Publications

Bulletin 12 Summer 1996

Money Purchase Schemes

The 1995 NAPF Annual Survey showed a marked increase in the number of schemes offering money purchase benefits only. This was 7% up from 3% the year before and a corresponding decrease from 87% to 84% of schemes offering just final salary-based pensions.

Evidence of this shift to money purchase comes from Mercury Asset Management, the UK's largest fund management house. At the end of last year, they estimate that some 8% of UK pension fund assets were invested on behalf of money purchase schemes. By the turn of the century, they expect that to have grown to over 12%, perhaps another 5% from new schemes and up to a further 12% from the 'domino effect' within the industry. By 2005 Mercury believe that between 30% and 50% of pension fund assets could be managed for money purchase schemes. They have also recently announced a link with Equitable Life to provide an integrated administration service for money purchase schemes.

The US experience is interesting - when members have been given investment choice through their 401K plans they have generally exhibited 'reckless conservatism'. Only 28% of funds are invested in equities generally and a further 16% in own company stock (which is prohibited here). The largest single category of investment is in some form of guaranteed investment contract in which the downside risk is protected.

In addition to being too cautious, individuals, when left to their own devices, also tend to sell at the wrong time - after a market fall. The effect of just a few incidences of bad timing can have a dramatic impact on performance. The US market produced an annualised return of 17.6% throughout the 1980s. If an investor was out of the market for just the best 20 days (and the best days generally follow a fall), the return over the decade almost halves to 9.4%, a staggering difference.

Perhaps such schemes should carry a new warning - too many choices and too much freedom can seriously damage your wealth.

Money purchase schemes are a perfectly acceptable method of funding for retirement, provided that everyone understands what is involved and who is bearing the investment risks. The danger is that they can be used as an excuse for reducing the level of funding which together with the reckless conservatism referred to above could lead to a generation of very dissatisfied pensioners.

Member-Nominated Trustees

Within the next year all pension schemes, whether or not they already have member trustees, will need to review the composition of their trustee boards in order to satisfy the requirements of the Pensions Act.

There are three basic options:

The employer can decide to 'opt out' and put forward his own proposals, which may be new arrangements or may be the continuation of existing arrangements.
In the absence of an employer opt-out, all trustees (with a few exceptions to cater for industry-wide schemes, SSASs etc) must introduce member-nominated trustees (MNTs) equal to a third of the trustee board with a minimum of two. With the employer's consent, the proportion of MNTs can exceed a third.
The trustees can appoint MNTs in one of two ways:
- - A procedure that is appropriate to their particular scheme could be introduced, eg with separate constituencies for different sites or divisions, failing which
- a set of 'prescribed rules', as set out in the Regulations, must be adopted.

In all but the final option, scheme members must be given the opportunity to consider and object to the proposals which, once approved, will remain in place for between three and six years. For this purpose 'member' means all active and pensioner members but excludes deferred members unless the trustees determine that they should be consulted.

The Regulations are very detailed and prescriptive. Trustees and employers should take professional advice to ensure that they are being fully complied with.

The composition of the trustee board is an important issue for both company and trustees. A hastily made or ill-considered decision could take up to six years to amend.

Over the next few months the opportunity should be taken to review the alternatives and to ensure that all options are properly considered. One option that should definitely be included as part of that review process is the introduction of a professional independent trustee to sit alongside the employer and member trustees. This is increasingly seen as good practice and as an appropriate way of satisfying members that their interests are being properly safeguarded.

Internal Dispute Resolution

Another area of trustee responsibility introduced in the Pensions Act where independent trustees can be of assistance is the investigation and resolution of disputes with scheme members.

The Act requires that a two stage procedure be introduced for handling complaints and this must be communicated to members (more new booklets!). Once again, the Regulations are detailed and prescriptive.

Once a complaint has been identified as such rather than as a simple query, the member must be given the name of an individual who will attempt to resolve the dispute - the pensions manager or an independent trustee are the obvious candidates.

If the complaint remains unresolved, then the member can appeal to the trustee board which must also attempt to resolve the dispute. If that fails, the complainant can go on to OPAS and, if not resolved with them, the Ombudsman.

The Regulations introduced under the Act specify timescales for the resolution of disputes which might prove to be tight in circumstances of complicated disputes. Time will be saved and goodwill with the membership enhanced if disputes, when they do arise, are dealt with swiftly and efficiently. The introduction of the independent trustee to oversee the procedure at the first stage could prevent disputes from moving up the chain, to the benefit of all concerned.

Unmarried Partners

In a recent decision, the High Court upheld a ruling by the Pensions Ombudsman that the fact that a pension scheme member paid for the joint expenses of his unmarried partner was not sufficient to establish dependency.

The judge ruled that there was no evidence that the lady was 'financially dependent' on the scheme member since 'she gave up her financial independence in response to his wishes, but that was a matter of choice not necessity'.

The trustees of the scheme were ordered to recover payments made to the lady to which the member's children were entitled. They were also ordered to make compensation payments to the children.

Trustees must in future be extremely careful before agreeing to pay benefits to someone who is not obviously a legal spouse or dependant, particularly where (as in this case) the result is to divert benefits away from some other person (eg the member's children).

Many will see this as a step in the wrong direction since many boards of trustees are only just starting to use their discretion sympathetically towards long-standing but unmarried partners of members. But difficulties abound: defining a partner is not always simple. Should there be a test of time (and if so how long)? Should there be a strict test of financial dependency (sex discrimination against male partners)? ..not to mention partners of the same sex.

From all of this, the public sector stands aloof. Whereas, according to the NAPF survey, 85% of private sector scheme members are in schemes that can and do pay benefits to dependants other than spouses or children and in 68% of cases do so occasionally or often, 85% of public sector schemes never pay in such circumstances.

Surplus AVCs

We have been waiting for some considerable time for Inland Revenue Regulations regarding the treatment of the proceeds of additional voluntary contributions when benefits become payable and where, in particular, Revenue limits have been exceeded and a refund of surplus AVCs is necessary.

Pending the issue of Revenue Regulations, which we understand have now been given a high priority and are expected to be produced in the next few months, the Revenue has accepted that, subject to the use of an agreed formula, any surplus arising could be repaid but only after deduction of tax, currently (as from 6 April 1996) at the rate of 34%. Alternatively, the member could elect that the surplus be used to provide a spouse's death-in-retirement pension, or cost of living increases up to movements in the Retail Prices Index.

The procedural aspects for determining what AVC benefits should be paid and by which scheme were left to voluntary agreement and these have now been agreed by the Occupational Pension Schemes Joint Working Group and the Inland Revenue.

These procedural aspects are encompassed in a new document entitled 'Surplus AVCs Code of Practice and Model Forms'. Both the NAPF and the ABI are encouraging their members to use the model forms and leaflet for members where an excess over Revenue limits has been identified and needs to be dealt with.