Consultation outcome

Chapter 6: Other changes to legislation

Updated 21 June 2021

This was published under the 2019 to 2022 Johnson Conservative government

Defaults with a “promise” and production of a default Statement of Investment Principles (SIP)

Background

1. When government introduced new Charges and Governance requirements in April 2015 on occupational defined contribution (DC) pension schemes, the range of measures included:

• a charge cap – under regulation 6 of the Charges and Governance Regulations 2015^{[footnote 45]}, to ensure that “double-defaulters” – members of default arrangements in schemes used for automatic enrolment (AE) – were protected from high charges
• a requirement – under regulation 2A of the Investment Regulations 2005^{[footnote 46]}, to produce a Statement of Investment Principles for the default arrangements used by the scheme (a default SIP) – to ensure that the default arrangement was appropriate for the membership, and the way in which this had been done was documented

2. At the time of the introduction of both measures, a carve out was introduced in regulation 3(6) of the Charges and Governance Regulations 2015 to provide that an arrangement into which the member was automatically enrolled without making a choice of fund was not a default arrangement if before the benefits come into payment, it had a “promise” about the level of benefits from a third party. This meant that an arrangement with a promise which would otherwise meet the definition of a default was exempted from the cap on charges which applies to other default arrangements in qualifying schemes. This remains government policy, in recognition of the cost of providing a pensions promise.

3. In practice the only commonly found default arrangements which might arguably have guarantees such that they are, therefore, exempted from the charge cap – are older with profits policies.

4. Because of the way the regulations providing for a default SIP requirement were drafted, no scheme with a promise is required to produce a default SIP. This flows from the definition of “default arrangement” in regulation 1(2) of the Investment Regulations 2005, which was inserted by regulation 20(a) of the Charges and Governance Regulations 2015. Because the definition of default arrangement for the purposes of the Investment Regulations 2005 and the default SIP requirements does not omit paragraphs (6), (7) and (8) of regulation 3 of the Charges and Governance Regulations 2015, the carve out of arrangements with promises from the charge cap is also carried over to the default SIP.

5. This is not in line with our desired policy, which would be that schemes which offer a with profits fund as a default arrangement are required to document its aims and objectives; to explain how the selection of a with profits is intended to ensure that the assets are invested in the best interests of beneficiaries; and to regularly review its performance and appropriateness.

6. We are, therefore, consulting on a change in regulations which would require schemes for whom the default arrangement would (were it not for regulation 3(6) in the Charges and Governance Regulations) be a fund with a promise to be required to meet all the requirements in regulation 2A and produce a default SIP.

7. We also propose that the requirement to produce such a default SIP should apply with effect from 3 months following the end of the first scheme year to end after the coming into force date, in good time to be included in the first Chair’s Statement which is required to be produced after the coming into force date. This gives schemes a minimum of 3 months and up to 15 months in order to document a default SIP.

8. This proposed change is made in regulation 4(2) of the draft amending regulations.

Question 11: We propose that where the default arrangement includes a promise, the trustees of the scheme should be required to produce a default SIP.

We propose that this should be produced within 3 months of the end of the first scheme year to end after the coming into force date.

(a) Do you agree with this policy?
(b) Do you agree that the legislation achieves the policy?

Reporting costs and charges for funds which are no longer offered

Background

9. With effect from 6 April 2018 the Occupational Pension Schemes (Administration and Disclosure) (Amendment) Regulations 2018 (“the cost transparency regulations”) have amended the Administration Regulations 1996 to require schemes to state the level of charges and transaction costs for the default arrangements offered by relevant schemes, as well as “self-select funds” – the funds which members are able to actively choose.

10. Our intention was that every member invested in the scheme would be able to identify the charges and transaction costs which they had paid for the funds in which they were invested.

11. The relevant drafting is in regulation 23(1)(c)(ii) of the Administration Regulations. Our rationale for the reference to “each fund which members are able to select” was to ensure that trustees who offer a default arrangement which is made up of several underlying funds, but which members cannot individually select, are not necessarily required to show the charges and transaction costs for each individual component fund – they are only required to state the level of charges and transaction costs applicable to the default arrangement, under regulation 23(1)(c)(i).

12. Our rationale for the reference to “in which assets relating to members are invested during the scheme year” was to cater for the situation where trustees have many fund offerings (sometimes more than 100) but some of these have not been selected by any of their beneficiaries.

13. However, we have been made aware of an alternate interpretation of “each fund which members are able to select”. It has been argued that this means schemes are not required to show costs and charges for funds which members have previously actively selected, and in which those members remain invested, but are no longer offered to savers, and, therefore, are not able to be selected.

14. As this was never the intention, we are proposing to make an amendment to the Administration Regulations 1996 to require schemes to show the charges and transaction costs for each fund in which assets relating to members are invested during the scheme year and which members are able to select or have historically been able to select.

15. We are proposing that the regulations should “bite” on schemes with effect from the end of the first scheme year^{[footnote 47]} to end after the coming into force date. As the Chair’s Statement must be produced within 7 months of the scheme year end date, this means schemes will get a minimum of 7 months and a maximum of 19 months, depending on the scheme year end date, in which to publish costs and charges for each fund in which members are invested that they are or have been able to select.

16. This change is made in regulation 2(2)(b)(i) of the draft regulations.

Question 12:

We are proposing that, for relevant schemes, charges and transaction costs should be disclosed for any fund which members are (or were) able to select and in which assets relating to members are invested during the scheme year.

(a) Do you agree with this policy?
(b) Do you agree that the legislation achieves the policy?

Wholly-insured schemes

20. Regulation 8 of the Investment Regulations 2005^{[footnote 48]} upholds a long-standing exemption for wholly-insured schemes from sub-paragraphs (b) and (c) of regulation 2(3) of these regulations. As stated in the 2005 Investment Regulations Consultation,^{[footnote 49]} wholly-insured schemes are exempt from these regulations, on the basis that a combination of scheme rules and the terms of the policies of insurance give trustees no discretion as to how the insurance company invests the scheme’s funds.

21. Following the transposition of The Shareholders’ Rights Directive (SRDII)^{[footnote 50]}, stakeholder feedback has highlighted that regulation 8(1)(a) of the Investment Regulations has not been amended to extend the exemption for wholly-insured schemes to new sub-paragraph (d) that was introduced through the SRD II regulations. This sub-paragraph [regulation 2(3)(d)] requires trustees to set out their policies in relation to their arrangement with any asset manager – including references to matters covered in sub-paragraph 2(3)(b). The Pensions Regulator (TPR) is aware of this issue and is not prioritising action in this area, pending these regulations.

22. Wholly-insured schemes are exempt from the need to produce most sections of the SIP. This is because typically a combination of scheme rules and the terms of the policies of insurance give trustees no discretion as to how the insurance company invests the scheme’s funds. We therefore propose to amend regulation 8(1)(a) of the Investment Regulations to extend the long-standing exemption to cover regulation 2(3)(d) also. In our proposals published here, only wholly-insured schemes are in scope of the amendment to Regulation 8(1)(a).

23. However, we do still require trustees of DC schemes investing via unit-linked contracts to set out, in relation to the default fund or funds, in which the vast majority of members are invested, their policies in relation to choosing investments, the kinds of investments to be held, consideration of environmental, social and governance (ESG) risks including climate change, engagement, the exercise of voting rights and their arrangements with asset managers. This is because the trustees are free to enter different insurance contracts in order to change the investments which make up the default.

Question 13: Do you agree with this proposed change? Do you have any other comments on this topic?

1. The Occupational Pension Schemes (Charges and Governance) Regulations 2015 ↩

2. The Occupational Pension Schemes (Investment) Regulations 2005 ↩

3. Defined in regulation 1 of the Administration Regulations ↩

4. The Occupational Pension Schemes (Investment) Regulations 2005 ↩

5. Pensions: Investment requirements - Consultation on Draft Regulations 2005 ↩

6. The Shareholders’ Rights Directive (EU) 2017/828 ↩