Why not all mastertrusts deserve the name

Whether it is the closure of final salary schemes, the Maxwell scandal or Equitable Life, pensions have often hit the headlines for all the wrong reasons.

With 11m people set to be enrolled into workplace pensions as a result of auto-enrolment, a renewed focus on raising standards in the industry has rightly ensued.

Against this backdrop it is perhaps no surprise that mastertrusts have become more prevalent.

The mastertrust structure enables even small employers to benefit from high standards of governance, as the independent board of trustees that oversees the running of the scheme has a statutory duty to ensure it is being run in the best interests of its members at all times.

This means members have the comfort of knowing there is an independent body overseeing decisions on crucial issues such as charges, investment strategy and administration.

Of equal importance is the fact that all members are treated equally, regardless of whether they are active or deferred.

A contract-based scheme on the other hand is essentially a grouping together of individual policies, it is not one legal entity.

They do not have boards of trustees, and while insurance companies have a duty to treat their customers fairly they also have a responsibility to maximise profits for their shareholders by making as much money out of schemes as they possibly can.

Once members leave their employer they often lose their active member discount and in many cases end up paying higher charges, with the interests of the member all but forgotten about.

But not all mastertrusts are the same, and this may not be immediately apparent to employers when choosing a scheme.

The Pensions Regulator has stated that 44 mastertrusts were set up in the UK over the past two years and a large proportion of these have been established by insurance companies.

Sizing up potential conflicts

Many of the trustee boards of mastertrusts established by insurance companies have representation from the insurer parent.

This raises questions over conflicts of interest. In reality, how independent is the board of trustees?

How likely is it these trusts will change the administrator or fund manager, other than to another member of the insurance company, even where a change would be in the best interests of members?

What action can trustees take if they disagree with the insurer, apart from stepping down?

Another area of concern is the low barriers to entry in the mastertrust world. When Now Pensions came to the UK I was astounded by how easy it was to establish such an arrangement.

In contrast, insurance companies that provide contract-based schemes are subject to regulation by the Prudential Regulatory Authority and are required to maintain capital liquidity to deal with operational risks.

Higher barriers to entry needed

With mastertrusts there is no licence or regulatory authorisation required, and no rules around capital adequacy. In other countries the regulation around mastertrusts is much tighter.

This needs to be urgently addressed, as without tighter controls there is a very real risk of a proliferation of substandard mastertrusts.

The regulator and the Institute of Chartered Accounts in England and Wales have together published a draft assurance framework with the aim of driving up standards in mastertrusts.

But this framework is voluntary, and while an assurance report might be of some comfort to employers when it comes to selecting a mastertrust, it does not address the issue of barriers to entry.

At its core the investment model is a robust one, and if run well it can provide employers with a low-cost, high-quality pension arrangement.

But, the good reputation of mastertrusts will easily be undermined if barriers to entry are not raised.

If the number of mastertrusts operating in the UK market continues to swell, it is going to become increasingly difficult for the regulator to keep a handle on them. It will also become more difficult for employers to sort the wheat from the chaff.

Mastertrusts should be encouraged, as in many ways they offer an ideal solution for the needs of a multitude of employers in the auto-enrolment environment. But more needs to be done to safeguard standards to prevent employers buying into a false promise.

Morten Nilsson is chief executive officer of Now Pensions