Is your DC pension scheme roadworthy? 

In a transformed market for defined contribution (DC) pensions, many schemes are in poor shape.

That is the picture that emerged from our hundreds of conversations with employers who have taken our DC MOT assessment.

DC pension schemes set up several years ago have failed to keep up with lower charges and improved services. In other cases, member benefits introduced in 2015 with pension flexibility have not been supported, causing members to lose out. Some schemes are exposed to potentially damaging risks because processes have not been updated.

As an employer you provide pension and employee benefits to recruit, retain and motivate your staff — and support HR planning by providing enough money for your people to retire. These aims are undermined when schemes and benefits are left to drift.

This is particularly true when rising living costs are hitting household finances, interest rates are increasing and the climate emergency and the consequences of the pandemic are affecting people’s values.

The cost of living crisis is creating financial anxiety — with implications for productivity at work and the welfare of your business. This is the time to review your DC pension and broader benefits to make sure they are doing as much as possible to support your people.

“If it’s not broken, why fix it?” is the question companies often ask us about their DC pension schemes. But something doesn’t have to be badly broken to need care and attention. That’s why we set up the Mercer DC MOT.

In the same way a car needs an annual check to ensure it remains roadworthy, pension schemes need a regular MOT to ensure they remain fit for purpose and to find ways to save money, increase value, improve pension governance and reduce risk for all stakeholders. And because DC pensions are now interwoven within a broader employment package, the MOT should consider those benefits too.

Our DC MOT assesses your scheme based on 12 interlinked criteria (see below). They broadly reflect three themes:

  • Financial pressures on employers and employees
  • Increased regulatory and reputational risk
  • Wellbeing, engagement and productivity.

Market-leading 12-point plan

  • Savings Vehicle

    Vehicles and providers have evolved. Have yours kept pace with what is important to you?
  • Charges

    Our research shows many pensions are poor value. Are you and your staff paying too much?
  • Tax Efficiency

    Tax & NICs are increasing. Can you mitigate their impact to you and your people?
  • Age, Ethnicity, Gender

    Diversity, Equity & Inclusion are key for employers. Are your benefits aligned to your beliefs?
  • Auto-enrolment

    Costs and risks are rising. Have you considered all options to keep you safe?
  • Broader Benefits

    People’s wants and demands have changed. Are you providing what staff value?
  • Financial Wellbeing

    COVID-19 and cost of living rises exert immense pressures. Are staff adequately supported?
  • Engagement

    Pensions are a key recruitment and retention tool. Do your people understand and value them?
  • Executive Support

    High paid staff face specific challenges. Are you and they incurring unnecessary costs?
  • Retirement Options

    Incorrect decisions can cost over 60% of savings. Scams cost more. Are your staff safe?
  • Environment

    COP26 focused global attention. Does your pension align with your and your people’s views?
  • Retirement Adequacy

    Many staff can’t afford to retire, creating HR, succession and business risks. Can yours?

Employers and employees face financial pressures

Many employers were still dealing with the impact of the pandemic when their costs started to escalate. Energy costs have soared and inflation has reached a 40-year high. Wages have risen rapidly in some sectors and supply chain problems have pushed up prices for products and materials. And all this is against a backdrop of increasing regulatory costs.

Your people are also facing financial pressure from the cost of living crisis. Their bills are increasing too and living standards are falling as inflation outstrips wage increases.

Yet many companies and their employees are still paying too much for their DC pension schemes. Prices in the UK savings market are falling and services are improving. You may be getting poor value by paying for services you don’t need or that can be provided for free such as auto-enrolment management and financial wellbeing services and solutions.

In addition, member charges have been pressed down in recent years but it is up to you as an employer and your advisors to seek out the best value for your people. The savings are there if you ask.

All employee DC pension contributions are subject to national insurance contributions of 15.05% for employers — and up to 13.25% for employees. Under a salary exchange arrangement, these national insurance contribution costs can be removed — saving money for both the employer and employees. And this can also open up opportunities to benefit from state benefits (for example, child benefit) that staff may not otherwise be entitled to.

Your DC pension members may also be paying too much tax. For example, when tax relief is applied at source, higher rate taxpayers in a group pension scheme need to reclaim amounts above 20% in their tax return – but many do not do so. Yet careful planning can mitigate this.

Rules, reputation and DC pensions

The regulatory and pension governance workload and risks for DC pension schemes are increasing all the time — from the efficient handling of financial obligations to integration of policies linked to environmental, social and governance (ESG) priorities.

We are seeing an increasing number of auto-enrolment errors because processes have not kept up with the pace of change. For example, a change of payroll provider or a corporate merger can lead to mistakes in meeting legal requirements. Responsibility for staying on top of changes can also “fall between the cracks” of the employer and the DC pension provider.

In these situations a company is fined and has to repair its mistakes. This is costly and damages its reputation for pension governance with the public and employees. It is a prime example of how lack of care and attention can come back to hurt you.

ESG matters are near the top of most companies’ agendas and are increasingly important to employees. Yet many companies fail to consider the implications for their pension schemes alongside their corporate goals.

For example, our recent Responsible Investment Total Evaluation (RITE) report found that only 38% of DC schemes included an ESG fund in their default investment strategy, thus excluding members from sustainable investments. This approach can leave your scheme exposed to assets that are at odds with your values.

Pension governance is increasingly focusing on the social side of ESG and these issues resonate with employees. Companies are putting great effort into improving diversity, equity and inclusion — yet many are not applying these values to their pension schemes. Do the people overseeing your pension scheme reflect your wider workforce? Does your scheme treat all genders and age groups equally as the law requires?

Wellbeing, engagement and productivity

The pandemic had raised employee stress levels (and complicated HR planning) even before the cost of living crisis that now grips households took hold.

Soaring household costs are a worry for employees, and that stress can affect productivity — especially as many people work from home with little human interaction.

Employees are looking to their employers to support their financial wellbeing through this difficult period. Inflation has exceeded 10% in 2022. You may not be able to give employees a 10% pay increase but you can help them pay less tax, for instance by using salary sacrifice. Online tools can also assist them in managing debt and organising expenses.

This doesn’t have to cost lots of money — and simply adding new benefits isn’t the answer. Often employers have measures in place but few people use them. We have found that too few companies engage regularly with their employees to find out what they need and remind them of what is available.

Even employees who are not struggling to pay the bills are affected by the changes taking place. Many companies are struggling to hold on to valuable people as employees rethink their priorities, and some high earners are questioning whether they should carry on working.

Engaging with these employees may lead to tax efficiencies that re-motivate them — or simply remind them that they have a good employer and are well looked after.

A virtuous circle of financial wellbeing, engagement and productivity has further benefits. Ultimately your people will be happier if you look after them and your HR planning will run more smoothly if employees have enough money to retire and make way for the next generation.

Insight and opportunity

Mercer offers a free DC MOT for any DC pension scheme, allowing you to benchmark your scheme and associated employee benefits against other employers. DC MOT will provide you with insight into how measures introduced by other organisations may help you respond to this testing environment.

Challenges create opportunities. This is the moment to address important issues that may have been overlooked in calmer times.

Our conversations with hundreds of employers show that many defined contribution schemes offer poor value and are exposed to potentially damaging risks.  A DC MOT will benchmark your scheme and show you how to get the best value for you and your employees.
Ken Anderson

Principal, DC & Financial Wellness Consulting, Mercer

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