Master trusts are fast becoming a popular choice for employers hit by auto-enrolment, but how do they compare against GPPs, asks Bob Campion

Low-cost, auto-enrolment friendly and with a robust governance framework, master trusts are the latest must-have trend to hit the pensions industry. They are said to offer the best of both worlds in defined contribution pensions, being cheap and simple for employers like contract schemes, but offering a firm layer of governance oversight like a single employer trust-based scheme. They also hold out the prospect of a refund of contributions for employees who leave within two years. But while master trusts are becoming an obvious choice for companies, are they really the best option?

As if to formally announce the arrival of this increasingly popular form of occupational pension, the Master Trust Association (MTA) was born in November. The informal group includes many of the leading pension providers – such as BlackRock, Standard Life, Legal & General and B&CE – as well as independent trustees who help govern the master trusts.

The main mass market auto-enrolment schemes – such as Nest, People’s Pension and Now: Pensions – follow a master trust model and it is easy to see the attraction. Like a single employer DC trust, a master trust is governed by trustees, although in this case they would be predominantly or entirely independent.

The trustees are free, in theory, to hire, fire and manage all the usual service providers – administrators, communication providers, investment fund providers. But unlike its single employer variant, the master trust does not burden employers or lay trustees with day-to-day practical concerns. And the overall cost is often less than a typical Group Personal Pension (GPP) contract plan. Arguably an employer is relinquishing even more control over the plan than in a GPP – where they may be able to at least choose fund ranges and tailor communications – but employers are increasingly viewing master trusts as lower cost, PR-friendly versions of GPPs.

“We are strongly supportive of the master trust concept,” says Pitmans Trustees managing director and a founding member of the MTA Richard Butcher. “We are moving to an environment where we need better outcomes from our DC schemes and a large chunk of the market is heading to a contract-based world. There is a body of evidence that charges are higher [in contract-based schemes] and there is a reliance on individuals making their own decisions about how to invest money. There is also growing evidence that trust-based DC schemes deliver better outcomes.”

But master trusts are not without their detractors. The Pensions Regulator has revealed that it is looking into the potential conflicts of interest inherent in master trusts where a sole trustee is appointed or hired by a provider which has set up the scheme. Whilst a single employer trustee would normally be able to replace an administrator, a sole trustee appointed by the administrator of a master trust would struggle to replace the provider that hired them.

Managing conflicts of interest is nothing new to independent trustees, and this may not be a major barrier to the success of the model. “We very rarely fire administrators because we can normally fix the problem,” adds Butcher. In reality if the relationship between sole trustee and provider completely broke down, the trustee would most likely resign, landing a potentially fatal blow to the scheme.

Changing administrators is always deeply problematic and rarely attempted by trustees. Of more practical concern is the independence of the investment or fund management selection process. Would sole trustees be under pressure to appoint in-house fund managers? It is here where the trustee would need to demonstrate their impartiality, acting in the best interests of members to offer a compelling default and other fund options. Although contract providers typically offer best of breed external funds, the ability of a trustee to monitor and amend fund options over time adds a real and significant layer of professional independent governance that should give comfort to employers and members.

Rarely mentioned but very relevant is the matter of early refunds. While in contract-based DC schemes the pension of an early leaver remains locked-up with the provider until retirement, but under a master trust refunds of contributions can be payable to both parties within two years, just as with any other trust-based DC scheme.

The contributions to the employer have to be reallocated to another member of the scheme, but in reality the arrangement is as good as cash-back. For employers with large transient workforces this can present a significant saving, as most employees will tend to take a refund if offered.

This practice has not found favour with the DWP, however, with Pensions Minister Steve Webb publicly spelling out that it runs counter to the auto-enrolment project for workers to be failing to build up adequate pension pots because they keep taking refunds.

The DWP plans to scrap short service refunds for all DC schemes by 2014, but until details are firmed up employers may still consider the refund option an attractive feature of master trusts when compared with GPPs. For IFAs, master trusts present a barrier to transferring members out and into personal pensions, as the regulation of transfers from occupational schemes is tougher than from GPPs. That might not seem a problem from the point of view of the regulators, but is just one area where master trusts can be inflexible.

“The regulator says we have to take account of the characteristics of the workforce,” says LEBC Group divisional director of group savings and investments Glynn Jones. “How do you get a bespoke default fund [with a master trust]?” Jones is concerned that employers may believe joining a master trust abdicates them from auto-enrolment duties, whereas they still have significant compliance responsibilities such as managing opt-outs.

Other technical regulatory issues that impact trust and contract schemes differently could still be significant, such as the rules governing whether European employees of UK companies are affected by auto-enrolment.

Regulatory arbitrage will be difficult to eradicate completely between contract and trust-based plans. But as it stands, the pros and cons of master trusts versus contract schemes are finely balanced. Newly set up GPPs are competitive on cost and the increasing adoption of target date funds removes investment governance from the equation by delegating asset allocation and manager selection to a professional third-party.

The battle between the two models will inevitably come down to perception. If the suspicion grows that master trusts launched by insurance companies in reality offer no governance advantage over contracts, their popularity may wane. GPPs still remain easier to set up and run, with employers not required to sign trust deeds and insurers keen to make the process of auto-enrolment as simple as possible.

The key issue is how independent a master trust board really is, and whether the benefits are appreciated by the workforce. Even if some master trusts are effectively bundled into an administrative platform, the freedom to select fund managers and oversee communications may still prove a genuine benefit.

Either way thousands of small and medium-sized employers will be looking for the best auto-enrolment solution in 2013 – the LEBC Group is expecting a ‘tidal wave’ of activity. It is not just cost and governance that will interest employers but the level of compliance support for their auto-enrolment duties. On that front, master trusts are no better or worse off than GPPs, although Nest, for instance, offers very little in this regard.

With some insurers offering both master trust and contract options, the market is clearly too embryonic for anyone to know which model will prove more popular over time. Like any trend, master trusts could still prove to be a passing phase. One thing is for sure; in 2013 the competition between providers of all types will be fierce.

Written by Bob Campion, a freelance journalist

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