LGPS Fit for the Future consultation - government response 

ACCESS and Brunel are in the process of responding to the government’s conclusion that their proposals do not align with its vision for the future of the LGPS, which is using up significant bandwidth at the Partner Fund and Pool level. The Response acknowledges this stating the government “may allow some limited flexibility on this deadline” for those AAs and pools affected by the transition of assets from ACCESS and Brunel.

Impacted Partner Funds should consider next steps carefully in consultation with their current Pool and fellow Partner Funds (where appropriate), whilst also reviewing the options available with those pools that have the government’s support. This is particularly pertinent given the intention to introduce ‘backstop’ powers for government, which would allow them to direct a Partner Fund to join a specific pool, if required. 

In addition, Government has confirmed its intention to revise the Public Services Pensions Act 2013 to allow for the winding up of funds in relation to mergers, as a means of facilitating enforced mergers of Partner Funds in the event they are deemed necessary. Government notes its strong preference for merges to take place by agreement between Partner Funds, however this provision introduces a further lever for Government to pull in the event of non-compliance.

Mercer have developed a ‘key things to consider’ checklist to aid clients in assessing their options in this space with a view to minimising the risk that Partner Funds become ‘forced movers’ due to events outside of their control.

As expected, the Response confirms the requirement for Partner Funds to take principal investment advice on investment strategy from their pool, despite 54% of responses being opposed to the recommendation.  Whilst 87% of respondents supported further advice being sought, the government is of the view that this should only be under “exceptional circumstances”.

In relation to the proposal that all listed assets should be transferred into pooled vehicles managed by their pool, the government has pleasingly heeded the 50% of responses (including Mercer’s) which opposed the measure. In particular, it noted the common concern that it would not always make financial sense to transfer passive assets into the pool.  Instead, it will “require that all LGPS investments, listed and unlisted, are transferred to the management of the pool”, which reflects a loosening of the initial proposals.

Government has also confirmed its intention to review Stamp Duty Land Tax (SDLT) legislation, which it recognises as a potential barrier to the transfer of property assets to the Pool.

Whilst many respondents (including Mercer) raised concerns that the decision to invest actively or passively is a fundamental investment belief and risk management issue, the Response dismisses this decision as an implementation consideration which will be at the discretion of the pools. The same principle applied to decisions regarding regional (e.g. equity) allocations, which will also be delegated to the pools.

Many respondents were concerned it would be difficult for Partner Funds to meet their individual Responsible Investment policies under the proposals.  The Response references Pools considering offering more than one “ESG standard” where there are particularly divergent or conflicting stances between Partner Funds.

In response to concerns raised in terms of holding the Pools to account, the Response makes reference to AAs potentially utilising a fiduciary oversight service. As one of the world’s largest fiduciary managers and providers of investment advisory services, Mercer is well placed to continue supporting Partner Funds and Pools in this area, and we continue to develop our oversight proposition to meet client needs.

Finally, the government will look to provide relevant amendments to the Procurement Act 2023, to ensure the Pools are not prevented from collaborating more closely.

The Response defines ‘local’ investments to be “broadly local or regional to the AA or pool”. Our consultation response cautioned against local being defined as within the geography of the Pool, and we reiterate that there are potential risks associated with this approach.

That said, we understand the government’s desire to harness local government networks to identify potential investment opportunities.  Partner Funds will need to work with their Pools to understand how this will work in practice, and we stand ready to support both clients and the Pools in understanding and developing their propositions here.

The Response confirms that Partner Funds will be required to set a target range for local investment but is clear that the government “will not restrict the ability of AAs to set a target of their choice”.  The high-level government communications regarding the Pensions Investment Review make reference to introducing a backstop to mandate UK investment if sufficient progress isn’t seen, this measure will not be applicable to the LGPS.

In terms of reporting on local investments, refreshingly the government has recognised the risk over over-burdening AAs – something Mercer referenced in our response.  As such, the Pools will now be required to report annually on their local investments, thereby providing a data source for AAs to rely on for monitoring progress against their targets.  Further, the government will not prescribe metrics for reporting on local impact for either the Pools or AAs.

As set out in our consultation response, we are broadly supportive of the government’s proposals with regard to the governance of funds (in particular given the links to many of the proposals to the 2021 recommendations from the Scheme Advisory Board’s Good Governance project). 

Whilst the Response recognises the differing views of respondents in terms of how some of the proposals will be achieved in practice, each of the proposals were supported by an overall majority of respondents and the government will proceed with the following proposals unchanged:

• Requirement to appoint a senior LGPS officer with overall delegated responsibility for the management and administration of the Fund.
• Requirement to prepare and publish an administration strategy.
• Changes to the way in which strategies on governance and training, funding, administration and investments are published.
• Requirement for pension committee members, the senior LGPS officer, and officers to have the appropriate level of knowledge and understanding for their roles, with requirements for pension committee members and local pension board members aligned.
• Requirement for AAs to set out within their governance and training strategy how they will ensure that any committee, sub-committee, or officer will meet the new knowledge requirements within a reasonable period from appointment.
• Requirement for AAs to participate in an independent governance review and, if applicable, produce an improvement plan to address any issues identified.

However, based on the responses received, the government has opted to amend three of the original proposals:

• Requirement for an independent governance review to take place once in every three-year period rather than every two years. This will align the reviews with the valuation cycle and is something we had requested in our response. It is worth noting though that once reviews have taken place and are subsequently  submitted to MHCLG, should the government have concerns in any particular case, these may be raised with TPR. For the most serious cases, intervention may come through direction by the Secretary of State under the Public Service Pensions Act 2013, including the power clarified in the Pensions Bill to allow for compulsory merger. Key to this therefore will be understanding how any concerns may be elevated to be considered ‘serious’, which is subject to interpretation. 
• Requirement for AAs to have an independent advisor without voting rights, rather than an independent member of the committee N.B. Perhaps surprisingly, the Response doesn’t go as far though as specifying that LGPS knowledge and experience will be required. As referred to in our own response, whilst we think independent advisers can play an important role in terms of governance, oversight and challenge, we do not believe that the appointment of an independent adviser in isolation will be sufficient to provide effective oversight of investment advice provided by the pools. It will be important that AAs take a holistic approach and have access to specialist advice when setting objectives across investment, funding and risk.
• Requirement for AAs to prepare strategies on governance, knowledge and training (replacing the governance compliance statement), and administration, and publish these either as separate strategies or as a single document. The knowledge and training strategy will be required to include a conflicts of interest policy. The original proposal referred to the governance and training strategy being a single document and funds will welcome this change.

For many of the proposals, further guidance and support will be required to help funds implement the changes, and ensure consistency across the LGPS, where appropriate.  The timing of such guidance will be of particular importance for those funds who have not yet implemented any of the changes and are further away from ensuring compliance. Whilst concerns were raised around the cost/timing of implementing changes, the government’s general view is that investing in better governance will only serve to improve performance and outcomes for funds in the future. We look forward to supporting clients evolve their governance arrangements, where necessary, to ensure compliance.

Recognising the bigger role Pools will play going forwards the consultation included proposals around AA representation on Boards (and also scheme member representation) and also a requirement for Pools to publish asset performance and transaction costs.

The Response confirms that the government will now proceed with the requirement for Pools to publish performance and transaction costs (with guidance to be prepared). In relation to representation, there will be no prescribed approach set out by government (although guidance will be provided) and it will be for Pools to implement governance models that ensure the interests of their shareholders and clients are represented. Similarly, Pools will need to work with AAs to ensure scheme member views are also taken into account (no formal requirements will apply here).