How transparent are benefits charging structures?

Charging structures for some benefits have made it hard for employers to always know what they are paying for, but a move towards fees, particularly in pensions, will add transparency.

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  • Historically, commission-based and consultancy charges in the pensions market led to a lack of transparency in what employers were paying for.
  • Now that both have been banned, with the exception of legacy commission schemes, the pensions market has moved towards a more transparent fees-based model.
  • Adviser commission is still payable on some other benefits, for example group risk.
  • Employers should question what services they receive from an adviser across all types of benefit.

Last month’s ban on consultancy charging for auto-enrolment pension schemes marked a sea change for the pensions industry.

After years of not always knowing what services they were paying for through their agreed pensions charging structure, the move towards a more transparent fee-based system means employers should have a clearer idea of what services they receive from their adviser and how much these cost. But could this also mean that employers end up paying more for the services they require or even move away from some services when required to pay directly for something they previously thought they received for ‘free’?

Although commission on pensions and investments was banned from 31 December 2012 under the retail distribution review (RDR), legacy commission arrangements for pre-RDR schemes can continue. The introduction of consultancy charging as an alternative form of remuneration for advisers proved controversial. Under this practice, the employer agreed the level of charges payable with its adviser, and the charges were then taken directly from an employee’s pension pot.

Historically, advisers often used the remuneration generated from commission and consultancy charges to fund financial advice, education and communication programmes for employees. However, it may not always have been obvious to employers that this was how such services were funded.

Sean McSweeney, corporate consultant at Chase de Vere, says: “Where commission has been involved, it is difficult for an employer to marry up the service it is receiving and the remuneration the adviser is getting. Whereas if it has an invoice for specific services, that is much more straightforward. As an industry, I think we are guilty of not being very clear and explicit sometimes in the past.”

Greater clarity

The pensions industry has been working for some time to ensure greater clarity around charges for both employers and employees. Last November, a joint industry code of conduct on defined contribution (DC) pension charges was published by the National Association of Pension Funds (NAPF) and the Association of British Insurers (ABI) in association with the Investment Management Association and the Society of Pension Consultants.

The code, developed by a working group comprising trade, consumer and industry organisations alongside pension providers, specified that all charges should be clearly and accurately set out in writing, and all employers should receive a standard template summarising the charges levied and the services supplied.

The government’s ban on consultancy charges for auto-enrolment pension schemes follows a six-month review of the practice which concluded that existing measures to prevent advisers deducting high charges from members’ pension pots were inadequate.

A further consultation, due later this year, will set out proposals for a cap on default fund charges in DC schemes, in light of a forthcoming report on the workplace pensions market by the Office of Fair Trading.

Charles Gillespie, head of corporate advice at Close Brothers Asset Management, says: “In a lot of cases, where you have a pre-RDR commission scheme, most employers are sitting with that as a retained option. When we get round to setting caps on what is an acceptable charge for auto-enrolment, I think there will be a knock-on effect for existing pre-RDR commission-based schemes where providers will have to adjust the fee and that will lead on to an adjustment in commissions.”

Move towards fees

Legacy commission schemes aside, the moves towards fee-based remuneration mean employers may find they have not paid for some services they thought they had. “We have [employers] we’re doing auto-enrolment work for, where we’ve traditionally been remunerated by commission,” says McSweeney. “A lot just assume that we do their pensions work for them and we’re paid from somewhere else. It’s now when a big issue like auto-enrolment comes along that we’re having to have discussions to say ‘that’s not part of the service we’re paid for by commission’.”

For some employers, this may be the first time they have had to consider how they pay for services around benefits such as pensions. Gillespie says: “Consultancy charging was, in some ways, a game changer, and now it has gone, we’re looking at something most employers really have to get to grips with: what services do they really get from their adviser and how do they pay for them?”

Even where legacy commission schemes are still in place, post-RDR requirements mean advisers must be more transparent in the services provided and how these are paid for.

The same is true of bundled services. Gillespie explains: “There can be economies if [employers] are receiving more than one service from a supplier. Make sure you unbundle the services and understand how the charges apply to those services.”

Employers may need to streamline what they require from their adviser, either because they did not realise they received some services, or because they do not have budgets to pay for these outright.

Falll in commission

Richard Roper, managing director of JLT Employee Benefits, says: “As levels of commission have come down, advisers have had to be a lot more transparent in what they are offering for their remuneration. Fee payers monitor their spend more tightly. I think there will be a rise in focus from employers on things such as governance, communications and broking for benefits.”

There are also concerns that paying a fee for services could result in fewer employers funding financial education and advice for staff.

The demise of commission could also affect employers’ provision of other benefits. For example, some flexible benefits plans have been funded using commission generated from the employer’s pension arrangement. If they do not continue with legacy commission arrangements, these employers will have to find other ways of funding flex.

Employers should also ensure they have a robust agreement around expected levels of service. Roper says: “Service levels have gone down as commission levels have gone down. That is a natural consequence of advisers being paid less. If you spoke to an average employee in an average UK organisation, they would have seen less of their financial advisers or benefits consultants in the last five years as commission levels have dropped, because advisory firms can’t afford to give that advice any more.

“That has been passed on to insurance companies, but they too are now decreasing their worksite marketing teams, so staff will be lucky to see anybody in the next few years unless the employer is paying for it.”

The ban on commission for new schemes could influence employers’ willingness to move between pension providers if they have a legacy arrangement. Roper says: “Schemes will be a lot stickier because if the scheme moves, trail commission will be turned off. “

Transparent charging

But while the pensions industry is moving towards more transparent charging, commission still exists in other benefits markets. Group risk benefits, for example, can be procured on a fees or commission basis. For group risk policies, commission is set at a standard rate of 4% for group life cover and 12% for group income protection and group critical illness insurance. These figures reflect the level of work involved in the claim process.

Although intermediaries are not required by law to disclose commission levels to employers, they must issue a terms-of-business letter setting out, among other things, the scope of services to be provided and how the adviser will be remunerated for these.

Katharine Moxham, spokesperson for industry body Group Risk Development (Grid), says there has been a move away from commission in this market. However, remuneration arrangements should be kept under review to ensure they remain appropriate for both parties, she says.

“Best practice is to divulge [commission rates] and to have that conversation, which isn’t always easy, with [an employer] at the outset of a relationship,” says Moxham.
One advantage of commission over fees in this market is that it does not attract VAT.

Stuart Grey, managing director of Portus Consulting, says: “With commission, you can look at overall work across the various benefits lines and the strategic advice required, and commission can give [employers] the potential to fund that work overall, which can be more beneficial than working on a fees basis.

“A lot of historic flexibility has disappeared because every pound of commission on a risk or healthcare product is built into the price.”

So, whatever benefits they offer, employers are advised to ensure they know what services are included in the charges they pay and exactly what these cost them. Keeping a close handle on this will be crucial as industries such as pensions move towards a new charging environment that should bring greater transparency.

Gary Moore - National Association of Pension Funds

Viewpoint: Gary Moore, policy adviser, National Association of Pension Funds

There has been a steady flow of stories about excessive consultancy charges, but the government should think twice about a total ban.

When the Financial Services Authority (FSA) launched its retail distribution review in 2006, it promised to make sure charges for advice were transparent and fair. As a result, the FSA banned charging by commission but allowed pension plans to take consultancy charges from individuals’ pension pots as long as they did not reduce their pension contributions below the auto-enrolment minimum.

In the meantime, a series of stories about extortionate consultancy charges appeared in the press. Under political pressure to get tough on pension charges, the pensions minister said recently that consultancy charges would be banned.

The minister is right to be concerned about excessive charges. He should also be concerned about consultancy charging that has no benefit for savers. There is a problem if members pay, through a consultancy charge or some other charge, for advice to employers on complying with their auto-enrolment duties.

But as lots of smaller employers start to auto-enrol their workforce, there will be a squeeze on the advice market. This uncertainty around how to fund advice is unhelpful, and a ban could make it harder for employers to set up good auto-enrolment schemes.

Sometimes savers can benefit from the advice that comes with these charges. Their pension plans might be governed better or have stronger communications as a result. Again, a total ban could make it harder to set up a good pension.

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The government needs to find a way of keeping the benefits that can come with consultancy charging, while getting rid of the practices that have brought it into disrepute. Greater transparency would be a good start.

The FCA’s new charging model for platforms

  • In April, the Financial Conduct Authority (FCA) published rules to ensure the way platforms are paid for is more transparent.
  • From 6 April 2014, platforms will no longer be permitted to be funded by payments from product providers in both the advised and non-advised markets.
  • From this date, a platform service must be paid for by a platform charge, which is disclosed to, and agreed by, an investor.
  • The rules also ban cash rebates for non-advised platforms to prevent such payments being used to disguise the cost of the platform charges.
  • These changes are intended to ensure investors understand what they are paying for and help them make fully informed decisions if they want to use a platform.
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Source: Pension landscape and charging, Department for Work and Pensions, 2012