Part 5 – Key Points for Defined Contribution Schemes – Investment Powers and Duties
20 / 04 / 2020
Given the precipitous decline in value of many defined contribution members’ pension pots, the trustees of defined contribution schemes (“DC Schemes“) are particularly at the sharp end. Trustees of defined benefit schemes will have their own concerns (see our article above at Part 4 of this issue of Pensions Compass – “Key Points for DB Schemes”), but many of their members will also have money purchase pots in the form of additional voluntary contributions.
What action should trustees responsible for defined contribution investments take in the interests of their members and also to protect themselves as trustees? The 19th century case of Re Whitely (“Whiteley“), said that trustees’ duty to choose the correct investments for their members:
“depends on the economic and financial conditions of that time not on what judges in the past, however eminent, have held to be the prudent course in the conditions of 50 or 100 years before“.
Trustees should certainly have regard to the present, unprecedented circumstances, but other cases make it clear that trustees should also not forget established legal principles regarding powers of investment. In particular, trustees should continue to act within the powers set out in their scheme’s trust deed and rules, and should additionally be mindful of their statutory and fiduciary duties (such as the requirement to obtain and consider proper advice).
Trustees’ Express, Statutory and Fiduciary Duties
Trustees’ powers to invest scheme assets, including any restrictions on those powers, are often set out in the scheme’s trust deed and rules. Therefore, the first step for a trustee should always be to consider the scope of their express powers of investment as set out in the governing documents of their scheme.
Next, trustees should act in accordance with relevant legislation. The rules governing trustees’ investment duties are derived from a number of statutory sources, and include requirements to: ensure the profitability of the fund as a whole; exercise reasonable skill and care; and diversify investments to hedge against isolated losses. Trustees’ statutory investment duties are often said to sit alongside trustees’ fiduciary “judge-made” duties.
As to those common law fiduciary duties, the general rule was expressed in Whiteley as follows:
“The duty of a trustee is … to take such care as an ordinary prudent man would take if he were minded to make an investment for the benefit of other people for whom he felt morally bound to provide.“
In 2014, the Law Commission published a report entitled “Fiduciary Duties of Investment Intermediaries” which, amongst other things, summarised trustees’ investment duties. The report said trustees should:
- act for the “proper purpose”, meaning that trustees should act in the best interests of the scheme’s beneficiaries (including active, deferred and pensioner members);
- take into account all relevant considerations, and ignore irrelevant ones; and
- take proper advice in respect of potential investments, but not with the result of fettering the trustees’ judgment by blindly effecting the advice of their advisers.
Of the above, perhaps the most relevant in these trying times is the requirement to take proper advice (and the limitations thereon).
Duty to Take Proper Advice
Trustees of occupational pension schemes (including DC Schemes) are required, under s.36 of the Pensions Act 1995 (“Section 36”) and under common law, to obtain investment advice before making any investments on behalf of their schemes. Under Section 35, trustees must also ensure that the person who is giving the advice is qualified to give such advice, and that such adviser has the appropriate knowledge and experience of financial matters, as well as the management and investment-practices of trust schemes.
Ultimately, however, it is the trustees who are responsible for making the decision of whether to invest and/or retain investments. Irrespective of the source of their advice, trustees should exercise independent discretion to consider whether the investment is satisfactory for the scheme and in the circumstances, also having regard to their statement of investment principles.
In present circumstances, it is more important than ever for trustees to obtain and consider proper advice. Given the market volatility brought about as a result of the pandemic, the profitability of investments is likely to be less predictable and manageable than in more stable times. Accordingly, trustees should exercise extreme caution before making investment decisions, making sure to consult with their advisers beforehand and critically evaluating advice. Above all, trustees should ensure the investment advice is given, or subsequently confirmed, in writing. Otherwise, the trustees will not have obtained “proper advice” as Section 36 requires.
COVID-19 and The Pensions Regulator’s Guidance
On 27 March 2020, The Pensions Regulator (“TPR“) released guidance for trustees of DC Schemes in light of the COVID-19 pandemic. Amongst other things, TPR’s guidance recommended that trustees should:
- be mindful and wary of potential scam activity in the present, particularly vulnerable, social and economic climate;
- review the degree of diversification of the scheme’s existing investment portfolio and consider whether any risk areas have been concentrated as a result of the pandemic;
- ensure that the trustee board and any subcommittees thereof have adequate arrangements allowing for business continuity; and
- review member communications and aim to keep members fully informed about the changing risk profile of their benefits.
Whilst member communications should be made more frequently in these distressed times, trustees of DC Schemes should remain mindful of the differences between their members. As TPR suggest, current market volatility is likely to have a varying impact on different members retiring over different future time periods. Pausing there, whilst uncertainty in the short term will be of the greatest concern to those members close to retirement age, members with long investment horizons may also be discouraged from saving and could choose to opt-out of their current plans. Accordingly, trustees should have regard to the needs of different classes of members and seek to tailor their communications to their scheme’s members’ needs and best interests.