Draft Occupational and Personal Pension Schemes (Automatic Enrolment) Regulations 2010 and three related instruments, etc - Merits of Statutory Instruments Committee Contents


Supplementary information from the Department for Work and Pensions


Q1.  Paragraph 7.8 of the EM (second bullet) says that during the passage of the Bill Ministers announced that because of the potential size of the scheme it would not be subject to "traditional audit arrangements". Please specify what audit arrangements it will be subject to and how they differ from the norm.

A1.  The audit arrangements for occupational pension schemes which are in existing pensions legislation will apply to NEST. However, during the passage of the Pensions Act 2008, an amendment was tabled to provide that NEST should not be subject to the requirement to obtain an auditor's statement about employer contributions. This was because the size and scale of the scheme (there will be millions of members and hundreds of thousands of contributing employers) would make it impractical to audit employer contributions. This proposition was supported by the Institute of Chartered Accountants in England and Wales. Consequently, the Government gave an assurance that NEST would not have to comply with this requirement. This provision, therefore, exempts NEST from this requirement. However they will otherwise have to present audited accounts in the normal way.

NEST will have strong internal controls, including an internal audit function. The processes introduced to carry out checks on contributions will be overseen by this function and will be reviewed on a regular basis to confirm that they are effective. PADA is currently discussing with potential administration suppliers, the processes that can be put in place to check that the amounts of contributions received from employers are in line with the expected amounts required by an employer's Payments Schedule and regular payment patterns.

In addition, NEST will by way of online access to pension account information, provide a high level of transparency to members and employers in relation to the contributions it receives. Members will, therefore, be able to check contributions paid to their account on a regular basis. Members who identify shortfalls in the contributions paid to NEST on their behalf, will be able to contact their employer, NEST or the Pensions Regulator.

Funding of costs

Q2.  NEST regulation 27(i) says the Trustee must make deductions from member's pension accounts to contribute to general costs of set up and running. The Committee was concerned that the set up costs will be front loaded ie later joiners will get a better deal. They note that there are a number of provisions in reg 27(8) that aim at general equality but were not clear whether this aspect was covered.

A2.  During the passage of the Pensions Act 2008, the Government set out its intention that NEST should be self-financing over the long-term. This means that all of its set-up and operational costs will be met through the charges paid by its members. This is necessary to meet the Government's policy intention that the scheme is delivered at nil overall cost to taxpayers.

The provisions in article 27(8) are part of the scheme's public service obligation to serve all employees eligible to join it at the same level of charge, irrespective of certain characteristics of themselves and their employer e.g. size of firm or an employee's earnings. It does not, however, relate to the time period in which the member joins the scheme (ie all members in the scheme at any point in time will be charged on the same basis, but the level of charges can change over time).

The Government has made clear throughout the development of these reforms, including in its December 2006 White Paper, that because of the need for the scheme to meet its own set-up costs, it will need to levy a slightly higher level of charges in the short to medium term than over the longer-term. However, the scheme has been specifically designed to ensure that it will be sufficiently low cost that all cohorts of members, including those joining the scheme from its inception, will benefit from a substantial reduction in charges compared to what is currently available for those in the scheme's target group.

Q3.  The Committee also note that page 99 of the Impact Assessment at paragraph 6.6 (second indent) says costs for set up will need to be "subsidised" until sufficient membership charges build up - what is the likely scale and duration of this "subsidy"? Do you have a projection for when the scheme is expected to begin to be self-financing? That paragraph says that the source of this finance is still to be determined - can you please explain why this is not yet clear since it is possible the policy cannot be implemented if start up finance is not available.

A3.  During its early years, NEST will face a funding gap. Revenue from membership charges will not begin to flow into NEST until it launches in 2011 and will then take time to build up before it is sufficient to cover all of the scheme's costs. The scheme will need to obtain repayable finance to bridge this inevitable short-term funding gap.

The Department for Work and Pensions and the Personal Accounts Delivery Authority (PADA) are developing a funding strategy to find the best way to bridge this funding gap. This will meet the commitments the Government made to Parliament during the passage of the Pensions Act 2008 that it will need to be consistent with the aim of delivering low costs to members, enable the scheme to become self-financing in the long-run and that it will be affordable and be delivered at nil overall cost to taxpayers. It will also need to avoid providing the scheme with any unfair advantage relative to other pension providers and be compatible with European Competition law which is specifically designed to prevent this from happening.

We cannot at this stage provide the Committee with any further details of the scheme's cost and funding strategy. PADA are in the process of procuring the administration, fund management and other services that will underpin the scheme. Only once these procurements are complete will we have a full understanding of costs and be able to take final funding decisions. Furthermore, releasing our estimates of the scheme's cost at this stage could jeopardise PADA's commercial negotiations, limiting their ability to secure the best value for money for their members.

The Government is, however, confident that suitable arrangements can be put in place and has made clear its intention to put such information into the public domain once it is no longer commercially sensitive.

Security of the scheme

Q4.  Given that the scheme is based on investments is there the potential that the value of funds could go down as well as up? Is there the potential, however slight, that participants may eventually withdraw less than the value of their contributions?

A4.  The purpose of the Government's reform strategy is to enable individuals to make greater financial provision for their retirement. This includes making contributions to a defined contribution pension scheme which meets defined quality standards. A defined contribution pension scheme aims to earn a return on contributions by making appropriate investments. This inevitably involves making a judgement on the balance between the anticipated return from an investment and exposure to risk.

PADA is carrying out the initial work on the investment approach for NEST and will make recommendations to the NEST Corporation who will, as trustee of NEST, make all investment decisions. PADA has spent the last 18 months extensively consulting with the pensions and investment industry, unions, employer representatives, consumer groups and academics in order to develop recommendations for investment that best meet the needs of NEST's likely membership of low to moderate earners.

PADA's emerging thinking following consultation suggests that the investment approach many UK defined contribution schemes take where members are invested predominantly in the stock market may not be appropriate for the membership of the scheme, who are likely to have a low appetite for risk. PADA is likely to recommend to the NEST Corporation a strategy that invests members' contributions in a range of asset classes, such as Government bonds, stocks and shares, cash and alternatives. This approach would be designed to reduce volatility (sharp falls or sharp rises in the fund value) and the risk that some individuals would get less than their contributions.

In any defined contribution pension there are, however, no guarantees as to what an individual's final pension will be. A variety of factors can influence pension income, such as future annuity rates, inflation and interest rates as well as returns on any investment. No single strategy is risk free.


January 2010

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