Pensions roundtable: How to offer a defined contribution pension

In the past, defined benefit (DB) plans operated on a trust basis - a proven format offered along with independent oversight supplied by a board of trustees assisted by professional advisers.

But the mass migration to defined contribution (DC) pensions has changed this and put more responsibility on the employer. This has thrown up a vacuum in many cases whereby neither employer nor employee take full responsibility for the performance of a plan.

DC schemes are often run on, a ‘contract’ basis, whereby an employer brings in an adviser and/or pension provider to offer staff an all-in-one arrangement, where the adviser and/or provider handles all investments, administration and member communications.

A responsible employer will want to ensure its DC provider is doing a good job, or it could find the greater cost certainty of DC is outweighed by the time and expense of sorting out problems in a faulty scheme.

For employers, an important starting point for assessing the performance of a pension provider is to use experts, both to choose a pension provider and to monitor how well a scheme is working. James Churcher, pensions manager at Telegraph Media Group, says: “Most employers, quite wisely, will use an employee benefits consultant who knows the market and can help them form a shortlist. Very few employers would know where to begin with this.”

Committed to pensions

Churcher says employers should seek providers which are really committed to pensions. The provider should also offer a wide range of investment funds, daily pricing, realistic charges, and a choice of passive and active funds.

“I am not saying every employee should be offered 700 funds, but I would be very reluctant to go to a provider that offered only their own funds, with no guest funds within the range,” he adds.

Administration is also a vital factor to think about. Churcher says employers should consider the types of quotation offered, fund switching facilities, how members’ queries are handled, what information members get on decumulation options as they near retirement, and the provider’s record for reliability, security and accuracy in handling member records.

Ricky D’Ash, remuneration specialist at Equity Insurance Group, says: “I have experience of dealing with a provider when the administration really was not that good. You end up spending time within the business that you should not be spending, trying to do someone else’s job.

“One of the best ways to ascertain if you have the right provider is to visit its main office, if possible, to get some quotes from actual clients, or speak to them, so you can see how the administration has been for their business.”

D’Ash says an employer should ensure any testimonials are from businesses comparable to their own, not much smaller or bigger.

Ask the right questions

Duncan Brown, director of reward services at the Institute of Employment Studies, says it has become easier to gather information on providers, but employers still need to ask the right questions. And Tina Odell, pensions manager at Sony, says a contracted-out DC scheme is not a buy-and-forget purchase. “It is going to require continued attention, and governance is the key to making sure it works effectively.”

As well as considering annuity purchase and other retirement options, employers should also remember their scheme will have deferred members who have moved on but have left their accrued benefits behind in the scheme.

“What is your responsibility to deferred employees?” says Odell. “How are you going to take care of them?”

D’Ash says administration charges for deferred members might rise. “Unless the fund has really good investment returns, the increased charges may eat away at what is in the member’s pot,” he warns.

Employers should also look at all the bells and whistles needed to provide the right administration services, both for the bulk of the workforce and for senior staff with more specialised needs. John Chilman, group pensions director at First Group, says these differentiating features could be a factor when selecting a provider, along with the more fundamental aspects of administration. “No one likes getting a call from a member saying something has gone wrong,” he observes.

Annual management charge

The annual management charge (AMC) is also likely to be a key consideration for employees. Questions around AMCs include whether they should be linked to the pension fund’s performance, and whether members will appreciate better performance for a slightly higher cost.

From an employer’s point of view, says Chilman, it is important that if members want to invest in, say, emerging markets or other more esoteric areas, rather than in a default fund, they realise there is an additional cost. In this way, value for money can be obtained for members, while those wanting extra options can choose to take them for a slightly increased cost.

A useful way for employers to benchmark the investment costs of a provider is to look at the costs for a plain vanilla index-tracking fund. Charges on this type of fund should be very competitive, so the costs quoted will indicate where a provider sits in the spectrum. Comparing fees with index-tracking funds in this way allows a like-for-like comparison to be made, says Churcher.

John Taylor, market director of corporate pensions at Scottish Widows, says employers should make sure their provider is fully committed to the pension market. “It is vital to know you can work with their people and that they are committed to their proposition and correcting any service issues. I would extend that to investment because the governance around investment choice is probably as important as investment performance.

“Very few fund managers can consistently outperform investment indices, so if a provider is monitoring that and is prepared to change them, then that is a comfort for employers and employees.”

Is provider up to scratch?

With the greater use of DC contracted-out pensions, employers need to ensure their provider is up to scratch. It is likely the employer will not be a pensions expert, so a benefits consultant can be vital in advising on what should be expected and on the latest market developments.

Administration is a key issue because members will complain if, say, annual benefit statements are wrong, and if this continues, it will reflect badly on the employer. Investmentis another factor, as is the provider’s history and resources. By taking the time to look at what is on offer and how their provider is doing, employers can help staff reap the rewards of a high-quality pension scheme.