The last few years have been astonishing for pensions.  What was just a quiet backwater just a few years ago has become today’s hot topic.  You just need to look at the number of pension publications that have grown from perhaps just a couple of monthly publications to the plethora of magazines and newssheets that now seem to pass our desks that now seem to pass our daily … and that’s without all the comment sheets from consultants.  It is difficult for professionals to keep pace, let alone humble trustees.  We certainly live in interesting times.

I thought that it would be worth finding out the origin of that saying – so a quick resort to wikipedia.  Apparently it was the first of three ancient Chinese sayings.  The second saying is somewhat pertinent – may you come to the attention of the authorities.  Because coincidental with, and contributing greatly to, this explosion has been the Pensions Regulator (and its kid sister, the PPF).  Previously, pensions came largely under the auspices of the Inland Revenue (now HMRC), ignoring the feeble and often ridiculously over-zealous OPRA.  The Inland Revenue maintained a relatively light touch, equivalent to a few bobbies on the beat.  The Pensions Regulator has been much more prominent, not zero tolerance but definitely high profile.

The Pensions Regulator aims to protect the interest of members (and, at the same time, the interests of the PPF).  It aims is to try to ensure that, as far as possible, members get the benefits they expect, to prevent abuses and to improve standards (particularly in relation to funding and security, standards of data and scheme governance).

There is a tendency to see the Pensions Regulator as the ‘enemy’; seeking to impose funding standards, reducing recovery periods and putting pressure on for employer covenant reviews.  We don’t hold with this view of the Regulator – he is really the trustees’ friend and supporter if used correctly.  The Regulator has been subtly steering trustees to adopt stronger funding bases (well perhaps not subtly), and to actually look at and monitor the strength of the employer, whom they rely on if things go wrong. 

Coming back to the Pensions Regulator as the friendly policeman, trustees have nothing to fear if they behave themselves and act as good citizens.

However, in order to behave you have to keep your house in order, which brings me on to governance.  The Regulator is encouraging, demanding improvements in governance.  I believe that this can go too far, for example in requiring lay trustees to read and understand their all trust documents (which suggests that sometimes the Regulator is in their ivory tower – have they ever tried to read a trust deed and all the amending documents!).

For good governance you need a record of what you have done, for audit and reference, and procedures in place for ensuring that things are done properly in the future (to meet legislation and good practice).

In our role as trustees we found that we needed to have good governance systems in place.  In our role as consultants we need to have similar systems to assist trustees and need to advise trustees themselves on what they should have in place.

We realised that one of the priorities was for trustees to be able to access all important documents, reports and minutes and papers of past trustee meetings.  Such information was often disorganised, spread out in different places, incomplete, badly referenced and inaccessible.  There was, therefore, a need to put in place a system that allowed any documents or reports to be pulled down instantly, referenced so that gaps could be spotted and filled and allowed electronic copies of documents to be provided to members where they hade the right to them.

A particular bugbear of mine is trustee meeting packs.  Often meaty piles of papers they more often than not get filed away in a drawer as a meeting pack.  As such they are not easily referenced and yet it is amazing how often you need to refer back to something that was said or reported on at a previous meeting.  Digging out old meeting packs is a nightmare!

In addition, trustees need a diary system to pick up actions (what now seems to be being called a business plan).  Tracking and ensuring that things are done are a headache for trustees (and indeed their advisers) so that a simple, effective and automated reminder system is a godsend.

SchemeHub stemmed from a realisation that trustees did not often have access to everything that they needed and certainly had difficulties tracking important jobs.

SchemeHub is a low cost / simple solution for the masses.  It is not intended as an all singing all dancing system that tries to incorporate too much.  The aim was something that does those jobs that the trustees really need doing.  Development concentrated on essentials in order to make it practical and affordable for all schemes.

Oh, earlier I mentioned that there were three Chinese saying.  You may be interested in the third – may you find what you are looking for. 

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Our quarterly round up of the goings on in the pensions world

The Emergency Budget

The first coalition ‘tough but fair’ Budget was presented in June and there were some important pensions related announcements:

• The age for compulsory annuitisation will increase from 75 to 77 with transitional arrangements in place for those who reach 75 before April 2011. 
• The Government is proposing an increase in State Pension Age to age 66. A review will be undertaken as to how increasing longevity can be managed and the date from which the State Pension Age should be increased.   
• There has been much said about the previous government’s plans to restrict tax relief from April 2011 for those earning over £150,000 per annum and the complicated ‘anti-forestalling’ arrangements which were to apply prior to April 2011.
•  The new Government has stated that it will repeal the higher rate tax relief legislation and will look at the approach which was suggested by many in the pensions industry, including the NAPF, of reducing the annual allowance.  Anti-forestalling provisions are still in place.
• The commitment to increase the Basic State Pension by the higher of earnings, prices (measured by CPI rather than RPI) or 2.5% was repeated.
• The Government voiced its support for auto enrolment and announced that it will will review NEST.
• Separately, the Government announced a review of public sector pensions which is due to provide an interim report in September 2010.  The final report should be available in time for the 2011 Budget.

The Regulator's First Contribution Notice

Several years after it replaced OPRA, the Pensions Regulator has issued its first Contribution Notice for £5million to VDW, the parent company of Bonas Ltd.  VDW placed Bonas into Administration and the immediately bought the business back through a 'pre-pack' arrangement.   The Pensions Regulator has viewed this as a clear case of 'pensions evasion'.

The Bonas Ltd pension scheme entered the Pension Protection Fund in 2007.  The amount required under the Contribution Notice was calculated as the amount needed to take the pension scheme up to full funding on the PPF basis.  Whilst this will assist the PPF to some extent, it is uncertain why tPR has not pursued the full buy-out debt.  If it is successful in enforcing the Contribution Notice, members will receive less than their full entitlement. In this case, it would appear that tPR is putting the interests of the PPF first and the members second. 

VDW is appealing the decision to issue the Contribution Notice

BP Oil Spill and the Impact on Pensions

As well as causing President Obama a giant headache, the Gulf of Mexico oil spill has had an immediate impact upon UK pension schemes and highlighted a number of risks that Trustees may not have seriously considered previously.

In response to pressure from the US Government, BP cancelled its first quarter dividend payment in order to divert funds into a clean-up and compensation scheme.  It has been estimated that pension schemes receive £1 out of every £8 they receive in dividends from BP.

Obviously, the sharp fall in BP's share price could be of concern to any scheme that holds a substantial shareholding.

The environmental disaster will obviously be very expensive to deal with but seems unlikely to topple the oil giant.  However, it highlights the dangers of schemes investing heavily in 'blue-chip' stocks which pay the dividends that many Trustees rely on to keep paying their pensioners. 

Few Trustees would have thought that they could be criticised for investing in BP but it now seems that Trustee boards will have to reconsider how they balance the need for dividend income with the risks faced by the companies in which they invest.   Some commentators have criticised corporate investors for failing to identify poor corporate governance and risky business models in the search for a good return. 

Regulator Issues Guidance on Covenant Review

Unless a scheme is fully funded and following a very safe investment strategy - a mythical beast! - the biggest risk pension schemes face is that of covenant risk, i.e. that the sponsoring employers fail with insufficient assets to meet any deficit. Unfortunately this risk cannot easily be transferred or diversified away and so regular monitoring is the best schemes can do.

The Pensions Regulator has issued a consultation document on new guidance for trustees on assessing, monitoring and taking action in relation to their employer covenant. It is very much in line with what the Regulator has been saying in the past, i.e. that all trustees should have a framework for assessing and reviewing the employer covenant.

However there is a particular focus on continuing to monitor the covenant and having in place plans for calling upon the employer support early and thereby avoiding doing so in instances where there might be many competing demands for limited funds or when it would substantially weaken the employer.

RPI vs CPI

On 8 July, Steve Webb, the Minister of State for Pensions, made a Statement to Parliament which announced the Government’s intention to move to using the Consumer Price Index (CPI) as the measure of price inflation for the purposes of calculating the statutory pre and post retirement increases to apply to occupation pension scheme benefits. The Government expects to publish the new increase order, based on CPI, in November or December 2010.

There is still a lot of thinking to be done on this before legislation is passed, in particular:

• Whether the government will legislate to override scheme documents or whether the increase applied will depends on how each scheme’s documents were drafted and whether they refer to statutory increases or specifically to RPI.
• While base scheme documents (i.e. Trust Deed & Rules) may refer to statutory increases, information provided to members (scheme booklets and the like) may well refer specifically to RPI.
• There is the issue of how annuities which have already been secured will be affected – presumably these will retain the RPI linkage as this is what has been priced in but this may result in pensioners who have had annuities secured for them receiving different pension increases to those who do not have annuities secured for them (even if their benefits were accrued under the same scheme)

There is also concern over the lack of consultation and the precedent that is being set of applying retrospective amendments which, quite probably, will have the effect of reducing members’ benefits. 

We are looking forward to hearing more from the Government as to how this change will be applied but feel that overriding legislation ought to be put in place in order to ensure it is applied across the board and that Trustees are not stuck with the predicament of having to commission an extensive review of their Rules and other scheme documents to determine the increases that ought to be paid.

Proposed IAS19 Changes

The International Accounting Standards Board (IASB) published an Exposure Draft setting out proposed changes to IAS19 on 29 April.  Key changes include:

• Immediate recognition of gains and losses on the balance sheet (i.e. removal of the corridor approach)
• Gains and losses to be disclosed under Other Comprehensive Income (rather than the Statement of Recognised Income and Expense)
• Net of interest cost and expected return on assets to be reflected in finance cost (not operating cost)
• Subjective choice of expected return on assets to be removed, and instead, the net of liabilities less scheme assets multiplied by the discount rate
• Administrative expenses to be capitalised into the value of liabilities (rather than allowed for in expected return on assets or within service cost)
• Need for clearer information about risks arising from defined benefit plans (e.g. sensitivity analysis, matching, anticipated future contributions)

It is hoped that these changes would mean that pension costs reported by different companies were more consistent.  If implemented, the proposals are likely to lead to a reduction in reported profits, an increase in liabilities recognised on balance sheets and increased volatility year on year

It has been interesting to see the recent articles on the idea of paying lay trustees.  Perhaps unsurprisingly, it seems that the majority of lay trustees favour the idea of being paid. 

The role of the trustee has become more and more complex over recent years and the Pensions Regulator is imposing ever increasing requirements for knowledge and understanding.  The need for trustees to do extra-curricular learning, outside of trustee meetings and more formal training sessions, allied to ever-increasing risks of potential personal liability, is something for which lay trustees should almost certainly, at first sight, be remunerated. 

However, it is worth stepping back for a moment. 

There is a danger that, if trustees are paid then the wrong people will be attracted.  The job of trustee may be seen as a way of earning a few extra pennies rather than the vocation that it has become.

In addition, if lay trustees are paid then they will perhaps have a greater duty of care just because they have been paid.  They will become equivalent to a professional trustee by default.  Wouldn’t it be better, therefore, to accept that the days of the lay trustee are over and that the job should be left to professionals who have built up the necessary knowledge and understanding? 

Lay trustees can become professional trustees if they so wish and there are many examples of where this has happened; and good trustees they are because they have had the desire to pick up the knowledge and skills.

We should, however, accept that things have become so complex that the days of the enthusiastic amateur are over.

We believe that company and member nominated representatives can bring something to the party in terms of helping in the running of schemes.  But do they have to be trustees to do this?  Wouldn’t it be much better to have professional trustees who run schemes and carry the can with an ‘advisory’ committee, made up of company personnel and interested members, to help and assist. 

Members of the committee could attend trustee meetings as observers but would be freed of all the paraphernalia of trusteeship.  They would be there to help the professional trustee, bringing to the party knowledge of the scheme and the views of the members and the sponsoring company.  Trustee meetings would be much the same as trustee meetings at present, although interestingly conflicts of interest fall away because the representatives do not have to wear a sometimes ‘ill fitting’ trustee hat.  At the end of the day, the professional trustee would make independent decisions and ‘carry the can’. 

This must be the way forward!

As a result of the Government’s announcement on GMP equalisation, Prudential has ceased work on completing existing ‘buy-out’ deals and assigning benefits for schemes in wind-up. 

 In light of Angela Eagle’s statement, Prudential have stated, “ We believe that this statement could have a significant impact on schemes with post-May 1990 GMP benefits currently in wind up; with the potential to delay progress and invalidate previous work completed.    In light of the uncertainty created by this announcement Prudential are, in the short term, suspending the issue of policy documentation for any schemes containing members with post-May 1990 GMP, irrespective of whether a previous equalisation exercise has been performed or not. We are currently seeking clarification on this matter and will review our stance as soon as possible.”

 The statement highlights the uncertainty created by the Government’s announcement and also gives some indication of the financial impact this may have.  Obviously, there will be a cost to pension schemes and sponsoring employers, not only in terms of the actual recalculation exercise but also in respect of the effect on scheme funding and the impact on the PPF levy.   To this list we can add ‘taxpayers’, who will be picking up the bill for FAS cases as well as public sector schemes and insurance companies who, like Prudential, may be concerned about taking a hit for equalizing GMPs for completed buy-out deals. 

 For a number of years, Prudential and Legal & General were the biggest players (and for some time the only players) in this market.  Both must fear the commercial impact of GMP equalisation for schemes where wind-up has been completed and the liabilities now rest squarely on their books.

Prudential’s stance is understandable but it will also cause further headaches for schemes where wind-up has been a painfully protracted exercise and where tPR’s goal of completion in 2 years seems like a pipe-dream. 

So the madness of our pensions legislators continues with the Minister’s announcement that schemes will, alas, have to try to untie the Gordian knot of GMP equalisation. 

The need to assess how GMPs should be equalised, the estimating of the additional costs, the advice on how best to implement GMP equalisation, the reopening of old calculations (many of which will be poorly documented), the comparison of payments made with payments due may have some pensions consultants and administrators rubbing their hands with glee.  I personally find the whole concept of GMP equalisation abhorrent.

Anyone who has tried to recalculate benefits to allow for equalisation that has been deemed to have been implemented incorrectly will know that the exercise is fraught with difficulties, is rarely precise because of lack of information and is hellishly expensive to complete. 

Please let us have some common sense here.

The GMP is intended to be more or less equal to the deduction that is applied to members’ SERPS entitlement in respect of contracted out service.  Surely the answer is for the Government merely to say that, where schemes might be required to equalise GMP, the corresponding deduction from State benefits is increased similarly so that the overall expected benefit from Scheme and State is the same. 

Note here that the Government appears to have the power to make changes to State benefits (witness the raising of the State pension age) without the need to protect accrued benefits.  I know that there would be cases around the edges where this might not be work and that the concept of considering State and private provision together may be controversial.  However, unless the world has gone completely mad, why would any member question the approach if their net position is going to be unchanged?

Could the Government be criticised?  It hardly seems so since they would be equalising benefits for men and women. 

But wouldn’t this be equalising down?  Yes, but it appears that the Government is allowed this privilege (note the raising of the State pension age again).

Wouldn’t life have been simpler if schemes had had the same privilege to change the normal pension age unilaterally for future retirees?

The issue of GMP equalisation may seem to the Government to be the right thing to do but creating further mayhem in a pensions industry which, year after year, has been bombarded with ill conceived or ill thought out legislation hardly seems the best way forward. 

Our pension provision has been made incredibly complicated and increasingly complex and costly to administer.  Let’s not sick the boot in with GMP equalisation.  The issue has been stuck in the drawer for 20 years, it is a nettle that few schemes have decided to grasp.  For the good of all let’s leave it that way.

And what of non - GMP benefits?

Whilst thinking about the subject of GMP equalisation which has recently been thrown up, I turned to the ‘back-equalisation’ of other pension benefits under the PPF as an example of the potential futility of this exercise.

The PPF has forced many trustees to look closely at their trust deeds (perhaps in some cases for the first time!) and review the action that was taken to equalise pension benefits as a whole. 

Members may have been advised that pension ages have been equalised.   They understood the new common pension age and were happy to accept continued membership on this basis.  Schemes have been administered on this basis.  However, it seems that, because the scheme documents were not revised properly to put into effect the change to pension ages, the change has been deemed not to have been made at the date everybody thought. 

Despite the fact that everyone (companies, trustees and members) understood and accepted the original change it appears that estoppel principles (ie what everyone understood was the case) do not apply and a strict legal interpretation is imposed.  Should this be re-examined?

The result has been windfall payments for many members with the costs being met by the sponsoring employers (or in the case of the PPF, other sponsoring employers, or FAS, the Government ie you and me).  And, hey presto, the pensions advisers have made a killing putting this into place, all of which has been funded in the same way!

Which brings me to my main concern relating to ‘back-equalisation’ of scheme benefits:  The putting right of supposedly incorrect equalisation is a costly exercise.  To dig out the file for a member who took early retirement in 1995, say, to analyse the way in which the benefit was calculated, to assess how the calculation should be revised, to determine actual pension payments made over the last 15 years (possibly using incomplete records), to compare that with the pension that should have been paid can cost hundreds of pounds (just for one member). 

The additional payment might then be £5 per annum.  So we have spent £500 (say) to determine that a member will receive an extra benefit worth perhaps £50.  Is this madness?  Legislation seems to require that the PPF (including the ex-FAS) has to make this calculation no matter what the cost – again all good news for the advisers but bad news for employers and the tax payer.  Quite frankly, it makes my blood boil.  We need to introduce some pragmatism and common sense into this process. 

Perhaps the Government ought to appoint a Minister for Practicality in Pension Fund (a new PPF) legislation.  It is long overdue.

The deadlines met, the jobs all done

The blogs are written (bar this one)

The files are filed, reports issued

The once manic phone is now subdued

Baubles on windows and tinsel round screens

A quietly festive office scene

Outlook now sports an ‘out of office’ reply

Desktop papers swapped for a warm mince pie

As we hang up our ties and leave the fold

Of office warm for pavement cold

We wish you a good helping of Christmas cheer

And all the very best in the coming New Year

Marian Elliott FIA

Director

You will probably have read the Chair of the Pensions Regulator's comments concerning his dim view of pension transfer incentive exercises (where sponsoring employers provide an enhancement to standard transfer values).

 If you have the time you can read the full text of David Norgrove's speech here http://tinyurl.com/ye8cnwo . 

 Perhaps you actually attended the NAPF Trustee Conference and would like a souvenir of the experience, or maybe you were there and got locked in the toilets and missed out completely.   

 If you'd like to pretend that you were in charge of tPR you could deliver the speech yourself to an appreciative audience.  Helpfully, the pauses in the speech are clearly marked out so you will know when to breathe.  I'm planning to deliver it to my in-laws following Christmas dinner.  I'll let you know how it goes.

 However, if you're pressed for time (and are currently thinking of stopping reading about now) the highlights of the speech were Mr Norgrove's statement that "Trustees should start from the presumption that such exercises and transfers are not in member interests."   He also added that "There may be individual circumstances that lead some individual members to make a transfer decision based on sound rationale and advice - but in general it is unlikely to be in members' interest to transfer out of a DB scheme."

 TPR has said it has received reports of worrying tactics being used during enhanced transfer exercises, including:

• execessive pressure to make a decision - with constant e-mails, phone call and home visits
• the provision of misinformation, including a strong suggestion that the future of the scheme is at best uncertain
• putting excessive time pressure on members to make a decision

 
Obviously, nobody condones transfer schemes where the incentive may be 'sending the boys around' or applying a 'chinese burn' so many seemed a bit miffed that tPR's message on the subject seemed to link enhanced transfer value exercises with shady practices.

  As you would imagine, many commentators in the pensions industry have responded by saying that enhanced transfer exercises are appropriate and may be appreciated by scheme members if carried out correctly. 

  A few thoughts crossed my mind whilst reading Mr Norgrove's comments and the responses to it:

1. If trustees should presume that transfer values are not in a member's interest, what should they presume about standard (unenhanced) transfer value requests?  
2. The Financial Assistance Scheme was partly a Government response to claims that it encouraged people to join DB schemes by overstating the cast-iron guarantees that they provided.  Could tPR come under fire in the future if an overtly negative view discouraged members from taking an enhanced transfer value from a scheme whose employer became insolvent at some future point
3. No one would dispute that it would be wrong to provide misinformation about the future of the scheme i.e. suggesting that benefits may not be paid in full.  However, some of the information that Trustees are required to provide to members, such as Summary Funding Statements can cause anguish in themselves and lead members to make their own conclusions about the future of a scheme.  Telling members about what would happen in the event of wind-up and the operation of the Pension Protection Fund can (and does) cause some members to question the future of the scheme, especially if the funding level is poor. How much reassurance can a Trustee give to someone who is 10 or 20 years away from retirement.
4. A few years ago, when pretty much everyone in pensions agreed that most people should contract back into SERPS, some well known figures said that they would remain contracted-out as they preferred the certainty of money in their personal pensions to a government benefit that could have changed beyond recognition by the time they retired.  Could you really tell somebody whose scheme benefits were in excess of the PPF cap that an enhanced transfer value would not be in their interest?

 
On this final point, it is interesting to note that the Telegraph recently reported that a number of pilots at British Airways, who are forecast to get quite high pensions, are transferring their benefits to other pension arrangements.  http://tinyurl.com/y9hmzb4

  One could imagine that a pilot set to receive a pension of, say, £75,000 per annum would not be greatly impressed to receive a pension of under £30,000 in which only the post 1997 benefits get any increases in retirement should the scheme fall into the PPF.  Mind you, it would be hard to read their emotions if they were wearing aviator sunglasses.

  British Airways pension difficulties are well known and I doubt that Willie Walsh would get a warm reception for suggesting an ETV exercise in the near future. 

  TPR may be thinking that if a company can fund an ETV  then it can fund full pension benefits as they fall due.  That may be the case in the short to medium term but you would be quite optimistic to argue that it would always be the case. 

Richard Bryant

Head of Trustee Services

I attended a debate recently on the pro’s and con’s of fiduciary management in relation to a scheme’s investment strategy.

Under the fiduciary model, the trustees effectively hand over their assets to a fiduciary manager whose job it is to invest the assets in such a way that, in a specified time period, the funding position of the scheme has improved to an agreed level.  That is the only benchmark, all asset allocation and timing decisions are completely down to the fiduciary investment manager.

The debate was a lively and interesting one – if you want to read more about it, this is a link to a great blog documenting the debate http://tinyurl.com/y8wphrk  One of the themes that arose out of the debate was that it was a sensible thing to outsource trustee duties (such as setting and monitoring the investment strategy) if the trustees did not feel that they were best placed to carry out these duties.

In the world of billion pound pension schemes where the trustee board has a Chief Investment Officer and a separate investment sub-committee, along with a raft of advisors and monitoring processes and procedures, there is some room for debate as to whether the trustees and their advisors or a fiduciary manager is best placed to make the investment decisions. 

In the world of sub £100m pension schemes where the trustees may meet irregularly and there is no CIO or investment sub-committee to continuously monitor and review the strategy, I don’t think there is any debate.  The problem is one of cost – these schemes would benefit most from the fiduciary model but are likely to be unable to afford it.

This problem extends to funding negotiations, compliance and governance issues, monitoring administration procedures and costs and understanding the advice and reports issued by Scheme Actuaries and consultants.  Add in the day job and the infrequent meetings and the lay trustee has very little chance of being able to adequately manage the mounting demands of their pension scheme.

So what if there was a solution in the form of complete fiduciary scheme management where all of these duties were addressed and properly managed on behalf of the trustees?  Where the existing trustees and company representatives would be free to attend and participate in trustee meetings to the extent that they wish to do so.  Where the responsibility for frequent real-time decision making was delegated so that these individuals are not repeatedly asked to make decisions about matters they don’t fully understand within timescales which are difficult to achieve given their proximity to each other and the other responsibilities which they have in the form of their day-to-day jobs.

What if part of the fiduciary manager’s role was to review the data held to ensure that it is correct and complete, set and monitor a funding target and an investment strategy to meet it, cover off all compliance issues and, at the same time, reduce the annual expenses incurred by the scheme (including their fee) by efficient management and review of all service providers’ mandates and fees.

Too good to be true? The good news for the smaller scheme trustee is that it isn’t – we’ve done it.

Marian Elliott FIA

Director

Marian's essay on what the Actuarial Profession might look like in 2020 is featured in this month's issue of 'The Actuary' magazine.  The essay was the winning entry in a competition organised by the Actuarial Profession to encourage actuaries to attend the ICA congress in Cape Town next year.

We may be biased but we love this essay and think it is a really entertaining and engaging read (not just for actuaries!)

The article can be read in the online version of The Actuary http://www.the-actuary.org.uk/871285 and Chris has written a few words about Marian's history and where some of the ideas for the essay may have come from on his blog.  Yes, Chris has a blog - check it out at www.chrisatkin.posterous.com