The Pensions Regulator has published a new draft code of practice to replace 10 of the 15 current codes. The new code is expected to come into force this summer. Here, we take a look at what the new code means in practice for trustees, what is new and what trustees should be doing now to comply
What changes are covered in the new code?
- In March 2021, the Pensions Regulator (TPR) published a consultation on a new 'super' code of practice (the Code) which will replace 10 of its current codes. The Code will apply to occupational schemes (DB and DC), personal pension schemes and public sector schemes (although not all sections will apply to all schemes).
- The Code is a great leap forward for TPR. TPR has taken a fresh look at how it sets out its expectations and has addressed concerns about repetition in and conflict between the existing codes. The Code will also be web-based and easier to navigate.
- In many respects, the Code is a consolidation and clarification of existing material. However, in this article, we focus on three areas where the Code contains significant new material: effective systems of governance, own risk assessments and remuneration policies.
Key points for trustees
When is the new code coming into force?
TPR is in the process of considering the c.10,000 responses it received in its consultation on the Code. Consequently, TPR has said that it does not expect to lay the Code in Parliament before Spring 2022 and it is unlikely to become effective before Summer 2022.
51 Modules to replace 10 of the current codes
The Code will replace 10 of the 15 current codes of practice with 51 modules in 5 areas:
- The governing body.
- Funding and investment.
- Communications and disclosure.
- Reporting to TPR.
What is new?
Under section 249A of the Pensions Act 2004, trustees must establish and operate "an effective system of governance, including internal controls" (an ESOG). The Code sets out for the first time what TPR expects an ESOG to look like.
In addition, trustees of schemes with 100 or more members should also carry out and document an "own risk assessment" (ORA) of their ESOG. The ORA is an assessment of how well governance systems are working and the way potential risks are managed. TPR expects the ORA will be a substantial process and it must be completed within 12 months from the date the Code is published by TPR. We look at ESOGs and ORAs in more detail below.
You can also expect to hear a lot about "governing bodies". TPR has used the term "governing body" throughout the Code as a term to describe the governance structure of all schemes to which the Code applies.
The Code also contains new sections on cyber security, stewardship and climate change.
Not statements of law
As with the current codes of practice, the Code will not be a statement of law, but will set out expectations for conduct and practice. Therefore, while there will be no specific penalty for failing to follow the Code, TPR could rely on it in legal proceedings as evidence that a requirement has not been met or when considering whether to issue an improvement or compliance notice.
Background - Why replace the current codes of practice?
The catalyst for the Code was the introduction of the Occupational Pension Schemes (Governance) (Amendment) Regulations 2018. These regulations bring elements of the European Union's IORP II directive into UK law and require TPR to rewrite or amend its existing codes of practice.
Also, TPR has said that some of the existing codes of practice are out of date and there is duplication of content between codes and guidance. In addition, interaction between the 15 codes and related guidance is not always easy to navigate.
The Code breaks down themes from the existing codes to form shorter, topic-focused modules. Each module sets out TPR expectations in relation to a topic.
What is new?
Effective system of governance (ESOG)
Under section 249A of the Pensions Act 2004, with some limited exceptions, trustees of an occupational pension scheme must establish and operate "an effective system of governance including internal controls". The system of governance must be proportionate to the size, nature, scale and complexity of the scheme.
The Code provides detail on how trustees can meet this obligation. It states that the ESOG must:
- provide the governing body with oversight of the day-to-day operations of the scheme;
- include any delegated activities for which the governing body remains accountable; and
- provide the governing body with assurances that their scheme is operating correctly and in accordance with the law.
The Code states that a system of governance will include anything that is part of the operation of a pension scheme. An ESOG should include processes and procedures to ensure compliance with the following modules in the Code: management of activities, organisational structure, investment matters and communications and disclosure.
Generally, each element of an ESOG should be reviewed at least every three years although it is not necessary for all elements of an ESOG to be reviewed at the same time.
Own risk assessment
Governing bodies of schemes with 100 or more members must carry out and document an ORA of their ESOG within 12 months of the Code coming into force. The ORA is an assessment of how well governance systems are working and the way potential risks are managed, and builds on the risk assessments that most schemes already carry out on a regular basis. It must be in writing, signed by the chair of trustees and made available to scheme members.
Each subsequent ORA should be carried out and documented within 12 months of the last. It should also be reviewed whenever there is a material change in the risks facing the scheme or its governance processes.
The Code sets out in detail what the ORA should cover. In summary, it should cover:
- how the governing body has assessed the effectiveness of each of the policies and procedures covered by the ORA; and
- whether the governing body considers the operation of those policies and procedures to be effective and why.
The ORA should also consider the effectiveness of and risks arising from each of the following elements: the policies for the governing bodies, risk management policies, investment, scheme administration and payment of benefits.
Unsurprisingly, the ORA has received the greatest interest from the pensions industry. Concern was expressed in the consultation about the work it will involve, the timeframe, what the finished product will look like and the burden it will place on smaller schemes. TPR is considering this feedback and has said it will continue to work through the responses to identify possible changes or guidance requirements, particularly for smaller schemes.
TPR expects schemes with 100 members or more to have a remuneration policy in place, setting out the levels and means for remunerating those undertaking activities in relation to the scheme paid for by the governing body and/or sponsoring employer. The Code sets out TPR's expectations in this area (although it will be interesting to see what additional guidance is provided for trustees to assist with compliance, given the potential sensitivities around such a policy):
- The governing body should establish a remuneration policy and keep a written record of it.
- This policy should be proportionate to the size, scale, nature and complexity of scheme activities.
- The remuneration policy should apply to all persons or corporate bodies who effectively run the scheme, those who carry out key functions or whose activities materially impact the scheme's risk profile.
- The policy should include measures to mitigate potential conflicts of interest and focus on 'in-house' roles, such as trustees, trustee secretary, administrators and subcommittees.
- The policy should be reviewed at least every three years, but in most cases it will be appropriate to do so annually or immediately following any significant changes to the scheme's governance arrangements.
- The policy should include an explanation of the decision-making process for the levels of remuneration, and why these are considered to be appropriate.
- The governing body should consider any outsourced service provider. These include, but are not limited to, administration, actuarial, legal advisory, and investment services.
- The policy should be published on the scheme website or otherwise made available to scheme members.
What can you do now?
Although there may be changes in the final version of the Code, trustees should start to prepare now in the following ways:
- Factor the Code into your business plans and allocate appropriate resource. You will need to decide how to take this issue forwards. You could allocate responsibility to an existing governance committee or establish a new working group.
- Consider whether the sponsor has any resources for its own governance processes that the trustees could make use of to help ensure compliance. Start the dialogue now.
- Consider having a trustee training session on the Code so that trustees are aware of what will be expected of them. Many of our clients have already done this and have found it helpful. If you would like any further information, please do let us know.
- While it would be premature to start detailed work now, it would make sense to start reviewing existing policies and procedures to identify any gaps and/or policies that need updating. In our experience, most governing bodies will, as a minimum, need to put in place a remuneration policy as it is unlikely this is something they have written down before. We can provide you with a template for this and any other policies that you need.
- Are there any other areas that you think you will need to improve/document to ensure that you have an ESOG? Again, an initial gap analysis would be helpful here.
- Start thinking ahead to the ORA. This is an area which could require substantial work. You will have 12 months from when the Code is published (likely to be Summer 2022) to complete it. Build this into your business planning and start discussing it with your legal and other advisers.
We hope that you find this summary and analysis helpful. If you have any queries, please contact your usual contact at Gowling WLG or the authors, Joanne, Alison or Stephanie.