20 Sep Are we misselling DB schemes? – Anna Rogers published in Professional Pensions
Senior Partner Anna Rogers looks at whether members are being provided with the correct information on their defined benefit (DB) schemes in Professional Pensions.
This article has been published in Professional Pensions on 15th September 2016, and can be found here.
Protecting DB members from misselling is one of the most difficult balances in the pensions industry. DB schemes are exposed to “regret” risk. This has been a problem since the transfer changes in the 1980s. Pensions liberation and de-risking exercises have made it worse. The balance is tricky but it is familiar. In today’s climate though there might also be regret claims from members who have stayed put in DB. And we don’t take the same precautions with them.
Informed consent is the best defence against misselling claims. It’s hard for members to get sufficiently informed. So we try to protect members by requiring advice and guidance. Yet these protective measures may themselves tip the playing field back in the other direction because DB schemes and IFAs have one hand tied behind their backs. We focus on the undoubted risks of DC and ignore the risks for members deciding to keep their DB rights unchanged. Are we placing too much emphasis on the idea that “DB is best”?
Members may know that there is a PPF. In my experience most members are entirely unaware of the reductions that apply on entering the PPF. Schemes often do not explain that there would be losers (and probably no winners). I have tried to draft such a communication and it is challenging, quite apart from the fact that PPF compensation levels could be changed in future. So members may be blind to the risk they are taking by staying in their DB scheme. In effect, they are partially investing their savings in their employer covenant.
And there is a complete asymmetry of information on the employer covenant.
History shows that companies, like empires, come and go. Companies that were seen as part of the fabric of Britain, like Woolworths and now BHS, are not guaranteed to be enduring. We know this rationally but we still expect the world to continue as it is now. The more we have invested emotionally the more true this is. In pensions this shows in the trust that employees place in their employer – we don’t trust Governments, nor insurance companies, certainly not estate agents or lawyers, but we are inclined to trust the employer that pays our salary. This thinking has driven the success of auto-enrolment. The workplace is the best place for pension provision.
The downside of this trust is that pension scheme members and trustees may place too much value on the employer covenant. The Pensions Regulator knows this and has carried out a sustained campaign to make trustees explicitly recognise that value. Many trustees now have a regular flow of commercial information from the sponsor and external covenant advice. The information is subject to confidentiality requirements. Confidentiality is desirable if it means more transparent disclosure. But the knowledge is not shared with members.
I don’t mean to underestimate the difficulty of giving members any meaningful disclosure about the strength of their employer’s covenant. It must be possible to standardise and simplify it into a form that at least would mean something to IFAs. The Regulator already stratifies schemes by covenant strength. The PPF uses very broad brush measures. Employers may not like their score but they would be free to communicate with members about why they believe it understates their strength.
In a world where power to reduce unaffordable accrued pensions is being considered we need to do more to ensure that members are able to (whether or not they do) make a fully informed decision about the options that are open to them, balancing DB and DC risks.