Pensions Regulator indicates support for code of practice on incentives exercises

The Government-backed Code of Good Practice on Incentive Exercises, published last month, prevents employers from offering cash incentives to encourage employees to give up their existing pensions rights.

By abbreviating its guidance, the regulator said, it would “avoid any confusion” arising from the existence of two sets of standards. It added that the practical guidance as to how employers should properly conduct incentive exercises contained in the industry code was “well aligned” with its own principles.

“The regulator welcomes the industry’s bid to drive up standards,” its chief executive, Bill Galvin, said. “This is important because any transfer out of a defined benefit scheme poses a significant risk to members who may not be equipped to make an informed decision, and such offers won’t be in most members’ best interests. If conflicts are appropriately managed, trustees are engaged throughout the exercises and the principles in the industry code are followed, then exercises should fulfil and be consistent with our principles.”

The statement also covers the role of trustees, something which is not dealt with in detail by the code. Although the statement confirms that trustees should start from the presumption that incentive exercises are not in most members’ interests, it sets out what trustees should do to comply with the regulator’s general principles. In particular, trustees should engage with an employer who is proposing an incentive exercise, manage conflicts and consider the impact the proposal could have on the employer’s ability to fund the scheme, it said.

Employers can offer a transfer incentive to members to move out of a workplace defined benefit pension scheme to a scheme where the employer bears little or none of the risk that the investment loses value. This incentive could be a cash payment or an increase in the transfer value of the member’s benefits on the condition that the benefits are transferred out of the scheme to another provider. Defined benefit schemes promise a set level of pension once an employee reaches retirement age no matter what happens to the stock market or the value of the underlying pension investment.

The industry code of practice applies where incentives are offered to pension scheme members who transfer their pension entitlement out of a defined benefit scheme and also where defined benefit entitlements are modified.

Pensions law expert Simon Tyler of Pinsent Masons, the law firm behind Out-Law.com, said that the publication of the statement removed any doubt that may have existed about the Regulator’s stance on the code.

“Employers may now press ahead with any planned incentive exercises as long as they follow the recommendations set out in the code,” he said. “Some bad practice has brought incentive exercises into discredit, but that bad practice should now be a thing of the past. The code and the regulator’s statement together provide a firm framework for employers to manage defined benefit scheme liabilities in a fair and transparent way that trustees can be comfortable with.”

The regulator’s statement sets out five principles that incentive exercises should comply with. Offers should, it says, be “clear, fair and not misleading”, as well as “open and transparent” in order to ensure all parties involved are aware of the reasons for the exercise. Trustees should be consulted and engaged from the start of the process and any conflicts of interest identified and managed appropriately. In addition, fully independent and impartial financial should be made accessible to all pension scheme members and promoted in the “strongest possible terms”.

Darren Philp, policy director of industry body the National Association of Pension Funds (NAPF), said that although two sources of reference for incentive exercise guidance was not his preferred solution, the NAPF was “pleased” that the regulator was pointing people towards the code of practice.

“We need to ensure that people make the right decisions for their retirement, so it is essential that employers comply with the new Code of Practice,” he said. “The NAPF will play its role in helping to monitor compliance over the next year.”