The terms ‘risk reduction’ and ‘de-risking’ are used frequently in relation to pensions, but usually focus on investment strategy. What other ways can pension schemes reduce risk in the administration, provision and communication of pensions to individuals?
The word risk conjures up images of parachutes failing, avalanches rumbling, bungee cords snapping; hardly synonymous with the world of pensions. So what sort of risks are we talking about?
The terms ‘risk reduction’ and ‘de-risking’, when associated with investments, describe pension schemes making decisions to ensure that their assets will safely meet their liabilities. The wider subject of risk in the context of pensions is best tackled by first defining what we are trying to do, the familiar maxim being ‘paying the right amount to the right person at the right time’. Risk then, in pension terms, is anything that could contribute to us failing to achieve this outcome.
What are the right benefits? A scheme’s trust deed and rules set these out, so administrators should familiarise themselves with these governing documents from the outset. Are they clear or do they contain ambiguities? Many legacy schemes are still administered using trust deeds and rules written in the 1970s or 1980s, often in virtually-impenetrable legalese and amended by various subsequent deeds. Frequently, administrators taking on a new scheme will follow previous practice and any misinterpretations or mistakes are repeated and compounded. If the benefits and beneficiaries are not clearly defined, the administrator must raise any issues with the trustees, who must then decide whether legal advice is required. Trustees of schemes with governing documents pre-dating the overhaul of the pensions taxation framework in 2006 would be well-advised to review and consolidate them.
Having nailed down the benefit structure as set out in the scheme rules, we must ensure that it isn’t lost in translation. Administrators do not have time to trawl the rules before preparing each benefit calculation; instead, summaries and quick-reference documents are produced. It is important that any such derived guides do not over-simplify the benefits.
The dangers of over-simplification are illustrated by the case of a terminally-ill pensioner who been reassured verbally and in writing that on his death, a spouse would receive two-thirds of his sizeable pension. He married his long-term partner and passed away shortly afterwards. It was then identified that as the marriage had been within six months of his death, the scheme’s rules allowed her only the widow’s GMP, a significantly lower pension than they had been led to expect. To resolve the complaint, the employer and third-party administrator shared the substantial cost of securing an annuity to make up the shortfall in the widow’s pension.
So how do we manage the message and make sure the member is given accurate information? The automated production of member communications – retirement illustrations, transfer packs, annual benefit statements – has much to recommend it in the increasingly-complex world of pensions administration.
Acquisitions and mergers result in schemes with numerous categories of membership, a fertile ground for benefit variations. Add to this the constantly-changing background of pensions legislation and Regulator requirements and opportunities for mistakes are rife. Accurate standard documents, requiring minimal human interference, are essential to reducing the risk of incorrect information being provided.
Automated, standardised communications also allow the overall message and the details of the wording to be agreed by all parties. A pension scheme is a significant drain on employers’ funds and they will understandably wish their employees to appreciate and value this expenditure. It is to everyone’s advantage that members understand their pension and the options available to them. The pensions industry as a whole is ditching the jargon and pensions communications are getting their messages across in snappy, bite-size chunks of information. Long, rambling, confusing letters have no place in today’s pensions world and there should be standardised text and automated document production in place wherever possible. There is no reason in 2019 for administrators to be manually typing members’ addresses into letters, yet it is still happening – we have a way still to go.
Benefit calculations are the area of highest risk in pensions administration. As schemes merge and structures become more complex, or benefit changes are brought in to reduce future accrual and liability, benefit calculations grow increasingly complicated and multi-layered. Calculations should be programmed wherever possible and should draw the inputs directly from the database, removing the risk of manual error.
I am not proposing the replacement of experienced, knowledgeable staff with button-pushing robots. Far from it. The increasing complexity of pensions, in particular the administration of DB schemes, requires expert individuals whose time is not wasted checking manually-created change of address letters.
Automation as a whole is crucial to the future of pensions administration. An investment of time and expense in the short term reaps huge dividends; shorter processing times and lower costs, increased accuracy and consistency, the reduction of human input and its inevitable errors, the list goes on. But an automated system will only ever be as good as the data it uses. Data is key.
If we are to pay the right amounts to the right people, we must hold records that correctly identify them and contain the information needed to determine their correct entitlement. The flow of data from the employer’s payroll system to the administration database, whether individual or in bulk, must be checked and verified before being loaded to the members’ records. Do the scheme calculations need just the basic salary, or should overtime and bonuses be included? If the member’s contributions are being paid via salary sacrifice, and the scheme rules have been amended to include these in a death lump sum, is the contribution data clearly split between (notional) employee and employer elements? The administrator should make sure that the payroll team understand the pension data requirements. In DC schemes, care taken at the verification stage prior to loading contribution data can prevent a time-consuming reconciliation job later on.
Once recorded, how do we ensure that the data remains up to date and accurate? This is, after all, a GDPR requirement. The Pensions Regulator has been asking schemes to measure their common data for some time, the bare essentials you would expect to see on any member’s record, such as their name, date of birth, NI number and address. Schemes are now being asked to report on the quality of their conditional data, those vital scheme-specific items – pensionable service dates, salary information, working hours, membership category, contribution rate and so on. The spotlight is on data.
Databases must be secured and accessible only by those with a defined and legitimate purpose. The data should be accessed on a read-only basis , any amendments should be controlled and require the authorisation of another user of the appropriate level.
Correctly recorded data should not normally need to be amended, with some exceptions. One data set that we expect to change over time is a member’s address. Referring back to our overall goal, if we are to pay benefits at the right time, we must maintain up to date address records for preserved members so that we can make contact. Tracing companies offer services to trustees that will run through their data and identify any members who may have moved house. If a change of address is suspected, the member can be contacted and asked to confirm their personal details before the new address is entered onto their record.
The risk of retirement benefits being paid to the wrong person is minimal provided that administrators follow established processes requiring sight of a member’s original identification documents, or certified copies. The member’s name and date of birth as shown on the database record need to match those on their documents. Increasingly, this process is moving to service providers who will search online registries to confirm a positive match between a member’s name, date of birth and address. Where a strong link cannot be made, the member is contacted and asked to provide the necessary documents.
The risks discussed above are generally those of error and oversights, rather than intention. Fraud, by which an individual claims money that is meant for someone else, is not common in pensions and is most likely to occur when a pensioner dies and the family fail to report the death, continuing to receive the payments. This risk can be minimised by the use of a tracing service to regularly screen pensioners against mortality records, identifying any potential deaths. The pension can then be suspended pending confirmation of the status of the pensioner. It remains the case that if an individual is set on committing fraud it can be extremely difficult to prevent. Always, if something does go wrong we must learn from it and reduce the risk of reoccurrence.
Despite the dull, grey image of pensions administration, it can be a risky business and the stakes can be significant. We may not be the ultimate white-knuckled thrill-seekers, but we deal with our own kind of risks on a daily basis. A force of knowledgeable experts, armed with standard documents and procedures, automated processes and controls, are our best defence as we continue to combat these risks and provide the best possible outcomes for our members.
Senior Pension Administrator – First Actuarial