We are putting a lot of trust in master trusts- should we?

Not all of us run a master trust, though you might think it was Britain’s boom industry from the amount of press “master trust proliferation” has got. This blog is here for those who do, and for those who advise on them and for those who are interested in the sustainability of master trusts.

I have been blogging about the dangers from unregulated master trusts for a number of years (see an early example here).

So I’m really pleased to see the DWP banging heads together before writing its forthcoming pension bill. I have been one of the people contributing to the consultations the DWP have been running and attest that this is open Government, the range and calibre of people in the room was heartening and the questions that have arisen following our discussions are pertinent.

For the help of those not in this particular loop, I’ve included the DWP’s note to participants (verbatim) and the questions that those at the meeting are being asked to respond to.

I will respond , in my capacity as Founder of the Pension PlayPen and I’ll include in my response any thoughts from the readers of this blog who want to send me their thoughts either publicly (through comments) or privately (at henry.tapper@pensionplaypen.com).

At the bottom of the blog is a picture of the Berskshire Farmer who featured on a recent BBC article on choosing workplace pensions for auto-enrolment. The Berkshire Farmer will be the Pension Plowman’s boss on this!

Does you master trust operation look like this?

1. Questions from the DWP to those running master trusts

Master Trust Assurance Framework (MAF)

• If your Master Trust has secured or is in the process of securing Master Trust assurance, were you already compliant with the requirements or did you need to carry out additional work to be compliant?  If the latter, what changes were necessary and how much did it cost?
• What do you see as the main benefits of being MAF accredited?  Can you monetise any of these benefits?
• If you haven’t sought Master Trust assurance, are there particular reasons?

The Founder

• What is the size of the founding company behind the Master Trust in terms of employees? Please select one of the following:

• Micro 1-4
• Small 5-49
• Medium 50-249
• Large 250+

Capital adequacy

• What capital security has been established by the founder of your Master Trust in preparation of a failure event? If capital is held, how much is held?
• What would the challenges be for your Master Trust if the amount of capital held had to be increased?

Winding up costs

• Does the founder of your Master Trust provide money to be held on behalf of the members to be used to cover the costs of wind up if necessary?  If so, how much?
• Would your Master Trust have appropriate coverage for compensation for members in the event something goes wrong?  If so, what form would this take?

Impact on Competition

• Do you think new businesses will be dissuaded from entering the market if there was greater regulation process?
• How would greater regulation affect competition in the Master Trust sector?

2. Master Trust Ministerial roundtables – summary note

This note sets out a high level summary of the discussions at all three Ministerial roundtables which took place on the 23^rd, 24^th, and 26^th May.

Wider comments on Master Trusts (MTs) 

• A number of attendees highlighted the benefits of MTs and why they are a good solution for automatic enrolment (AE) in particular – the trust based nature of MTs require trustees to act in the best interests of their members, economies of scale can result in value for money and there is good governance in trust based schemes
• It was noted that we must be careful of rhetoric used around MTs, there have been negative messages on MTs in the media which generalise and overplay risks vs. benefits and undermine confidence in the market
• The risk to reputation is particularly prominent in AE

Regulatory regime

• Many attendees noted that it is too easy to set up a MT and a barrier to entry may be required to ensure quality of schemes and protection of members
• A registration/licensing/authorisation system operated by the Pensions Regulator (TPR) was highlighted as a way to achieve this and a useful tool to signal well run MTs to employers
• In order to effectively regulate, many attendees recommended that TPR powers should be strengthened and there should be greater oversight and engagement with MTs
• Many noted that any regulatory regime must consider the variety of MT sizes and structures e.g. some industry wide schemes don’t have sponsors
• Additionally it was stressed that any regime should recognise the different risks in different structures, for example decumulation only MTs are more at risk to fraudulent behaviour than AE schemes in the accumulation phase
• There was discussion on who a regulatory regime should bite on whether that be all MTs, MTs used for AE or only new MTs – most felt that any regime should apply to all MTs across the board including any existing schemes
• Participants generally agreed that there is need for transitional plans to provide time for existing schemes to reach any new regulatory requirements and not inadvertently trigger widespread failure of MTs
• Some suggested that that we need to be careful to future proof any regulatory framework, creating principle based not prescriptive legislation in order to effectively deal with future unknowns – there should be emphasis on governance and making TPR bite
• It was also suggested a quick temporary fix may be to publish a DC code from TPR. Although this would not be legal, and would take some time to consult on, it would set out expectations

Competence and fit and proper persons

Discussions focused around the need for competent and fit and proper persons setting up and running a Master Trust

• Many attendees suggested the need for a fit and proper person (FaP) test on all key players in a MT, particularly on all trustees but also perhaps on the founder, the chief executive or chief investments officer 
• Some suggested that proxies could be used such as FCA or the TPR trustee register
• It was recommended that any FaP test should be set and administered by TPR and should test for honesty and ability, a good board has a good balance of skills therefore there should be competence across the board
• It was suggested that any TPR FaP test could look to the FCA rules as a model though others felt the FCA model was not sufficient and the TPR test must assess further skills
• It was also suggested that there be a requirement on MTs to appoint independent trustees rather than a corporate trustee to ensure personal liability
• It was noted that a TPR FaP test  may be a useful tool to stop scams

Winding up costs

Discussions centred on the position of members and the security of their assets if a Master Trust scheme winds up

• Discussions highlighted the various types of wind up costs that arise when a scheme winds up including transfer costs, the cost of missing contributions, lawyers fees, unpaid loans and administration costs
• In particular, a pressing issue voiced by many attendees centred on the difficulties with bulk transfers and gaining an actuarial certificate which increases the costs of winding up
• Attendees highlighted that the rules for DC schemes are not fit for purpose as they have been lifted from DB and there is variance in how actuaries consider the requirements
• Some suggested that specifically for MTs  it may be sufficient protection for members to go from an ‘authorised’ to an ‘authorised’ scheme though it was highlighted that there must be clear communications to members
• Participants recognised the risk to members of their pots being used up for  winding up depends on the potential criteria set such as capital adequacy and therefore of winding up occurring
• Some suggested removing the ability of trustees to take wind up costs from members’ pots by statutorily overwriting trust deed and rules, they would then be forced to find transitional arrangements though concerns were raised over how costs would be paid
• Some attendees felt that the use of members pots may be acceptable as a last resort but MTs would need to be up front to members about potential use of money
• The role of TPR in wind up was discussed and included suggestions of  a potential TPR power to transfer members out  before wind up or the ability of TPR to appoint trustees 
• It was raised that there may be the need for a MT of last resort for members of failed MTs, some attendees suggested that this could be NEST
• It was also noted that in the long term if any regulations required capital reserves to be held by the founder and/or other criteria to regulate/supervise sustainability of  MTs existing in the market, there should be less concern with MTs failing and the associated wind up costs

Capital adequacy

Discussions focused on the financial stability of Master Trust schemes and their founders to ensure the protection of members

• Most attendees were in favour of some form of capital adequacy in order to ensure financially secure MTs
• Solutions suggested included ring fenced capital, binding agreement from the founder/sponsor or some form of insurance solution
• It was also flagged that any requirement should be proportionate and that requiring something akin to Solvency Requirement II would be misguided and damaging to the MT industry
• It was highlighted that there needs to be clarity on what capital adequacy is covering in order to determine how much needs to be set aside
• It was generally felt that any capital adequacy requirement should apply to both existing schemes and any new entrants, however there must be some form of phasing in for existing schemes to allow appropriate time to meet the required level of capital adequacy
• Participants discussed the difficulty in establishing how much capital would be sufficient to financially secure a MT, suggestions varied including enough capital security to cover running costs for 6-12 months, winding up costs or an entry bar of  £0.5 million or what trustees thought appropriate
• Concerns were raised over creating a ‘one size fits all’ capital requirement and the need for flexibility to ensure a MT could meet criteria in a way that best suits their business.
• Generally it was felt that any requirement should be principle based not prescriptive 

Compensation for members

Discussions focused on compensation for members of Master Trusts if something should go wrong

• An insurance solution was proposed by some attendees whereby a levy would be applied to all MTs in order to build up reserves to be called upon in the event of a MT failure
• It was suggested that the Pensions Protection Fund (PPF) could act as a facilitator of this insurance as they already have the experience and mechanism in place
• Although there were concerns over whether good MTs should have to pay for failing MTs it was highlighted that the advantage of such a system would be to protect the MT reputation
• Several attendees had concerns with this solution. It was raised that establishing a PPF like mechanism creates a moral hazard risk, reducing incentives to guard against risk
• There were also concerns that any levy would ultimately be borne by the member through charges
• Some suggested that there would be challenges with structuring an effective levy and that a risk based levy would be preferable over a ‘one size fits all’ levy
• Additionally it was noted that insurance alone would not be sufficient and any solution should be part of a new system of governance
• Other suggestions included creating a Financial Assistance Scheme structure funded by government to pick up the risk of MTs failing, though it was highlighted that the industry should have an interest in protecting customers and couldn’t rely on the government providing financial support
• A proposal was also made that  members could self-insure against the risk through a PPF levy against every member pot
• A market based insurance solution to cover member loss in the event of a MT failing was also suggested

Exit strategies and safe failure

Discussions centred on what measures Master Trusts should have in place to cope with a departure from the market to ensure members are protected and not disadvantaged

• Many attendees supported the use of an exit strategy or a discontinuance plan (as required in the Master Trust Assurance Framework – MTAF)
• It was suggested that exit strategies could be approved by TPR and monitored by trustees
• Recommendations for the content of an exit strategy included how you would fund a wind up, what form capital adequacy would take and where members would be transferred to   
• It was proposed that TPR could publish a register of MTs who are willing to step forward in the event of a MT failure though it was noted that existing MTs would most likely only take on commercially viable pots which may not yet exist in young MTs
• Other suggestions included creating a legal duty on trustees to consider consolidation or having an arrangement that before a MT fails they have discussions with other MTs to ensure active contributions go across

Sustainability

Discussions focused on the need to have a viable plan to ensure a MT’s survival in the market and protection of their members

• It was generally acknowledged that not all  MTs have yet achieved scale and that the market cannot sustain the current number – some MTs will fail
• Many attendees were supportive of assessing sustainability through the business plan though it was noted that a business plan is ultimately only a prediction and therefore not sufficient protection on its own
• It was suggested that a business plan must be sensible, deliverable and detailed, outlining predicted self sufficiency and performance through the J curve and access to resources and capital adequacy
• Some attendees thought that TPR should have a duty to determine if a business plan is reasonable (parallel to covenant reviewer in DB sphere) though others thought that an external audit of the business plan to determine viability may be sufficient 

MTAF

• The idea of making the MTAF compulsory and adding capital adequacy requirements was posed – attendees agreed this may be a sensible starting point but it would have to be expanded as it is quite limited in its current form
• Some attendees highlighted that any compulsory MTAF should be run by TPR not ICAEW to ensure proper oversight
• Additionally, a concern was raised over the fact that the MTAF would only be assessing a MT every 15 months and this may not be sufficient engagement to allow effective oversight

The Berkshire farmer -he wants answers.