Ready for the reform rollercoaster

The group pensions market will be different in each of the coming years, which is why advisers that can operate in all markets will win out, says Pam Atherton

The workplace pension market will have different drivers for each of the next four years as the RDR and auto enrolment shape a new world.
Advisers that can adapt to this fast-changing world will be the ones left in robust shape when the dust settles.

That was the view of adviser and provider delegates at Workplace Pensions Embracing the New World, a round table event hosted by Corporate Adviser in partnership with HSBC Workplace Retirement Services in London in July.

As commission ends and employer duties roll out, it is clear that many intermediaries will have to adapt their business models to meet the changes affecting this market. And no one was underestimating the scale of the changes coming down the line.

“With not just the introduction of competition by government but also the introduction of auto-enrolment, it feels like we are in a situation that people will use in business schools more ’in 10 years’ time’ to demonstrate what to do and what not to do in a particular market,” said Paul Budgen, business development manager at HSBC Workplace Retirement Services.

But delegates had mixed views as to whether there would be a big increase in business in the run up to RDR.

“The problem with is that people don’t transfer their existing pots around and they have a shoe box of shame when they come to retire”

David Marlow, development manager at Creative Benefit Solutions, said many financial directors understand the choice of pricing that will be available either side of RDR implementation and argued that there will be a big spike in business in 2012. James Biggs, head of corporate pensions at Lorica agreed that employers wishing to avoid paying fees would set up schemes before 2013. Steve Herbert, head of benefits strategy at Jelf Employee Benefits on the other hand argued that the end of commission would not make much difference: “I know it should do, and we are selling against it. But although factoring works for everyone, employers don’t understand it and are not rushing to get that deal through. I think auto enrolment is a much bigger piece than the RDR will ever be.”

Nick Allen, senior consultant at Oval said employers welcomed the RDR and wanted to see the available options. But there was general consensus that 2012 would be the busiest year as companies sought help in implementing, or planning ahead, for auto enrolment, which starts on 1 October 2012 for the largest employers and will be phased in up to 2016 for the smallest employers. Nest is already being piloted by a few large schemes this year, while some employers are looking to introduce universal pensions gradually, phasing in the cost.

Alan Millward, head of client services at HSBC Workplace Retirement Services said: “We are seeing a lot of schemes where they are looking to phase it in on a 1 and 1 basis, where employers are looking to comply early.”

“The real challenge is how employers help their people in this world of more self reliance”

The scheme switch market was expected to drop by up to 75 per cent post RDR, but this fall off in business would be filled by advising employers without a qualifying scheme on their auto enrolment obligations and the availability of Nest, it ws argued.

Herbert believed some employers were reluctant to implement auto enrolment now because they wanted to defer the cost until the last moment and would have to be dragged ’kicking and screaming’ into compliance.

Post-RDR, commission and factoring will be replaced by a choice of charging models based on the shape and term of remuneration. These include a set fee per member, a percentage charge on members’ funds and a percentage charge on premiums over various periods.

Factoring, which allows costs to be spread over the term of a scheme and commissions, will be replaced by adviser charging, where the fee is agreed between the distributor and the consumer, and consultancy charging, where costs are agreed between the distributor and the employer, but come out of employer and employee contributions. With the flexibility afforded by RDR, the challenge for intermediaries is to decide just how to charge post 1 January 2013. The future of the market is made even more complex because while existing schemes profiles could change significantly where there is a large influx of new members due to auto enrolment, meaning intermediaries will have to re-visit these schemes to check that the charging structure is still appropriate, the extent of opt-outs is unclear.

Warren Page, director, client services at Origen described a scheme with about 20 senior manager members who enjoyed a high standard of communications, where a workforce of 1,500 would need to be automatically enrolled in future. Page said: “Are they going to expect the same high standard of communications for the 1,500 workers and what cost is that going to incur? If the provider is going to view that as a dilution of the scheme and suddenly changes the terms, who’s going to foot the bill? Is it just a question of a fee being written out by the employer?”

Jonathan Phillips, head of consultancy services at Bluefin said he thought providers had the right to change the shape of the commission in such situations and that charges could go up.

“Compulsion will be a matter of fact by 2020, assuming we’ve got 95 per cent take up”

Biggs feared the loss of commission/factoring would mean that the industry was moving toward the financial adviser fee model. “Which takes us back to where we were in the 1990s, which is initial charging again,” he said. “The problem with that is that people don’t transfer their existing pots around and they have a shoe box of shame when they come to retire. They will have all their pension papers from the previous 20 years because they paid an upfront cost and don’t want to crystallise it by moving it.”

Attendees therefore welcomed the portability of Nest. Phillips pointed out that consolidation of pension pots would become much easier and that intermediaries should encourage people to do so as most pots would be 100 per cent DC in future.

Ed Wilson, a partner at PWC thought intermediaries could play a crucial role in encouraging greater saving generally. He pointed to PWC research that showed that over 91 per cent of 2,500 respondents either had ’no idea’ of the value of their pension scheme or undervalued it by over 50 per cent. When asked how much they would get out of their scheme, respondents were out by a factor or 4 to 5. “The real challenge is the lack of adequacy of people’s savings at the moment and the degree of misunderstanding.”

Allen agreed the discussion should all be about ’workplace savings’ rather than pensions. Indebted graduates would be attracted to an employer who would pay off most of their student loan, rather than a pension scheme. The intermediary proposition needed to be ’cradle to grave’ help for the entire workforce.

The consensus was that the intermediary’s role would move towards providing value-add on investment selection, encouraging higher contributions and at-retirement advice.

Allen said: “I think our business model should focus on that piece and deliver the services that help people make the right decisions. Either the member will value it and pay for it, or the corporate will pay for it.”

Marlow said now was the time for employers who had failed to prepare for auto enrolment to date to start segmenting their employees according to how they wished to reward them with a pension benefit. He said that for transient workers with little loyalty to their employer, “any dustbin” [Nest] would do.

Wilson argued employers were looking to target their reward spend and that the issue was how to provide paternalism in the DC world, with education, communications and access to advisers. “The real challenge is how employers help their people in this world of more self reliance.”

There was a general consensus that having a pension should be made compulsory and that most people would be opted into Nest by attrition. “Compulsion will be a matter of fact by 2020, assuming we’ve got 95 per cent take up,” Herbert said.

Delegates expressed concern about the threat of providers going direct to employers, cutting intermediaries out of the loop altogether.

Nick McMenemy, director of corporate solutions at Towergate said that FSA and TPR governance guidelines stipulate there should be some independent advice as to how a GPP is run. “Employers going direct to GPP providers are probably not getting the right level of governance of the default fund, member communications and provider service,” he said.

Phillips thought that while some employers might plump for an off-the-peg provider solution, some would value having an intermediary “on their side of the table.”

McMenemy said that he was seeing insurance companies increasingly going directly to employers. Biggs said that for every letter of authority he received, providers had already gone direct to the client inviting them to deal directly.

Another threat could come from loss of commission post-RDR where intermediaries take on existing schemes that had been written on a commission basis. Biggs said he had not received a definitive answer as to whether a provider would continue paying commission after a change of agency post RDR. Philips and Herbert said it was ’inconceivable’ that a provider would not cut commission where they could, but this begged the question as to whether this would lead to a reduction in charges.

McMenemy said if a provider turned off his commission, he would market review the scheme and it would be ’highly unlikely’ that he would recommend another provider who did so.

Herbert said the challenge for intermediaries would be to help employers build pension scheme brand and make it something their employees wanted and aspired to. “We could be getting away from the world of the last 20 years of trying to add bells and whistles, reducing costs and tweaking this and that,” he said.

Clearly, the RDR and auto enrolment will bring significant changes to the way in which intermediaries work and the way in which clients pay for their services. The challenge for intermediaries is to build viable propositions which meet the needs of employers and employees alike. With commission banned, intermediaries will be offering employers a choice of fees or consultancy charging. But how costs are levied within this model remains to be seen.

Delegates at the Workplace Pensions Embracing the New World round table event held in London in July discussed the pros and cons of various charging structures based on a set of theoretical models put together by event partner HSBC Workplace Retirement Services.

The table shows the reduction in yield as a result of different consultancy charging structures on a typical scheme charging 0.3 per cent AMC over 25 years.

The figures assume an 8 per cent contribution on a salary of £30,000, or £2,400 a year. The first column on the left charging shows the manufacturing charge (ie with no charges other than the 0.3 per cent AMC).

What is immediately clear from the table is that over 25 years, there is only £238 difference between the highest and lowest fees. But the table does not reflect the reality of DC, where the average persistency of ordinary members is 5 to 7 years and is an example of how statistics and projections can paint a misleading picture.

The general consensus of attendees was that 5 per cent of premium for the first 25 years (£3,000) was totally unacceptable as it would be extremely difficult to justify this to members, especially where they had been auto enrolled.

Jonathan Phillips, head of consultancy services at Bluefin said: “The public perception would be that this is the industry profiteering. It’s also tricky for workers who are automatically enrolled into a company scheme to switching provider, if they feel they are not getting value for money.”
Most attendees also found the 25 per cent of premium for the first year, adding up to £600, unacceptable, unless it was taken from the employer’s contributions. Even then, such a hefty upfront charge would heavily penalise early leavers.

Phillips said it depended on the level of service provided. “I don’t have a problem with 10 to 25 per cent of first year’s premium if it’s all coming out of the employer’s contributions. If it’s a ’plug and play and walk away’ solution, then it might 5 per cent.”

But as a consumer, Phillips said he would prefer the 0.25 per cent pa fund-based charge, on the grounds that he would not notice it and that he was used to fund managers taking a similar charge to run his Isas.

Nick Allen, senior consultant at Oval, said this would be unfair to those with large funds, which cost no more to manage than smaller pots. Instead, he would prefer a one-off upfront fee of, say, £25 per head.

Ed Wilson, a partner at PWC questioned why anyone would object to a £500 fee per member as this gave the best outcome and was highly transparent. But Nick McMenemy, director of corporate solutions at Towergate said this would be unfair for lower paid workers.

Allen said the only way to make an upfront fee palatable would be to take it from the employer’s contribution, while Wilson suggested the upfront fee could based on a percentage of the member’s salary.

Warren Page, director, client services at Origen queried whether taking charges out of the employer’s contributions breached auto enrolment legislation but Steve Herbert, head of benefits strategy at Jelf thought this was allowed, provided the contribution was paid into the scheme before the deduction was made. The DWP has confirmed that it is acceptable for 100 per cent of first year’s contributions to go in consultancy charging and for the scheme to remain qualifying for auto enrolment purposes, although it has also reminded the market of its power written into the legislation to cap fees if necessary.

Page said he objected to upfront fees as this removed the incentive for advisers to continue looking after schemes. Phillips agreed that spreading charges over the lifetime of the plan was more equitable and that there was a case for raising charges at the ’more complicated’ decumulation stage.

Herbert lamented the fact that the flexibility afforded by the RDR meant that charges could be taken in many ways and that initial charges could remain high. He said that if the table was based on a member staying in the scheme for only 5 years, it would tell a very different story and highlight the detrimental effect of high upfront costs.

He recounted how earlier this year he had lost out a group scheme to an opportunistic competitor because the latter had used unrealistic projections to “hide a multitude of sins.” The employer was a retailer with a highly mobile workforce and had gone for an upfront consultancy charge of £250 per member, even though very few employees would ever stay 25 years.

Herbert said: “A lot of these people will be absolutely out of pocket and never see the money again. I never expected a competitor to disregard the needs of the employees like this. We do need the industry to show all the scenarios, including how it will affect early leavers, and not just the charge over 25 years.

“If we roll back the pensions sales map to the mid-1990s, this was how many of the outrageous charging structures were justified then.”

This begged the question as to whether there should be a cap on charges to prevent intermediaries being greedy. Allen feared unscrupulous intermediaries would go after the ’five man scheme’ and charge 100 per cent of first year’s premiums because the opportunity was there.

Phillips said it was not for providers to dictate on charging, but argued that the regulator should intervene where necessary. Paul Budgen, business development manager at HSBC said: “If you get rid of the indemnified factor in commission, then what you’re getting is service competition.” But he added, “There should be some boundaries as to what is good and fair.”

Budgen questioned whether the industry would have sufficient numbers of suitably qualified advisers to deal with the challenges of the coming years. McMenemy said his firm was “still making that journey,” and that the transition from being a generalist to a corporate intermediary was not straightforward.

“If you get rid of the indemnified factor in commission, then what you’re getting is service competition”

Allen said there were “clear markers in the sand and that those who don’t hit it would have to make their own decisions.”

Page thought there was a lack of clarity as to whether employee benefit consultants had to be independent or could be multi-tie. “There’s no badge placed on what you may, or may not need to be,” but that the regulator had indicated that as this was B2B, firms could tie to three or 10 providers if they wanted.”

Phillips said Mercer controlled a large chunk of companies at the high end through its implemented consultancy business model that put assets through their fund solutions. Other firms offering off-the-peg solutions included Standard Life, Zurich and Friends Provident but he was confident that not all employers would want this solution.

The poll also found 63 per cent of advisers present could envisage a consultancy charging model that replicated Nest as being successful and an identical proportion also expected to bill clients currently operating on a commission basis roughly the same amounts post RDR.

But they were unanimously against factoring and 88 per cent expected only a few employers to set up schemes pre-RDR in order to be able to take advantage of doing so on a commission basis.

Advisers see a positive future in the evolving group pensions market of the next few years, it is clear that no-one has all the answers. But businesses that are fleet of foot against a fast-changing landscape will be well-placed when the market finally settles down.