Law Commission seeks evidence on social investment by pension funds

Out-Law News | 09 Nov 2016 | 9:58 am | 2 min. read

Defined contribution (DC) pension funds and trustees have been asked for their views on potential legal and regulatory barriers to 'social' investment by pension funds, as part of a short call for evidence by the Law Commission.

The commission, which makes recommendations for reforming the laws of England and Wales, has been asked to look into social investment by pension funds by the UK's civil society minister, Rob Wilson. The topic builds on its 2014 report into investment intermediaries and their fiduciary duties, which concentrated on the duties of the trustees of defined benefit (DB) pension funds.

Social investment is defined as investment which combines financial and social objectives, and is something that the UK government is keen to encourage as a way of enabling charities, social enterprises and businesses with a social mission to access private finance. The Law Commission is keen to establish whether existing pension laws and regulation allow for social investment, particularly where investments are chosen by the individual saver.

The call for evidence closes on 15 December, and the Law Commission intends to publish a report by May 2017.

Pensions law expert Jae Fassam of Pinsent Masons, the law firm behind Out-Law.com, said that social investment was currently a hot topic in the pensions industry.

"Trustees and pension funds are coming under increasing pressure to think more widely about the range of issues that affect the long-term performance of the assets they invest, and to reflect on whether social investment is necessary to ensure the proper exercise of their fiduciary duties rather than just being an issue for the largest funds or a 'nice to have'," he said.

"What emerges from this call for evidence should be a good starting point towards enabling trustees to develop a broad based investment strategy for the longer term, and invites the possibility that small- and medium-sized funds will see these issues moving up their agenda," he said.

The Law Commission's paper sets out several perceived barriers to social investment, on which it is seeking further views. One of these is the fact that although members of DC schemes are generally able to choose how they would like their pension to be invested, most savers do not do so in practice and instead leave their assets in the scheme's default fund. Default funds are now subject to a 0.75% annual charge cap, which the Law Commission suggests has encouraged the adoption of low-cost 'passive' investment strategies and a narrow range of asset classes.

Although many employers give their employees the option to invest into an 'ethical' pension fund, these options tend to be limited with an emphasis on "screening out" "harmful" stocks, rather than making positive investment choices for social impact. Research has suggested that younger employees in particular are keen to invest in a pension with a social purpose even if the returns are lower, and the Law Commission is keen to establish whether this is indeed the case.

The Law Commission is also seeking views on whether the 'suitability test' that financial advisers are required to perform before recommending an investment to clients may be hindering investment for social purposes. In particular, it would like to hear examples of good practice which show how the issues identified by the Financial Conduct Authority (FCA) during its own social investment study last year can be overcome, according to the call for evidence.

In the document, the Law Commission references last year's report by the Social Market Foundation think tank, which recommended the creation of a 'social pension fund' based on France's Solidarity Investment Funds. These funds operate on a 'hybrid' basis, with up to 10% of assets invested in charitable causes and companies with a social mission and the remainder in traditional companies which are "screened for social responsibility", in order to minimise risk.