UK: Number 10: Governance And Administration Of Trust-Based DC Schemes

Last Updated: 16 December 2013
Article by Anne-Marie Winton and Sharon Piert

Welcome to our tenth Nabarro Clarity Guide. The Pensions Regulator has laid its revised draft Code of Practice on the governance and administration of trust-based DC schemes (the "Code") before Parliament and it is due to come into force in November 2013: www.thepensionsregulator.gov.uk/doc-library/regulating-work-based-dc.aspx. The Code will also be accompanied by DC regulatory guidance and DC compliance and enforcement policy. The Code sets out the features the Regulator expects in a quality scheme and sets out five core areas of scheme governance. The Regulator suggests that trustees work through each section systematically and assess their scheme's compliance with the Code. This Clarity Guide summarises the key features of a quality scheme listed in the Code and refers to some of the practical tips for trustees included the Code.

WHO DOES THE CODE APPLY TO?

The Code applies to trustees of all DC trust-based schemes. It also applies to money purchase benefit sections (including AVCs) in DB schemes, the DC element of hybrid schemes and DC schemes with a DB underpin. The Code does not apply to DB schemes, DB benefits in hybrid schemes, work-based personal pensions, stakeholder schemes or other contract-based schemes.

Trustees should read the Code and the accompanying guidance and policy when it comes into force in November. Trustees should consider if their scheme complies with the Code and, if not, make appropriate changes. Compliance with the Code is not mandatory, but trustees should be able to explain how their approach to scheme governance complies with the Code and, if not, be able to justify any departure from the Code.

FEATURES OF A QUALITY SCHEME

1. Know your scheme

Understand your trustee duties and be fit and proper to carry them out: Trustees must have a working knowledge of their scheme documents and key member communications (i.e. trust deed and rules, statement of investment principles, payment schedule, member booklets and announcements). In particular, they should familiarise themselves with their key DC powers (i.e. the trustees' power to invest, amend, make decisions and wind up the scheme). Trustees should know what benefits their scheme offers and understand what constitutes a money purchase benefit - this is especially relevant when the revised definition of money purchase benefits is brought into force. (The revised definition is in the Pensions Act 2011. It has not been brought into force yet because of concerns about its wide ranging impact.) All trustees should have the breadth of knowledge to understand fully any advice they receive and understand how it impacts on their decisions. Newly appointed trustees have a period of 6 months within which they should be able to demonstrate that they have acquired the appropriate knowledge and skills. The Regulator expects a higher standard of care from professional trustees or those with special knowledge or expertise.

Ensure sufficient time and resources are identified and made available for maintaining the ongoing governance of the scheme: Sufficient time should be allowed at meetings to discuss DC issues (this is especially important in schemes with DB and DC benefit structures, where DC issues are often considered only briefly at the end of meetings). Key issues to cover at trustee meetings include investment (monitoring members' fund choices and the appropriateness of investment strategies, in particular the default strategy), costs and charges, administration, member communications, legal updates and trustee training. Trustees must keep written records of meetings.

Regularly review and update skills and knowledge: Trustees' knowledge and understanding should remain appropriate throughout the term of their appointment. Regular training should be undertaken and any gaps or weaknesses in knowledge should be noted and addressed. Trustees should keep a record of all training undertaken. The Regulator expects trustees to complete its trustee toolkit (www.trusteetoolkit.com), which has bespoke DC materials.

2. Risk management

A quality scheme will establish and maintain adequate internal controls: Trustees need to establish and operate a system of internal controls that identifies, evaluates and manages operational, financial, regulatory and compliance risks that are critical to the scheme and are likely to have a material impact on the scheme's ability to provide member benefits, if they are not managed effectively. A traffic light system (i.e. red, amber, green) could be effective, with steps taken to address those risks that could have the greatest impact on the scheme. Risk management is an ongoing process and trustees should review the scheme's internal controls regularly. 3. Investment

Setting investment objectives and default investment strategy: Trustees of non-insured schemes will need to identify, document and monitor the scheme's investment objectives, which are then set out in a statement of investment principles. Trustees should review the default investment strategy and the investment options offered to ensure that those options reflect the needs of the scheme's active and deferred members. Trustees should ensure that in addition to being informed of the costs and charges for each option, the investment objectives for each option are identified, documented and monitored regularly. Trustees must be familiar with and understand the scope of the investment power in the scheme, and document any delegation of this power.

Security and liquidity of scheme assets: In a quality scheme, trustees will predominantly invest in assets traded on regulated markets and should understand the levels of financial protection available to members (e.g. the Financial Services Compensation Scheme). If unregulated investment options are offered, trustees must be able to demonstrate the appropriateness of those options. Furthermore, the Regulator expects trustees to understand the characteristics of complex investment instruments and strategies and ensure that the levels and nature of financial protection or compensation available to members is clearly communicated. Investment is a complex area and trustees should take independent advice from appropriately qualified advisers.

Monitor and review the appropriateness of the investment strategy: Trustees should regularly review the performance and ongoing suitability of each investment option, including the default investment strategy. Trustees should consider the key events that will automatically trigger a review (e.g. a scheme merger or change of ownership/control of the investment managers). When undertaking the review, trustees should also consider innovations in DC investment products, changing membership profiles and current regulatory requirements.

4. Conflicts of interest

Trustees must ensure they can identify, monitor and manage conflicts of interest: Trustees should maintain a written conflicts policy, register of interests and also declare any actual or potential conflicts of interest at the time of their appointment and at trustee meetings. Administrators and advisers should be asked to declare any actual or potential conflicts at the time of appointment and on an ongoing basis. Any trustee who is also a director should have regard to their duties under the Companies Act 2006.

Appointing advisers and managing relations: Trustees should ensure that they have contracts in place for all advisers / service providers and that any notice periods and exit fees are reasonable. Prior to appointment, trustees should review the performance of all service providers and establish their qualifications and accreditations, consider whether they have experience of dealing with schemes of a similar size and type and review the level of their professional indemnity cover.

5. Administration

Scheme record keeping: In a quality scheme, trustees will ensure member data is complete and accurate and will help the employer gain an understanding of their responsibilities for providing accurate and timely information. Trustees should ensure that they meet the common data and conditional data targets set by the Regulator. Any data quality issues should be monitored and improved - the Regulator expects annual data reviews. Trustees should ensure that they liaise with employers and receive updated information from them when member data changes and cross check scheme data against employer data.

Maintaining contributions and processing core scheme financial transactions: A key aspect of a DC arrangement is the record of the member and employer contributions paid to the scheme and the members' investment choices. Trustees should ensure processes are put in place to track the receipt and investment of contributions to the scheme, and to check that these are made in accordance with the payment schedule. Trustees should also ensure they have a procedure for managing core scheme financial transactions. These include processing bulk transfers, member fund switches and redirections, receipt of contributions and the investment and disinvestment of scheme assets.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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