David Brooks says consolidation is not the only option for DB schemes
The Pensions and Lifetime Savings Association and The Pensions Regulator (TPR) are battling to convince a sceptical pensions industry that consolidation and "super-funds" are the future for defined benefit (DB).
There are three key areas where people are concerned that small DB schemes are missing out. These are governance, costs and access to pooled investments.
Governance - TPR is very concerned that expertise on small trustee boards is lacking. It has asked the question in its recent discussions on 21st Century Trustee: "What should be done with those schemes that are unwilling or unable to deliver good governance and member outcomes? …Should small schemes be encouraged or forced to exit the market or to consolidate into large scale provision?" It would seem this is an admittance of regulatory failure. TPR has the power to take over schemes, issue improvement notices and issue fines. It should be doing this more frequently.
The aggregator fund is a solution looking for a problem that I don’t think the Government believes exists.
Costs - For a long time, many small schemes have been underserviced and overcharged. However, the DB world is a shrinking and competitive market place. I would encourage every trustee board that thinks they are being overcharged to engage with its incumbent and/or review the market to see where savings could be made.
No-one wants a race to the bottom as certain skills do come at a premium, but greater efficiency and specialist providers that cater for smaller schemes can often provide an equivalent service, but much cheaper.
Investments - Other than cost, again I fail to see the argument here as all schemes can access pooled investments, and while some of the more esoteric solutions may still be out of reach, with time more pooled alternatives will become available.
So, is the aggregator model a goer? Yes, as the PPF (or a large private sector outsourcer) is already able to administer a large DB scheme if the rules can be written so that the administration is not complex but still maintains value for the member. However, this is probably the easy bit.
The concerns I have are around the cost of entry and eligibility. The cost to the employer must be less than buyout to make it affordable and should also be more costly than the ongoing valuation used under the scheme's technical provisions. We end up closer to self-sufficiency, but still how many employers can afford that? If schemes go in without sufficient assets and employer support, the aggregator becomes a risky place for members to be transferred.
Which schemes can go in to this new arrangement? Should this be the preserve for schemes with a failing employer that can't afford buy-out but is overfunded on the PPF basis? Is it the place for 'zombie' schemes so the PPF can control them? Is there scope to game this system and destroy the buyout market with employers targeting a new (smaller) funding measure with the aim of off-loading the scheme while solvent?
There will need to be significant political will for this to happen, but I am not convinced the Tories would want to create a pseudo-state run DB scheme. The PPF is there for when employers fail and people would have got nothing.
The basis of the DB system is that broadly an employer stands by its promise until it fails, it can secure the benefits elsewhere or a Regulated Apportionment Arrangement is agreed. To make a system whereby an employer can fund a lower rate before passing the risk on to someone else seems like a dangerous idea to me.
The aggregator fund is a solution looking for a problem that I don't think the Government believes exists. At a macro-level, is the DB universe such a drain on UK plc? It may yet happen, but I think the Regulator has a lot more work to do in proving that small schemes cannot be helped by a more engaged regulator.
David Brooks is technical director at Broadstone
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