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Charge Caps and the Consequences (CP14/24)

20th Nov 2014

In its recent consultation document (CP14/24) the FCA set out its approach to implementing the government’s announcements regarding the imposition of a Charge Cap for Workplace Pensions.

This has far reaching effects both for advisers and providers operating in this market place.

For advisers it reaffirms the end both for consultancy charges and for commissions on any scheme being used for Auto Enrolment purposes.  This means significant extra work for all those advisory firms who had expected to be able to use existing schemes – with existing remuneration models – for these purposes.  The industry was, in any case, expecting a huge workload next year from the sheer number of companies needing to implement pension arrangements for the first time.  Now advisers will have to divert significant resources to renegotiate, both with corporate clients and providers, the services they have been providing, and how they will be paid for in the future.

It will almost certainly lead to a large reduction in the amount of advice available to members of schemes just at a time, particularly when approaching retirement, when the choices are actually getting more complicated. 

In future advisers will only be able to take fees from a customer’s pension pot through an explicitly agreed Adviser Charge.  This will be almost impossible to achieve except in certain obvious situations such as when a transfer value may be involved.  This means that the economies of scale previously available in providing information, guidance, advice (call it what you will) across the whole membership of the scheme will no longer be available.  It means that the effort, only a year or so ago, to set up schemes under the pre-RDR regime that would carry a corporate client through Auto Enrolment, and more recently the effort in setting up Consultancy Charge arrangements has largely been wasted, especially as many insurance companies, understandably, are now seeking the earliest possible termination of trail commissions.

As all schemes in this situation will need to be reviewed, and their charges cut, many commentators suggest that there could be a large degree of switching away from the traditional insured contracts towards the rapidly emerging Master Trusts.  We can already see an increasing number of new entrants, often from an advisory background, sponsoring the set up of new Master Trusts.  This new breed of arrangements will often benefit from having more flexible systems more attuned to providing online services and offering a greater flexibility of approach.

As for the Charge Cap itself, it can be taken as a given that all the key political decisions had already been taken and, in that sense, the FCA consultation seems relatively straightforward in its approach.  It is good that that flexibility has allowed charges expressed in fixed money or percentage of contribution terms; a flat annual management charge of 0.75% provides far too little money in the early years for the set up services required, which is all the more so for the smaller and micro company market.  A flat charge would also have been penal to new entrants in the market as it can only work with a vast degree of cross subsidy, or use of scarce capital.

The final area of change relates to the removal of Active Member Discounts, which was always a misnomer.  The reality was that these were Deferred Member Surcharges, designed wholly as a clever actuarial device for the life office to recover unearned initial commissions.  They did not really reflect the reality of the situation which is that deferred members cost less to administer because the administrator does not have the cost of processing regular contributions and investments which only apply to active members.  It is important to understand that these costs are proportionately more expensive per member for smaller schemes than for larger ones.  It is an interesting by product of the proposals from the FCA that they are also effectively banning reduced charges for deferred members.

Differential charging will still be allowed between those with larger and smaller investment pots and, importantly, to protect members with very small pots against too high a rate of charge.

Whether driven by regulatory change or not, what we are definitively seeing is a change in an evolving market place as all those involved look at the potential market of the million plus employers needing to implement Workplace Pensions over the next 2-3 years.

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