Is the VFM of a pension scheme best measured by contribution rates?

The PPI have been asked  “What can other countries teach the UK about measuring Value for Money in pension schemes?” and asked by the Pensions Regulator.

The answer is 55 pages long and involves a detailed analysis of the impact of workplace savings  in the USA, Sweden, the Netherlands, Australia and New Zealand. This analysis includes the impact each country’s VFM measures would reveal on UK member outcomes (defined as the size of the retirement pot at State Pension age).

There are obvious limitations on this kind of analysis, the most important of which is that this study is not measuring pension outcomes, but the money that might buy a pension. This is in line with the TPR/FCA discussion paper Driving Value for Money in Workplace Pensions,  I think the paper could have done with  pointing out this limitation.

In this blog, I will discuss the outcomes of the modelling done for three model members.

The paper provides us  with a table of  the outcomes of the modelling so we can draw relative conclusions

Is Value for Money measured by a scheme membership’s additional contributions?

The PPI’s conclusions from the modelling may suggest to some that what matters most is for a scheme to solicit higher contributions. All the biggest blue boxes result from people paying more into Kiwi Saver. The modelling finds

  • that measuring VFM as a measure of soliciting an additional 6% lifetime contribution  increase resulted in a pension pot 75% higher at SPa.

Here the argument is that the best measure of a  scheme’s value is its track record of  encouraging savers to save more. This argument was put to delegates of yesterday’s Professional Pensions DC conference by Adrian Boulding.

Adrian Boulding

I am far from convinced that the voluntary engagement of scheme members , evidenced by their choosing to pay higher contributions is a good measure of the scheme’s value for money.

You don’t have to encourage savers to save more, you just have to make it a condition of membership and payroll will do the rest. We know from opt out rates of AE schemes that require members to contribute more than the minimum (including net pay schemes with low earners) that it’s possible to increase member contributions without detriment to take up. But do increased contributions give the scheme a right to claim it offers value for money?

Australia has created better outcomes by compelling high contributions, are Australian supers providing better VFM as a result?

Is whether an increase in contribution created by compulsion, inertia or individual choice, any different? Mightn’t it be argued that schemes that use salary sacrifice/exchange to boost member contributions or mitigate employer costs,  demonstrating value for money by simply exploiting a tax-loophole?

And isn’t the main lever for increasing contributions, the employer’s efficiency in delivering its contribution?

Let’s say the typical cost of managing an own-trust DC scheme is £200 per member per year ( I have never seen a study on total on-costs but this amount would include excess governance , administration and communication relative to participating in a multi-employer scheme).

If , after moving to a multi-employer scheme, the bulk of this cost was used to boost member contributions, the value for money of a scheme would be significantly boosted. It is a significant weakness of the analysis of VFM both abroad and in the UK, that it does not take into account the scheme costs to employers, since these are paid in addition to employer’s contributions , and need to be measured for their value on member’s outcomes.

Put a better way, can a trustee of a single employer DC scheme justify the scheme’s existence when all or most of that £200 might be used to increase member contributions?

Scheme costs and charges are rarely considered in the VFM assessment, but if they were seen as coming out of member contributions (as they are in some master trusts ) , many single occupational pension schemes would struggle to demonstrate VFM.

The problems of measuring value for money in terms of contributions made on the member’s behalf is that they cross into areas which are better measured as “reward strategy” or “tax strategy” which are beyond the scope of the PPIs work, and I suspect beyond the scope of VFM assessments which must focus on what happens to contributions , not what the contributions are.

So one of the headlines of the PPI report

Increased contributions have the largest impact on Max’s pot, while a focus on investment returns and governance also significantly increase the pot size

is confusing two issues.

Member outcomes are the result of “money in” and the efficiency of the management of that money while in the scheme’s care. But the Value for Money assessment shouldn’t conflate the two. While discovering good performance, low charges and experiencing good service, may result in higher contributions, we should not put the level of “additional lifetime contributions” as our measure of VFM.

Are the UK measures of VFM backed up by overseas experience?

  •  Measures which focus on investment returns, such as in Australia and New Zealand, had a substantial  impact on a member’s  pot at SPa, increasing it by between 10% and 13%, compared to measures focusing on charges, such as the Netherlands and Sweden, which increased a member’s pot size by up to 9%

    I prefer to think of VFM using these measures as they measure the efficiency of the money spent on retirement, rather than the marketing spend of the scheme in increasing employee contributions or the impact of “excess costs” that an employer might incur promoting savings through running its own scheme and pension engagement program.

  • Good governance, as measured in the Australian example, also had a significant impact, increasing a pension pot by 10% at SPa.

It’s clear that there’s a lot that trustees of pension schemes can do to improve member outcomes and this is where TPR has traditionally focused its attention. The various characteristics of a good DV scheme, championed over the years ensure that members don’t lose out through poor administration, weak communications and slovenly service, The quality of the member’s experience of the scheme is ultimately the responsibility of the scheme’s management (the Executive) measured and controlled by trustees. Good governance is not one of the three measures agreed by tPR and FCA for VFM and I suspect that what Australia calls “good governance” is what we call ” a good member experience”.

So the international comparisons do suggest that pure VFM measurements are about quality of service, investment returns and the drag of costs and charges. Wider considerations of a scheme’s capacity to elicit higher contributions from members, the sponsor or from  tax arbitrage are outside of the scope of the paper as is the capacity of the scheme to help members convert pots into pensions.

In my next blog, I will look at what the PPI are saying we can do to improve member outcomes by learning from international experience and applying it to our own (here in the UK).





About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
This entry was posted in pensions and tagged , , , . Bookmark the permalink.

3 Responses to Is the VFM of a pension scheme best measured by contribution rates?

  1. con Keating says:

    It is a pity to see sufficiency and value for money confounded. Value for money is about the efficiency of the process of converting a contribution made into a pension income or, at a push and in a more limited sense, the value, meaning the amount, of a pot at retirement. The magnitude of the contribution is related principally to the sufficiency of the pension or pot at retirement. I would have expected the magnitude of contributions to have had a small effect on value for money, but it is one which appears to be absent from the chart shown. Given that there are many fixed costs associated with investment management and indeed some economies of scale, I would have expected the gains to increasing contributions to have been non-linear and increasing with the increase in contribution rate.

  2. Pingback: The PPI , governance and value for money | AgeWage: Making your money work as hard as you do

  3. henry tapper says:

    I too was surprised to see the findings on VFM for larger schemes (£500m+) levelling out. We have yet to see the impact of Nest and others re-allocating to private markets but the report suggests that there are positives from other countries in accessing these fresh (for DC pensions) sources of value

Leave a Reply