Value for members assessment and reporting net investment returns

The requirements for the new Value for Members assessment

For a while now the trustees of Defined Contribution (DC) occupational pension schemes have been testing their scheme to ensure it delivers value for members. Now we have new regulations issued by the Government in the form of the Occupational Pension Schemes (Administration, Investment, Charges and Governance) (Amendment) Regulations 2021 (SI 2021/1070). This will really stress test the current process by requiring a great deal more analysis and analytical rigour.

The new regulations will require around 1,800 smaller DC schemes to demonstrate value for their members that is comparable to larger schemes. The Minister for Pensions and Financial Inclusion, Guy Opperman (who has recently been reappointed to the role) has “no doubt trustees will either rise to this challenge or act decisively in their members’ best interests to wind up and move their members into a scheme that offers better value”.

As was proposed in the initial consultation, the new requirements apply to ‘specified schemes’ with less than £100m assets under management and that have been in operation for three years or more at the date the assessment comes into force. This will mean that trustees will need to undertake a more detailed value for members assessment of some elements compared against three ‘large’ schemes (i.e. with assets of £100 million or more). The application of the regulations to specified schemes is as follows:

• The assessment will now be required from the first scheme year starting after 31 December 2021 and at intervals of no more than one year thereafter.

• Total assets (DB & DC) will be counted for hybrid schemes when testing against the £100m threshold, however only the DC element will be in scope for the assessment.

• Schemes that have notified The Pensions Regulator (TPR) that they are in wind-up will be exempt from the new requirements.

Interestingly, originally there had been a requirement that there must be ‘reasonable grounds’ to believe that at least one of the larger comparator schemes would accept a transfer-in of the smaller scheme's members. This has been amended so that at least one of the larger schemes chosen must ‘have had discussions’ with the smaller scheme over a potential transfer. The Department for Work and Pensions (DWP) states that by only requiring discussions to have taken place there will always be an ability to compare against 3 comparators even if subsequently the terms of a transfer of members from that scheme cannot be agreed with the potential comparator scheme.

The new value for member assessment must assess the following factors:

• Costs and charges (including a comparison with the 3 large schemes)

• Net investment returns (including a comparison with the 3 large schemes)

• Assessment against 7 key metrics of how the trustees deliver value from their administration and governance of the scheme, noting that where certain aspects are delegated the trustees retain responsibility:

  • Promptness and accuracy of core financial transactions

  • Quality of record keeping

  • Appropriateness of the default investment strategy

  • Quality of investment governance

  • Level of trustee knowledge, understanding and skills to properly exercise their functions and operate the pension scheme effectively

  • Quality of communication with scheme members

  • Effectiveness of management of conflicts of interest

Importantly, all 7 key metrics should be met for the scheme to be deemed to deliver good value for members. If any are not met, trustees are asked to seriously consider the impact on the scheme.

If good value for money is not demonstrated by the 'VFM Assessment', the trustees of the specified scheme should consider winding up and transferring their members' rights to another scheme that does offer good value or set out the immediate actions they will take to make improvements.

If trustees choose to wind up the specified scheme and this is not completed within seven months of the year end, trustees are required to prepare a Chair's Statement before the seven-month period has elapsed.

In terms of regulatory disclosure, the following information must be provided to TPR in the Scheme Return:

• Whether the trustees consider the scheme to be good value;

• Whether the scheme was considered good value the previous year (once at least two detailed 'VFM Assessments' have been carried out);

• If the trustees have concluded that the scheme is not offering value, whether they propose to transfer members' DC benefits to an alternative scheme and whether they intend to wind up the current scheme;

• If the trustees do not propose to transfer members' benefits, the reason why not and the improvements they will make to ensure the scheme does offer value.

Reporting net investment performance

From 1 October 2021 trustees of all relevant pension schemes, regardless of asset size, are required to calculate and state the return on investments from their default and self-select funds, net of transaction costs and charges. This information must be recorded in the annual chair’s statement and published on a publicly accessible website.

Net return disclosure is intended to help members understand how their investments are performing. Disclosure is also necessary for trustees of specified schemes to enable them to carry out the new detailed value for members assessment as net returns for their schemes will need to be compared with the returns of three other schemes.

Statutory Guidance

The DWP has published statutory guidance: Completing the annual Value for Members assessment and Reporting of Net Investment Returns - GOV.UK (www.gov.uk). As well as the main requirements outlined above, some of the key relevant detail is as follows:

VfM

DWP explains that Costs and Charges and Net Investment Returns must be assessed relatively, based on comparison with other pension schemes, whilst Administration and Governance is assessed on an absolute basis within the pension scheme itself.

As noted above, the Costs and Charges and Net Investment Returns comparisons should be against three ‘comparison schemes’ namely:

• An occupational pension scheme which on the date on which the trustees obtained audited accounts for the scheme year that ended most recently held total assets equal to or greater than £100 million; or

• A personal pension scheme, which is not an investment-regulated pension scheme

DWP explicitly states it expects trustees to have a clear rationale for the schemes chosen as comparators, and that they should include a scheme that is a different structure from their scheme. For example, a bundled scheme should include a review against an unbundled scheme.

Conclusions from VfM assessment

DWP states that trustees should be able to explain how the scheme delivers on all three overall areas of this assessment:

• Costs and Charges

• Net Investment Returns

• Governance and Administration

Trustees should not give excessive weighting to costs and charges in their assessment. In fact, DWP expects trustees to give more weight to net investment returns, and to their ability to properly manage the scheme over the long term. This is evidenced by their scheme’s performance on governance and administration, rather than an over focus on costs and charges.

Reporting Net Returns

DWP explains in its guidance how to assess the net returns for different types of fund and expects trustees to report on their default arrangement(s) and for each fund in which scheme members are now able or have been able to select and in which scheme members are invested during the scheme year.

The analysis should be for at least the scheme year in question, but should go back at least 5 years where possible. If data is available for longer periods, then trustees should look at reporting that as a better reflection of performance over differing market conditions.

In terms of the calculations, the geometric average as opposed to the arithmetic average should be reported as follows:

Trustees can choose to go beyond this standard if they wish and use risk-rated returns or the individual Internal Rate of Return (IRR); but must always publish the above method to ensure consistency and the ability to compare.

If you’d like to talk to our expert team about our Value for Members assessment, please get in touch.