‘each member’ in 3(a) of the Bill appears to be interpreted by Government as ‘each and every member’, but this is not a unique interpretation.

e. It is possible for schemes to offer one or more investment options within a range of options, some of which may be categorised as ‘shared risk’. However, as the choice of option is for members, if no members select one of the ‘shared risk’ options, it seems the scheme should be regarded as DC. However, a subsequent decision to select a ‘shared risk’ option could alter the scheme classification. We would welcome clarity on this matter.

18. ‘Full pension promise’ as set out in 5(1)(a) does not recognise the nature of many, if not most, DB schemes that are able to provide discretionary benefits. Consequently, it could be possible to argue that such DB schemes would fall into the ‘shared risk’ regime. Again, we would welcome an explanation if this were to be the case (although, as commented in paragraph 8, our preference would be for existing DB schemes to be outside the new legislation).

19. The gap between ‘full promise’ and ‘promise’ is significant. The former seems to imply that the full promise is fully defined at all times, but that the latter only applies to periods before retirement. It is also not apparent why a benefit calculated with reference to one factor (i.e. longevity) should be distinguished from benefits calculated to any other specific factors (e.g. inflation).


20. The definition of DC scheme would include one that provides annuities within the scheme and holds them as assets of the scheme. There would be merit in clarifying this within the Bill.

further queStIonS

21. The IFoA has a number of additional comments about the Bill and would welcome the opportunity to discuss these further:

a. It would be helpful to understand the justifications for the inclusion in the Bill of a provision that removes the possibility that a future Secretary of State might want to take away the requirement for indexation in DB schemes.

b. The definition of Normal Pension Age (NPA) is different to the Pension Schemes Act (1993) definition. It would be helpful to understand if there has been an assessment of the impact on existing schemes. In particular, if NPA were to change as a result of the new definition, there could be consequences for existing schemes, for example, with regard to their funding positions.

c. Trustees of schemes providing collective benefits may be required to obtain investment performance reports on a prescribed basis. There is no analogous provision for DB schemes; therefore, it would be useful to have clarity about the need for regulations. We suggest a sufficient requirement would be to specify policy on monitoring within the Statement of Investment Principles, or alternatively, if this were regarded as better governance, the requirement could be extended to other schemes.

November 2014

Written evidence submitted by the Investment Management Association (IMA) (PS 16)

About the IMA 1. The IMA represents the asset management industry operating in the UK. Our members include

independent fund managers, the investment arms of retail banks, life insurers and investment banks, and the in-house managers of occupational pension schemes. They are responsible for the management of around £5 trillion of assets in the UK on behalf of domestic and overseas investors.

2. The IMA is strongly committed to working with Government, regulators and other stakeholders to help develop a workplace pensions regime that will facilitate good outcomes in retirement. Whether through services to defined benefit (DB), defined contribution (DC) or defined ambition (DA) schemes, asset managers have an important role to play in the savings and investment process.

SuMMAry

3. The IMA is supportive of the Government’s plans to create an explicit space for ‘shared risk’ (DA) pension schemes in pensions legislation. The shape of pension arrangements should be decided upon between the providers and the beneficiaries of those arrangements and not influenced by regulation.

4. The emphasis on DA should not imply that DC schemes cannot deliver good outcomes for members. Whatever the nature of the scheme, one central determinant of success is effective governance. This will also have a role to play in facilitating the implementation of the 2014 Budget reforms, which we welcome.

5. While it is too early to tell what the future shape of DC default arrangements will be (and how far they extend into retirement), greater individual choice will need consistent, externally-provided guidance. Our evidence is focused on the amendments to the Bill that deliver the Government’s ‘guidance guarantee’, announced as part of the 2014 Budget reforms.

6. Choices made at the point of retirement have a fundamental impact on people’s finances for the rest of their life. We agree that it is vital that people receive appropriate guidance about their choices at this stage. But for most people, the need for guidance will not be a one-off process at point of retirement. We suggest the Government considers how the retirement guidance service could be used to provide assistance through both the accumulation and retirement income phases.

7. Guidance must give equal treatment to different types of retirement product, recognising that all options carry risks and helping people to understand what are often difficult trade-offs. Work is also needed to clarify for consumers the difference between guidance and regulated advice and how the retirement guidance service would fit with regulated advice.

rISk SharIng haS a role

8. The Pension Schemes Bill is an understandable response to the rapid shift in provision away from DB schemes, where investment risk resides primarily with the employer, towards DC schemes where the investment risk lies ultimately with individual scheme members who may be unwilling or unable to bear that risk. Should sponsoring employers, trustees or those responsible for scheme design wish to pursue certain forms of risk-mitigation or risk-sharing approaches, they should be able to act in what they believe to be the best interests of


scheme members. The IMA believes that as a result of this Bill, it will now be more straightforward to do so, and welcomes the additional scheme design options this Bill allows for.

9. Nonetheless, DA also carries risks and is not inherently better able to deliver good outcomes for scheme members than DC arrangements. The critical element in all schemes is an emphasis on governance and a clear focus on the delivery of member-centric objectives. Reasons why DC has been perceived as a ‘poor relation’ of DB include the relative lack of governance oversight in the former compared to the latter, as well as combined average employer and employee contribution levels in DC running at half those seen in DB.

retIrement guIdance IS crItIcal

10. The IMA welcomes the Budget 2014 reforms, but recognises the challenges involved. One of the most immediate and significant consequences of the Budget 2014 reforms was to bring to the fore the issue of how individuals get guidance or advice. The effective removal of annuitisation as the default method of taking an income from a DC pension and its replacement by complete control for the individual over their pension fund opens up a significant range of choices for the consumer.

11. It is too early to tell whether DC schemes will design a new approach to ‘default arrangements’ that include retirement income as well as the savings (or accumulation) phase. Given the difficult nature of some of these choices, together with well-known behavioural biases that may not incline individuals towards optimal decisions, the question of access to guidance and/or advice is a critical one. In this respect, the Government’s retirement guidance service is a key part of making these reforms work well for consumers. Choices made at the point of retirement have a fundamental impact on people’s finances for the rest of their life and we agree that it is vital that people receive appropriate guidance about their choices at this stage.

guIdance Should not Be a one-off proceSS

12. However, it is critically important to recognise that guidance is not a ‘one-off’ process. For most individuals, guidance will be an implicit feature of investment through the accumulation phase, given a widespread dependence on auto-enrolment and default strategies. Accessing retirement savings will not, for many, take the form of a one-off product purchase and on-going support may be needed into retirement.

13. For example, an individual might choose to access some of their pension fund via cash withdrawal or a drawdown strategy in the first years of retirement, with a view to possibly annuitising the residual fund at a later stage. In such a strategy, individuals might need guidance on the sustainability of income withdrawals over time as well as the optimal age to annuitise and the kind of annuity to purchase. While it might be appropriate to seek regulated advice in such circumstances, individuals may not choose this route and such a scenario suggests that the assumption behind the guidance guarantee cannot be that retirement income is a once-and-done decision at a given moment in time.

14. In this context, we note that, further to detail provided by the FCA in its recent consultation paper on the guidance guarantee19, the government envisages the retirement guidance service being targeted at individuals on retirement—on a per-fund basis. We are concerned that this approach does not give individuals the guidance they need throughout their savings lifecycle, and by focussing on the pension fund that triggers the guidance discussion, risks giving individuals only a partial picture of their financial situation as they consider their retirement income options.

15. We recognise the costs of providing this guidance mean that limitations will necessarily have to be put on individuals’ ability to access the service, but we think there is potential for greater benefit to be derived by re-thinking how the service is accessed. Allowing the individual access to the service each time they access a DC pension fund for the first time will not deliver the most benefit for the money being spent on the service—especially since the nature of guidance (as opposed to advice) means the information received is likely to be fairly generic. How much value is there to the individual of receiving the same generic guidance multiple times? Retirement planning should be holistic and the guidance service needs to be able to operate on such a basis. In this respect, serious consideration needs to be given to the practicalities of facilitating a holistic approach, bringing together all private and state entitlements.

16. By re-thinking how the service is accessed—for example giving people a set number of sessions over their savings life-cycle e.g. in their 50s, on retirement and once or twice through the retirement period—greater benefit could be derived from the same expenditure by giving consumers the opportunity to benefit from guidance at other stages in their retirement savings life-cycle and not just at the point that they access a DC pension fund.

clarIty over What conStItuteS guIdance

17. The other key issue arising from the creation of the retirement guidance service is the distinction between guidance and regulated advice and the boundary between them. For many individuals, guidance and advice will be seen to be the same thing—the distinction between them will not necessarily be appreciated. Consumers may access the guidance service thinking that they will be directed to specific products.19 http://www.fca.org.uk/news/cp14-11-retirement-reforms-and-the-guidance-guarantee


18. It is therefore important that the guidance providers make very clear to consumers what the difference is between the guidance they will receive and advice which they may choose to pay for. In particular, consumers must be helped to understand exactly what is provided under the guidance service and what is provided under paid-for advice. This should include the guidance service signposting people to regulated advice or other sources of information on retirement financial products where appropriate. Making sure this clarity exists will help avoid any disappointment with the service on the part of individuals.

guIdance on product typeS muSt Be neutral 19. We highlighted above the significant expansion in choice that will now face consumers following the

Budget. The IMA believes that the right product should be available to the right people at the right time. For many people, some form of annuitisation will still be desirable, particularly later in retirement. In addition, there is considerable scope for investment products, such as income funds, to support retirement provision in a more widespread manner. In order for people to come to a decision on the right product for them, guidance must give equal treatment to different types of retirement product, informing members of all the risks faced by individuals in pension saving, and not just the risk posed by falling markets. These should include inflation risk and ‘one period’ risk associated with an irreversible purchase of an annuity at the prevailing interest rate.

20. This has not been the case in the past. There has been a long-held expectation among Government and regulators that annuitisation should be the default approach at retirement, with ambiguity about whether drawdown required regulated advice. Efforts to improve retirement income through ‘shopping around’ (the Open Market Option), while positive, have arguably focused on only part of the problem. An individual might only be getting a better rate for a product that was not optimal for their circumstances.

21. The inherent attraction of annuitisation for regulators and policymakers is understandable given the guarantee of pay out regardless of market conditions and an efficient means to pool mortality risk, a particularly important consideration later in retirement, both from an individual and public policy perspective. Allied to this is little official (or industry) expectation of active consumer engagement, evidenced by the need to introduce automatic enrolment to encourage individuals to save at all for their retirement, and the tendency of scheme members to remain in default arrangements once enrolled.

22. The combined effect of these considerations was to ensure that prior to Budget 2014, there had been only muted discussion as to how guidance or regulated advice mechanisms could be developed further to help individuals plan effectively for their retirement. It appeared that the tendency to buy a level annuity was seen as an acceptable default.

23. In the new retirement landscape, this cannot be the case. Individuals’ circumstances are too different and the choices they face too complex for the notion of annuities as a default product to hold.

24. However, the greater flexibility for individuals will not result in better outcomes for them if any single class of product is still seen as the ‘safe’ default. Should uneven guidance be given, product innovation is less likely to occur, and consumers are less likely to make the best choices for them.

November 2014

Written evidence submitted by NASUWT (PS 17)

1. The NASUWT welcomes the opportunity to give evidence to the Public Bill Committee about the Pension Schemes Bill 2014/15.

2. The NASUWT is the largest teachers’ union in the UK.

3. The NASUWT has profound and deep concerns about the Coalition Government’s pensions policy. The NASUWT has progressed a trade dispute with the Secretary of State for Education over detrimental changes to the Teachers’ Pension Scheme (TPS) since 2011.

4. In addition, the NASUWT strongly opposes the provisions of the 2014 Pensions Act. This provides for further attacks on working people’s pensions, including increases to the pension age beyond those already announced.

5. In this respect, the NASUWT strongly deplores the announcement made by the Chancellor of the Exchequer in his 2013 Autumn Statement that the increase in the pension age, as previously announced, would be accelerated so that it would increase to 68 in approximately 2036 and to 69 and 70 at approximate ten-yearly intervals thereafter. The NASUWT believes that this is the clearest example yet of the Coalition Government’s ‘work till you drop’ culture.

6. The NASUWT has strong concerns about the Coalition Government’s ‘defined ambition’ proposals, which would weaken the regulatory framework to allow benefits to be reduced, allow for the ending of pensions indexation and bring about other detrimental changes to pension provision.

7. The NASUWT has very strong concerns about the long-term viability of the TPS as a result of the Coalition Government’s reforms, which are now demonstrated by the sharp increase in opt-outs from the TPS,


particularly on the part of teachers in the early years of their careers. Irrespective of its trade dispute with the Secretary of State for Education over the Coalition Government’s TPS reforms, the NASUWT considers that it is vital that the TPS is maintained as a key element of the national pay and conditions package for teachers.

8. The NASUWT therefore participates in this consultation in the interests of members. One of the key tests for the NASUWT is whether the current Freedom and choice in pensions proposals further threaten the viability of the TPS. In addition, the NASUWT is mindful that, for many members, their pension provision will be made up of their TPS pension, their state pension and also additional pension provision which could be subject to the ‘pensions liberation’ reforms. The NASUWT wishes to secure every potential element of teachers’ pension provision.

general commentS

9. The NASUWT will comment on the proposals set out in the current consultation, without necessarily following the format of answering each of the consultation questions.

SPeCIFIC CoMMeNtS

The ending of mandatory annuitisation of pension funds

10. As the consultation document makes clear, the Coalition Government proposes to end the mandatory annuitisation of pension funds, which was first enacted in 1921, and replace it with a system where pension savings can be extracted in one go and then used to purchase an annuity, invested as the beneficiary sees fit or simply spent all at once. The NASUWT believes that there is an enormous risk to this strategy.

11. The NASUWT accepts that there are problems with the annuities market, and that the high fees charged by some providers of annuities are nothing short of scandalous, but the purpose of annuities is to give fixed income during retirement up to death. The Coalition Government’s proposed reforms therefore run a high risk of creating a system where many current contributors to pension savings have no pension, simply because they have spent their pension savings on something other than an annuity.

12. Given this risk, the NASUWT believes that it is reckless for Government ministers to make comments that pensions savers may wish to spend their pension on a new Lamborghini. However, this does point up that a major motive for the Coalition Government is to create demand in the economy, which has been removed by the Government’s draconian and unnecessary austerity policy. The NASUWT believes that more effective regulation of the annuities market is the appropriate means of addressing its problems, rather than the ‘pensions liberation’ approach.

13. The NASUWT notes the references in the consultation document to the Coalition Government’s desire to create a larger market for financial products for social care20 and believes that the ‘pensions liberation’ policy is partly motivated by a desire to expand profit-making private sector provision to replace social care services which have been cut by its austerity programme. The NASUWT deplores the replacement of public sector social care provision with profiteering private sector provision.

14. In particular, the NASUWT draws attention to the key danger of ‘pensions liberation’, which is that pensions become seen as another form of saving, rather than a means of providing an income during retirement. The Coalition Government recognises this, stating in the current consultation document that, ‘there is also likely to be a group of people who spend their pension wealth early in their retirement.’21

Question 4

15. The Government’s proposed response is therefore to increase the minimum pension age to 57 in 2028. This is, in itself, a recognition that the risks of ‘pensions liberation’ are too great. In fact, the proposal that the minimum pension age could be raised to 10 years below the state pension age is an admission of the high level of risk involved in ‘pensions liberation’. The NASUWT is completely opposed to the proposal that the planned change in the minimum pension age should be applied to all pension schemes which qualify for tax relief, such as the TPS and other public service pension schemes. It is unacceptable to the NASUWT that teachers, and other public service pension scheme members, should pay the price of the recklessness of the Coalition Government’s pensions policy.

Question 5

16. The linked proposal that the minimum pension age should be increased even further to manage this risk, to five years below the state pension age, is therefore even more unacceptable to the NASUWT. Currently, teachers can access their pension at age 55 and such a change in TPS design would lead to widespread anger across the teaching profession. The retirement planning of hundreds of thousands of teachers would potentially be thrown into disarray by this provision. 20 3.1921 Paragraph 3.27


Management of risk17. The NASUWT accepts that the Government should legislate to remove the right of all members of

public service defined benefit schemes to transfer to a defined contribution scheme, except in exceptional circumstances, and considers that this removes the risk to Government finances posed by potential transfers out of both funded and unfunded public service pension schemes. In fact, the Government has already taken steps to prevent such transfers and it is therefore unnecessary to manage this risk further by changing the minimum pension age for public service pension schemes.

18. The NASUWT has not reached agreement over the TPS Proposed Final Agreement (PFA). It is a principled matter of concern to the NASUWT that, in circumstances where agreement on a PFA has been reached by trade unions in sectors other than education, some of those agreements would be broken by the application of the increase in the minimum pension age to public service pension schemes.

Question 819. As part of the process of managing the risks associated with ‘pensions liberation’, the Government

wishes to ensure that appropriate pensions guidance is available at key decision points during working people’s lives. Whilst the NASUWT, together with other trade unions, cannot provide independent financial advice, the Union is able to deliver generic advice on the framework pensions provision for teachers, and its work with teachers raises understanding of pensions issues. Trade unions, including the NASUWT, are key social partners in pension provision across the UK.

concluSIon

20. The NASUWT therefore rejects the ‘pensions liberation’ model as posing too high a risk to the pension provision of UK working people and to the UK’s public finances. Clearly, the Treasury does recognise this risk. However, if the Coalition Government ignores this and does enact the Pension Schemes Bill 2014/15, the risk to the public service pension schemes, including the TPS, should be managed by the banning of transfers from public service pension schemes, rather than by any increases in the minimum pension age.

November 2014

Written evidence submitted by the Association of Professional Financial Advisers— Supplemetary (PS 18)

Summary

1. This submission is made in addition to our earlier one dated 23 October 2014, and is made with the benefit of having now seen draft Schedule NS2 to the Bill, setting out the legislative framework for the guidance service.

2. The Association of Professional Financial Advisers (APFA) fully supports the Chancellor’s belief that greater flexibility for consumers at retirement is a good thing and welcomes the government’s commitment to implementing the guidance guarantee. We also believe that regulated financial advisers have an important role to play in making that vision a reality.

3. However, we believe the legislation should include a requirement that the guidance guarantee levy is allocated in such a way that it does not increase the cost of advice to consumers. Our proposed amendment to the Bill is outlined in our submission below.

4. Furthermore, having now seen the proposed amendments to the Bill, we have some additional concerns. Firstly we believe there needs to be a provision in the Bill requiring HM Treasury and the designated guidance service providers to use their resources in the most efficient and economic way when providing pensions guidance. Secondly, we believe the cost of any redress payable by designated guidance service providers, as envisaged by section 333G of proposed new schedule NS2, should be met out of the service providers’ existing budget, and not treated as an additional cost to be borne by the industry.

5. Our detailed comments are set out in our submission below.

apfa SuBmISSIon

Allocation of levy—proposed amendment 6. The guidance guarantee is to be paid for by means of an annual levy on the financial services industry,

with HM Treasury setting the amount required. As set out in our earlier submission dated 23 October 2014, to ensure costs are kept low, so that advice is affordable for as many consumers as possible, we believe the legislation should include a requirement that the guidance guarantee levy is allocated in such a way that it does not increase the cost of advice to consumers.

7. We therefore propose the following amendment to proposed new schedule NS2:

Line 355, at end insert—


“(2A) When making the rules under subsection (2), the FCA must ensure that the amounts to be levied on authorised firms does not result in an increase in the cost of financial advice for consumers.”

H M Treasury’s power to recover pensions guidance costs8. Section 333Q of proposed new schedule NS2 makes provision for the Treasury to recover the expenses it

incurs in giving pensions guidance or arranging for it to be given by designated guidance providers. However there are no provisions within this section for the Treasury’s costs to be in any way constrained, for example there is no requirement for it or the designated service providers to use their resources in the most efficient and economic way when providing pensions guidance. Whilst we understand that the normal controls around government spending will apply, we believe that as this is industry money that is being spent, not general taxation, there should be a specific requirement built into the legislation to ensure that HM Treasury and the designated guidance providers have a statutory duty to use the resources in an efficient and economic way. This mirrors the statutory duties imposed on the Financial Conduct Authority and Prudential Regulation Authority, as well as other regulatory bodies such as the Financial Services Compensation Scheme, which are required to use their resources in the most efficient and economic way.

9. We therefore propose the following amendment to proposed new schedule NS2:

Line 389, at end insert –“(12) In discharging their functions under this schedule, the Treasury and the designated guidance

providers must have regard to the need to use their resources in the most efficient and economic way.”

Redress in the event a designated guidance provider fails to comply with the standards10. We note that under section 333G, paragraph (2) of proposed new schedule NS2, a failure by a designated

guidance provider to comply with a standard set by the FCA is actionable at the suit of a private person who suffers loss as a result of the failure. Further, at 333I(1)(a) and 333L(1)(b), the FCA or the Treasury may recommend that the designated guidance provider make redress to those affected by a failure. The cost of this redress would then be included in the Treasury’s pensions guidance costs and may be recovered from the industry.

11. We believe that this arrangement does not provide any incentive for the designated guidance providers to ensure that they comply with the FCA standards, as unlike a commercial entity, they will not have to pay any redress if it is awarded—the industry or the general taxpayer will end up having to pick up the bill (depending on whether the Treasury bears the cost or passes it on to the industry). Any redress payable should therefore be funded by the provider of the guidance out of their existing budget and not as an additional cost to the financial services industry. To do otherwise would mean there is no incentive for the provider to ensure they get their processes right, as they will always be able to pass the cost of any mistakes on to someone else.

aBout apfa12. The Association of Professional Financial Advisers (APFA) is the representative body for the financial

adviser profession. There are approximately 14,000 adviser firms employing 81,000 people. 40% of investment and protection products are sold through financial advisers, with annual revenue estimated at £3.8 billion (£2.2 billion from investment business, £1.2 billion from general insurance and £400 million from mortgages). Over 50% of the population rank financial advisers as one of their top three most trusted sources of advice about money matters. As such, financial advisers represent a leading force in the maintenance of a competitive and dynamic retail financial services market.

November 2014

Documents

Public Bill Committee...public bill committee published by authority of the house of commons london—the stationery office limited pbc (bill 012) 2014–2015 pension schemes bill