Driving Value for Money in DC pensions
15th December, 2021
The Pensions Policy Institute (PPI) has published a report, sponsored by The Pensions Regulator (TPR), entitled ‘What can other countries teach the UK about measuring Value for Money in pension schemes?’.
The report reviews recent developments in Australia, Sweden, New Zealand, the Netherlands and the US in respect of Value for Money (VfM) and how any of these could assist a UK VfM framework. It highlights key elements of the infrastructure required to support VFM, including clear, measurable standards and benchmarks for performance, together with publicly available comparative data.
The latter suggests potential league tables, measured at the product and provider level. However, in this connection, a word of caution. League tables at the product and provider level can be counterproductive and certainly don’t include the very valuable input from the employer.
The PPI report found that a “necessary precondition to effecting positive change in which outcomes are expressed from members’ viewpoints as things that they value”. I have always maintained that you can only assess the value for members once you fully understand what it is that members value. Interesting then that the joint discussion paper by TPR and the Financial Conduct Authority (FCA): ‘Driving VfM in DC Pensions’ (for which the deadline for comments was 10 Dec 2021) does not ask about the importance of obtaining member views.
The PPI report also suggests it is important to set clear, measurable and comparative standards and benchmarks for performance in the key areas; e.g., investment, administration and engagement, to improve the tendering process in relation to VfM. While investment and administration sit firmly at the product and provider level, to achieve high employee engagement, first you need an engaged employer.
Key factors for VfM
According to PPI Head of Policy Research Daniela Silcock, “In relation to scheme behaviour, consistently positive, real investment returns generated the most significant Value for Money outcomes, though retirement income levels are most influenced ultimately by the level of contributions members and their employers make”. On this basis, the two most important VfM factors are a good Default Fund and higher contributions. Charges are not so significant and to achieve higher contributions a generous and engaged employer is needed.
Assuming that the policy intention of VfM is to create better member outcomes then there is a very large danger in not recognising the employer’s involvement, one that potentially could incorporate consumer detriment. See, for example, this recent industry poll – Pension education primarily employers’ duty, industry says (professionalpensions.com).
Including the employer impact on VfM will mean measuring the value at the employer level and not the product and provider level. This introduces an additional challenge but is extremely important in understanding the true VfM.
The product and provider will be responsible for investment returns, charges, annuity rates (nudge to use the open market option), reduction in scams, information and guidance (MoneyHelper) etc., all of which should focus on VfM.
However, there are two extremely important aspects in delivering better member outcomes and VfM for which the employer has a significant involvement – contributions and engagement. In fact, if we are not to solely rely on legislation mandating increased contributions, the employer has by far the biggest impact on increasing contributions.
Investment returns, charges, annuity rates, reduction in scams, improved engagement and member understanding are all important, but the PPI report suggests the single most important factor in increasing retirement incomes and, therefore, creating better member outcomes is higher contributions.
Salary sacrificed contributions are ‘employer only’ when paid into the pension. In such arrangements, the employee technically pays no pension contributions at all. The VfM, as measured on employee contribution only, is then the highest possible score as the employee hasn’t technically paid for any of it.
A VfM measurement based only on what the employee pays for, ignoring the employer positive impact, is fundamentally flawed, particularly for employers operating salary sacrifice. There is also the challenge of measuring the VfM of the same pension for those employees that choose not to pay via salary sacrifice compared to those that do. However, ignoring the salary sacrificed contributions would not be appropriate and would be detrimental to measuring the true VfM.
Further, where salary sacrifice applies, how the employer’s NI saving is used will have a large impact on the member outcomes. A caring employer will add all of the 13.8% employer’s NI saving to its employee’s pension contributions (increasing contributions being the greatest single aspect to create better member outcomes). However, if the employer receives no recognition in the VfM assessment, there is a reduced incentive to add the NI saving. In fact, there is an opportunity for the employer to make a profit to the detriment of the employee, by retaining all of the NI saving and not adding any of it to the employee’s pension.
Separately, many employers provide employer contribution levels above the AE minimum level. In doing so, the employer will want the workplace pension to be seen as an employee benefit and obtain a Return on Investment (RoI) for the higher contribution. The RoI is included in the employer’s assessment of being able to attract and retain quality staff etc., which adds value to the business.
With the importance of the VfM assessment, if this activity is not recognised, the employer’s positive impact on creating better member outcomes will be devalued.
The second main aspect of creating VfM and better member outcomes where the employer can a big positive impact, is member engagement.
The PPI report identified publicly available, consistent and robust comparative data as a “cornerstone” and “vital starting point” for authoritative VfM assessments and broader market context. However, the evidence suggested that this would require a “trusted regulatory framework to facilitate”. Importantly, in the UK, the public may not yet quite have the optimal level of trust in the financial services industry to allow league tables to have the desired outcome. However, it has also been acknowledged on many occasions that the one source of information employees do trust is their employer. The TPR/ FCA joint Call for Input in May 2021, ‘Pensions Consumer Journey’, noted that ‘Employees also look to their employers for guidance: more than half are interested in receiving support from their employers about financial issues.’
Engaging employees begins with having an engaged employer. However, if the value of the employer’s activity is not recognised, the incentive for the employer to invest the time and money is reduced, particularly if there is less incentive to try to obtain an RoI from higher contributions.
The employer can positively impact the member engagement in a number of different ways, all of which add value for the member, including:
- Allowing on site presentations
- Allowing staff to take time out to receive presentations, 1-2-1 meetings and view webinars
- Staff posters in the workplace
- Collating, issuing, assessing and responding to member surveys
- Establishing SMS messaging and emails to workplace mobiles and laptops
- Putting in place initiatives such as save more tomorrow.
Employers can also engage the services of a fully authorised financial services firms to assist employees.
Joint guidance from TPR and FCA, with further comment from the Pensions Ombudsman, suggests employers should undertake full due diligence before appointing a financial adviser or a panel of advisers to assist employees, and that the appointed adviser(s) should be monitored and reviewed.
This activity can greatly enhance VfM and improve member outcomes, although if it is not recognised, employers will be less inclined to invest the time, effort and money.
Not recognising the employer involvement, and the positive impact on member engagement the employer can have, reduces the incentive for the employer to spend time, effort and money in this area, which ultimately will reduce the VfM.