Brexit and COVID-19 have meant that 'business as usual' has been delayed in the world of pensions legislation, regulation and policy. As a result, 2021 looks set to be a very busy year, with projects held over from 2018, 2019 and 2020 being set to launch. In this roundup, we highlight the ten key developments that will impact on the pensions industry in 2021.
1. Getting to grips with the Pension Schemes Act 2021
In December 2019, the Pension Schemes Bill 2019 – 20 fell when Parliament was dissolved ahead of the general election. Its replacement, the Pension Schemes Bill 2019 – 21 (the Bill), was promptly introduced in the new Parliament the following month. The Bill has now completed all but one stage on its progress towards becoming an Act of Parliament. The government intended for the Bill to be passed at the end of 2020. This goal was missed, meaning the Bill is now likely to become law in the first quarter of 2021.
If this happens, the Bill will receive Royal Assent and become the Pension Schemes Act 2021. It promises to be a key legislative foundation underpinning many of the developments in pensions in 2021 and beyond. The Bill sets out:
- strengthened powers for The Pensions Regulator (TPR) (see Section 2 – A stronger regulator below);
- changes to the funding regime for defined benefit (DB) pension schemes (see Section 3 – A new funding regime for defined benefit pension schemes below);
- new requirements for climate responsible investing (see Section 5 – Interest in climate responsible investing heats up below); and
- the statutory framework that will underpin the development of:
- collective defined contribution (CDC) schemes (see Section 8 – Ensuring better outcomes for DC savers below); and
- pension dashboards (see Section 10 – Pension dashboards and the data revolution below).
In addition, the Bill will tighten the rules on DB pension transfers and put in place statutory amendments to enable the Pension Protection Fund (PPF) to take account of the ruling in Hughes and others v Board of the Pension Protection Fund [2020] EWHC 1598 (Admin).
2. A stronger Regulator
In April 2016, BHS went into administration. At the time, its DB pension schemes' funding deficit calculated on a buy-out basis (i.e. the sum needed to secure full liabilities with an insurance company) was estimated to be £571 million. In January 2018, Carillion entered compulsory liquidation. It had 13 DB schemes in the UK, with an estimated deficit on a PPF basis (i.e. the cost of securing payment of Pension Protection Fund levels of compensation with an insurance company) of £800 million to £900 million.
These corporate failures provided the impetus for legislative and regulatory changes, many of which are set out in the Bill. These include measures:
- strengthening the contribution notice regime;
- extending the notifiable events regime by creating a secondary notifiable events regime targeting certain employer-related notifiable events in relation to a DB scheme providing for new criminal sanctions, including three new offences:
- avoidance of an employer debt;
- conduct risking accrued scheme benefits; and
- failing to comply with a contribution notice;
- extending TPR's powers to impose fines (and increasing the maximum amount of fines for certain offences and breaches); and
- extending TPR's information-gathering powers.
Extending the notifiable events regime
The precise nature of these notifiable events will be prescribed in regulations, but government consultation documents indicate that they will initially focus on corporate transactions, including:
- the sale of controlling interest in a sponsoring employer;
- the sale of the business or assets of a sponsoring employer; and
- the granting of security in priority to the scheme on a debt to give it priority over debt to the scheme.
The first of the notifiable events set out above are already set out in regulations. The subsequent two will be introduced for the first time in forthcoming regulations. In addition to making a report to TPR, employers will need to:
- make a declaration of intent (referred to in legislation as an 'accompanying statement') to TPR; and
- copy the declaration of intent to the trustees.
The declaration of intent will require the employer to set out information on the notifiable event and to explain how any detriment to the pension scheme is to be mitigated.
All of this will continue TPR's development as a more visible and proactive regulator. With the prospect of economic difficulties lasting throughout the coming year, 2021 will be a test of its pledge to be 'clearer, quicker and tougher'.
3. A new funding regime for defined benefit pension schemes
The Bill provides the legislative foundation for a change to the statutory DB funding regime. This will be augmented by TPR's revised code of practice on DB funding. The Bill will require the trustees of DB schemes to:
- produce and maintain a funding and investment strategy. This is to be set out in a written statement signed by the trustee chair (referred to as a 'statement of strategy' in the Bill). The statement of strategy will also be required to cover items such as:
- whether, in the opinion of the trustees, the scheme's funding and investment strategy is being successfully implemented; and
- the main implementation risks faced by the scheme.
- appoint a chair (if they do not already have one); and
- consult the employer when preparing or revising their funding and investment strategy statement.
In addition, the Bill lays the groundwork for TPR to issue revised guidance on DB funding. This will focus on setting clearer funding standards, with key principles covering:
- scheme-specific funding and investment risks – trustees and employers will be expected to understand these risks and evidence how the risks have been assessed and managed;
- long-term objectives – mature schemes will be expected to have a low level of dependency on their sponsoring employer and have investments that provide a high resilience to risk;
- journey plans and technical provisions – trustees will be required to develop a journey plan that will help them to achieve their long-term objectives. The scheme's technical provisions should have a clear and explicit link to the long-term objectives;
- scheme investments – the scheme's actual investment strategy and asset allocation over time should be broadly aligned with the scheme's funding strategy. Trustees will be required to ensure their investment strategy has sufficient security, sufficient quality, and can satisfy liquidity requirements based on expected cash flows as well as a reasonable allowance for unexpected cash flows;
- reliance on the employer covenant – schemes with stronger employer covenants will be able take on more risk and assume higher returns. Trustees should, however, also assume a reducing level of reliance on the covenant over time;
- reliance on additional support - schemes will be able to account for additional support when carrying out their valuations provided that the additional support meets the standards set out in the code; and
- appropriate recovery plans – deficits should be recovered as soon as affordability allows while minimising any adverse impact on the sustainable growth of the employer.
At this stage, it is envisaged that a second consultation on the revised code will be issued in the first quarter of 2021 and the revised code will come into force at the end of 2021.
4. One Code to rule them all
TPR currently maintains 15 codes of practice, covering everything from reporting breaches of the law to the authorisation of master trusts. TPR's codes of practice aim to provide:
- practical guidance on how to comply with pensions legislation; and
- examples of the standard of conduct that is expected by TPR.
In July 2019, TPR announced that it was reviewing its codes of practice. As a result, the codes of practice will be:
- updated, to reflect the requirements set out in the Occupational Pension Schemes (Governance) (Amendment) Regulations 2018 (the Governance Regulations); and
- combined into a 'single, shorter code' (the Single Code).
TPR intends to make the Single Code "quicker to find, use and update, so that trustees and managers of all types of scheme can be more responsive to changes in regulation". As well as revising the DB funding code of practice (see Section 3 – A new funding regime for defined benefit pension schemes above), TPR will focus initially on updating the codes most affected by the Governance Regulations (i.e. code of practice 9 (on internal controls) and code of practice 13 (the defined contribution code)). Formal consultation is now expected early in 2021, with the aim of a completely updated Single Code going into force at the end of 2021 / beginning of 2022.
Trustees will need to stay on top of the developing Single Code. In particular, TPR's guidance and examples on effective systems of governance will build on the requirements set out in the Governance Regulations. Once again, governance will be top of the agenda for trustee boards in the coming year.
5. Interest in climate responsible investing heats up
2020 was the year that environmental, social and governance (ESG) issues rose to the top of many trustee agendas. 2021 will see this interest develop, with an increasing focus on climate responsible investing.
Over the past few years, the government has been extending the scope of the statutory requirements for Statements of Investment Principles which apply for trustees of occupational pension schemes. Many of these apply to schemes with more than 100 members but some, such as the requirement that annual report and accounts must also contain an 'implementation statement'; which is to be made publicly available, apply to all occupational pension schemes.
In terms of ESG investment issues, requirements to consider long-term sustainability of investments were followed by obligations to specify policies on financially material considerations (including ESG considerations). In addition, where ESG factors are considered in investment decisions, regulations already require trustees to document how they assess new or emerging risks. In 2021, these will be augmented by climate-specific reporting requirements.
The Bill gives the government the power to introduce secondary legislation requiring disclosures based on the Taskforce on Climate-related Disclosures (TCFD). The DWP has issued draft regulations for consultation. The proposed regulations cover:
- governance, strategy and risk management, along with metrics and targets, for the assessment and management of climate risks and opportunities (the Climate Governance Requirements); and
- publication of climate risk disclosures that are aligned with the TCFD recommendations (the TCFD Disclosure Requirements).
The Climate Governance Requirements will apply to the largest occupational pension schemes first:
- on and from 1 October 2021 for schemes with over £5 billion in assets; and
- on and from 1 October 2022 for schemes with over £1 billion in assets.
The TCFD Disclosure Requirements will also apply to the largest occupational pension schemes first, applying by the earliest of:
- within seven months of their first scheme year that ends after 1 October 2021 or by 31 December 2022 for schemes with over £5 billion in assets; and
- within seven months of their first scheme year that ends after 1 October 2022 or by 31 December 2023 for schemes with over £1 billion in assets.
Both the Climate Governance Requirements and the TCFD Disclosure Requirements will apply to all authorised master trusts and authorised CDC schemes in line with the dates set out above for schemes with over £5 billion in assets.
In addition to these reporting requirements, the Pensions Climate Risk Industry Group has issued non-statutory guidance for the trustees of occupational pension schemes on assessing, managing and reporting climate-related risks. This guidance is likely to go into force in the first quarter of 2021.
Finally, the FCA has announced that it intends to consult on implementing TCFD Disclosure Requirements for asset managers and contract-based schemes in the first half of 2021. The rules are expected to be finalised by the end of 2021 and go into force at the beginning of 2022.
You can find out more about ESG and the practical issues on implementation with our series of Insights and on-demand webinars:
6. The year of superfunds?
There have been developments that make it seem likely that 2021 will see superfunds make their mark. In October 2020, TPR published new guidance for trustees and employers considering a transaction with a superfund. This was preceded by comments made by the pensions minister that new primary legislation focusing on superfunds should be expected after the Bill has received Royal Assent.
As a result, 2021 will see a legislative and regulatory framework develop to govern the operation of superfunds, which will increase confidence on the part of trustees. The weakening of many sponsors' covenants will also make the superfund option look more attractive, relative to the status quo, for the trustees of their pension schemes. So, will 2021 be the year of the first successful superfund transaction?
Click here for our Insight 'DB superfunds: The Pensions Regulator publishes guidance for trustees and employers' and 'Will 2021 be the year of the consolidator?'.
7. Brexit becomes a reality
The UK withdrew from membership of the European Union (EU) at 11pm on 31 January 2020. Brexit was not, however, achieved in practice because of the transitional period under which the UK and EU's legal relationship was maintained as if the UK remained a member state of the EU. Brexit becomes a day to day reality for 2021 and beyond, when the transitional period came to an end at 11pm on 31 December 2020.
UK and EU negotiators agreed the EU-UK Trade and Cooperation Agreement, a free trade agreement that went into force following the end of the transitional period. It is, however, likely to take many more years before all of the issues are ironed out. In the meantime, trustees of DB and DC pension schemes had to get ready to deal with the consequences of the change in the UK's relationship with the EU without knowing exactly what that change will be.
Now that a cliff edge 'no deal' scenario has been averted, some of the key considerations for trustees include:
- assessing and monitoring whether the strength of the employer covenant (both in financial and legal terms) has been negatively impacted;
- considering any direct impacts of Brexit on the sponsoring employer (e.g. if they operate in sectors or markets that are particularly exposed to the adverse impact of Brexit or if the sponsoring employer is based in a member state of the EU);
- watching and taking advice on the scheme's investments and funding position;
- practical issues such as the payment of pensions to members who live in a member state of the EU (e.g. a number of UK-based banks have decided to close bank accounts which can impact on payments to members) and any flow of personal data to and from the EU.
The Pensions Regulator has encouraged trustees to read the Department for Work and Pensions' guidance on pensions and benefits for EEA (click here for the D.W.P.'s 'Benefits and pensions for UK nationals in the EEA or Switzerland (19 October 2020)') and Swiss citizens in the UK and UK nationals in the EEA or Switzerland (click here for the D.W.P.'s 'Benefits and pensions for EEA and Swiss citizens in the UK (29 January 2020)'). In addition, we have an Insight that goes into these issues in more depth 'Brexit and pensions – be ready to act'.
8. Ensuring better outcomes for DC savers
Ensuring better outcomes for people saving in DC schemes has been a theme of government action over the past decade. This has become even more important with:
- automatic enrolment resulting in millions of additional DC savers; and
- flexible access to pensions giving members more choice over what to do with their pension savings.
The latest policy push has come in the form of a consultation entitled 'Improving outcomes for members of defined contribution pension schemes' (the DC Consultation). Changes resulting from the DC Consultation are expected to come into force in 2021. The DC Consultation sets out:
- measures aimed at encouraging DC pension schemes to invest in a more diverse range of long-term assets (including so-called "illiquid" investments, such as venture capital and green infrastructure);
- changes to the way compliance with the default fund charge cap is measured to give trustees more flexibility around performance fees;
- proposals to require the consolidation of smaller DC pension schemes into larger ones; and
- a series of smaller changes to legislation and statutory guidance for DC schemes (e.g. the minimum expectations on both the production and publication of costs and charges information for the purposes of chair's statements, extending the existing costs disclosure requirements to those funds that are no longer available for members to choose and extending the requirement to produce a default Statement of Investment Principles (SIP) to 'with profits' schemes.
The amendments to bring in the changes set out above are scheduled to come into effect on 5 October 2021. For more information on this, click here for our Insight 'Improving member outcomes: what next for Defined Contribution pension schemes?'.
In addition, it is likely that next year will continue the trend of occupational DC schemes transferring to master trusts. This is another form of consolidation, with master trusts having a tighter regulatory framework and often having greater resources to focus on governance and improving member outcomes.
Will CDC lead to better outcomes for some DC savers?
Over the past ten years, pensions policy makers have grappled with how best to share risk between pension scheme members and the employers that contribute to them. In DB schemes, all of the risks associated with longevity, cost increases, investment performance and inflation are borne by sponsoring employers. In modern DC schemes, the individual takes on all of these risks.
Collective defined contribution (CDC) came to prominence as a way of resolving the pensions dispute between the Royal Mail and the Communication Workers Union. The features of a CDC scheme are set out in the Bill, something which has enjoyed cross-party support. A CDC scheme will provide a pension that is adjusted annually depending on:
- how much money is in the fund; and
- the projected cost of providing benefits under the scheme.
Importantly, the sponsoring employer will not be required to make additional financial contributions and, as members' entitlements are limited to the funds available in the CDC scheme, would not be liable for any deficits. While members still bear all the risks in a CDC scheme, those risks are shared across the membership. The promise of CDC (which has some support from modelling from the big actuarial consultancies) is that by sharing those risks, members would receive a substantially greater income in retirement than they would from a traditional DC scheme.
Does the Bill's introduction of CDC herald the dawn of a new form of pension savings? Or will it be an obscure vehicle used solely by Royal Mail? The government hopes that it will be the former, with provision built into the Bill giving the government the power to introduce secondary legislation that would permit multi-employer schemes and CDC-based master trusts. It looks likely that the Royal Mail's scheme will be watched by the pensions industry as a test of whether CDC schemes are viable in other settings.
9. Dealing with discrimination in public sector pension schemes
2021 looks set to be the year that the government finalises its plans to deal with discrimination in public sector pension schemes ready for implementation in 2022.
This issue arose out of the 2014/15 reforms to public sector pension schemes. Members who were within 10 years of retirement were given transitional protection against the introduction of the new benefit structure.
These transitional protections were the subject of legal challenges by some members of the judges' and firefighters' pension schemes (the 'McCloud' and 'Sergeant' cases respectively). In December 2018, the Court of Appeal ruled that the transitional protection arrangements unlawfully discriminated against the younger members of these schemes.
The government announced that it would remedy the discrimination arising from the transitional protections in respect of all public service pension schemes. In mid-July 2020, the government published three consultations covering:
- public service pension schemes in general (e.g. the Civil Service Pension Scheme, the NHS Pension Scheme and the Teachers' Pension Scheme etc.);
- the Local Government Pension Scheme (LGPS); and
- the Judicial Pension Scheme.
Public sector employers and certain private sector contractors providing outsourced services to the public sector will have to grapple with issues such as:
- understanding how the proposals will impact their pension arrangements;
- implementation costs, which are likely to result in higher employer contributions;
- communicating the changes to the membership and running member choice exercises; and
- dealing with an increase in member queries and complaints.
Private sector contractors may, where possible, look to exit the public sector schemes. This could trigger financial liabilities which will need careful management. Contractors who operate their own 'broadly comparable schemes' will also need to consider what steps they need to take to remove any discrimination issues which arise from having 'mirrored' the public sector schemes.
For more information on public sector pension reform, click here for our Insight 'What do the McCloud remedies consultations mean for public sector employers and contractors?'.
10. Pensions dashboards and the data revolution
Pensions dashboards are the public facing user interfaces that will enable individuals to:
- access all of their pensions information online, securely and in a single place;
- obtain clear, simple and up to date information about all of their pension savings; and
- find and reconnect lost pension pots.
The Bill sets out the primary legislative framework for pensions dashboards. The government hasn't, however, been waiting for the Bill to become an Act of Parliament to get started on delivering pensions dashboards. In 2020, the Pensions Dashboards Programme (part of the Money and Pensions Service) was made responsible for:
- the technical architecture; and
- standards and services based on the needs of users.
The Pensions Dashboards Programme is also responsible for delivering:
- the Pension Finder Service;
- the Identity Service (i.e. the service that will enable individuals to prove who they are in order to ensure that the right people have access to the right information); and
- governance registers.
The Money and Pensions Service will be responsible for building a pension dashboard based on the digital architecture set up by the Pensions Dashboards Programme. In 2021, the Pensions Dashboards Programme will:
Once this is done, the Pensions Dashboards Programme will be able to work with their commercial and industry partners to build, integrate and test the digital architecture.
Legal duties to participate in pensions dashboards will be staged, applying to the largest pension schemes first. It is currently envisaged that this will start in 2023, with a period of voluntary participation starting in 2022. Schemes should, however, start to think about the steps they can take now to ensure that their data is ready for pensions dashboards.
We have put together a three-part series on artificial intelligence, technology and pensions. Click here for our 'Artificial intelligence and pensions' series.