Work smarter or consolidate?

Topic:

Hot topic

Date published:

Monday, 13 November 2017

Author:

Kevin Clark

As a radical measure to relieve businesses of financial strain, the Dutch government is currently considering converting defined benefit (DB) pensions to a defined contribution (DC) basis without member consent. It also promised to contribute to the transition costs – largely as a compensation for the affected participants – which have been estimated at between €25bn and €100bn.

That makes the PLSA’s DB task force suggestion to consolidate smaller private sector DB schemes into a ‘Superfund’ as an alternative solution to de-risking seem really quite tame. Trouble is there are significant barriers to achieve any meaningful cost savings from consolidation in the UK - as many employers with multiple schemes have found when considering merging their schemes and finding the barriers just too great. A better solution could simply be working smarter.

Would consolidation really mean cost reduction?

The DB task force suggest that by merging together smaller schemes can benefit from economies of scale with one set of administrators and advisers and, by pooling assets, they can also benefit from lower charges and access to more sophisticated investment expertise. Public sector schemes that have common benefit structures have started to merge, but this has been time consuming and protracted and still in its infancy after many years of discussion in local governments.

With virtually every DB scheme having a different benefit structure there are significant barriers to achieving administrative economies of scale - in practice each section of a merged scheme will probably need to be treated as a separate scheme by the administrator anyway. Add to that the fact every scheme has a different funding level, membership age profile, employer covenant etc and one section will have very different needs to the next.

So, for any administration efficiencies to be achieved, a common benefit structure would need to be set with transition of members’ accrued benefits from the myriad of past benefit structures translated into one new structure on an equivalent basis. The DB task force recognise this requirement, but consider for a moment the difficulties employers, pension trustees and government are having with the change from RPI to CPI increases… now think how easy it will be to change more fundamental past service rights for members!

I won’t go into other issues like section 67 protection of accrued benefits or the need for employers to fully fund their past obligations (our own de-risking survey this year found 35% of employers are unwilling to finance de-risking and 24% are unable to do so, let alone achieve full funding).

Even if legislation were changed to make it easier to get common benefit structures for merging schemes, the significant costs of such a project would likely ‘spend’ several years’ costs savings for smaller schemes.

The asset pooling point is valid though isn’t it?

Well, yes and no! It is already very easy for smaller schemes to access a very wide range of funds with very competitive fund management charges.

The real issue is pension trustees need to get high quality investment advice so they are aware of the best options available. Some would argue this advice is too expensive for smaller schemes, but it need not be. We have helped many pension trustees access appropriate investment advice and implement cost effective investment strategies. Work smarter!

It is also perfectly possible for smaller schemes to access all the tools they need to govern their scheme well and in a cost efficient way. Get help so you understand how to best use the limited adviser budget you have available and what you can get for your money. Work smarter!

We have worked with trustees and employers of smaller pension schemes that have been reluctant to commission a piece of advice because they do not know the advisory market, the costs involved and the risks of not getting the advice. With our assistance and some focused education, these pension trustees have recognised the need for the advice and commissioned advice confidently, understanding the correct scope and full costs of the exercise and budgeting appropriately.

While we await the UK government’s White Paper (currently expected in February 2018), the passionate debate for and against consolidation will no doubt continue in earnest. I will continue to argue that working smarter is a more achievable and cost effective solution - including appointing a professional independent trustee, particularly where employer and/or member nominated trustee skills become scarce!

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