CSC’s Top 10 questions for auto-enrolment

CSC is an IT outsourcing and consulting company with 7,000 employees in the UK. We have postponed the date we need to auto-enrol employees for three months until 1^st July 2013.

In preparation for auto-enrolment we thought it would be helpful to share our top 10 questions;

1)      Can you use your current pension scheme/provider?

2)      How do you know if your current scheme is a qualifying pension scheme?

3)      Do you have to make any changes to your current pension schemes?

4)      Should you postpone your staging date?

5)      Do your employees all work for the same company?

6)      Will all your employees be included?

7)      How will you assess which of your employees to auto-enrol?

8)      What employer contributions are you going to pay?

9)      Will your employees stay in the pension scheme or opt out?

10)   What happens if you operate a salary sacrifice arrangement?

1)      Can you use your current pension scheme/provider?

If you already have a suitable pension scheme why not consider using this as your auto-enrolment vehicle? CSC has a group personal pension plan for new employees with Scottish Widows.   Scottish Widows were only chosen three years ago and we believe our charging structure is still competitive, we offer sufficient investment choices and a suitable default investment option. We therefore decided this pension scheme should be used for auto-enrolment. If it is some time since you reviewed your current pension provider you may want to compare the charging structure with that of NEST or other pension providers. Think about any active member discount on the charges (to check if these are still competitive for employees who leave your scheme and are automatically enrolled into a new one) and ensure you have a default investment option which is appropriate for the vast majority of your employees.

2)      How do you know if your current scheme is a qualifying pension scheme?

If you already have employees who are members of an existing scheme(s) you need to check whether they, and any new scheme introduced, are qualifying schemes. This is an employer duty and not the responsibility of the trustees of a trust-based scheme. There are different tiers of certification to determine whether your scheme complies, based on minimum contribution rates. The Pensions Regulator website is a good reference point as it sets out the different tiers of certification and the process which needs to be followed. CSC has decided to apply for Tier 1 certification for our GPP and Tier 2 certification for our historical DC arrangement. Certification lasts for up to 18 months.

3)      Do you have to make any changes to your current pension schemes?

When assessing whether CSC’s existing pension arrangements would remain qualifying schemes into the future, we realised we had some historical offsets from base salary which would need to be removed. These offsets were required in our final salary scheme for some employees transferring to CSC under TUPE arrangements, which we had not removed when we replaced the final salary scheme with alternative DC arrangements. By removing these offsets from base salary we will increase both company and employee pension contributions. The death in service and long term disability benefits are also impacted by this change. This in itself needs to be carefully implemented and communicated as part of our auto-enrolment project. So our advice is to check for any historical terms in your schemes which will need to be amended to ensure compliance with the qualification requirements.

4)      Should you postpone your staging date?

Many employers appear to be postponing their auto-enrolment dates. The Pensions Regulator requires an employer to think through their reasons for postponing – although there is no requirement to have a “good” reason. At CSC we decided to postpone for three months until 1^st July 2013 for three reasons; firstly, it aligns to our pay review date so if an employee starts to pay contributions for the first time it may be following a pay increase; secondly, we do not believe many employees are particularly eager to join the scheme if they have already made an election not to join as part of the annual flex renewal; and thirdly, this will delay the increase in company costs for a further three months. If you are postponing your own staging date you need to consider whether it is appropriate to issue General Notice A or B to your workforce, which you have to do within 1 month of your original staging date.

5)      Do your employees all work for the same company?

It is important you know who your employees are employed by. In CSC the majority of our employees are employed by a UK company which has a staging date of 1^st April 2013 and for these employees we are postponing until 1^st July. However, we do have a number of employees with different contracts of employment (and a different payroll reference) who we are not required to auto-enrol until 1^st May 2014. As we want to treat all our UK employees the same we had to inform the Pensions Regulator that we intend to bring forward the staging date for the smaller group of employees.

6)      Will all your employees be included?

The headline group of employees required to be auto-enrolled are those not currently in a pension scheme, who are over age 22, under state pension age and earn over £9,440 a year. However, what about certain categories of employees; such as fixed-term employees, employees on long term sick leave, employees on sabbatical , or secondees into the UK. At CSC we have a number of employees from India who come to the UK for short-term project work (like many other IT firms) and we have established from the Pensions Regulator guidance that we do not need to auto-enrol these employees into the UK pension scheme.

7)      How will you assess which of your employees to enrol?

You are likely to need your payroll provider, your pension provider, or another third party, such as a flexible benefits administrator, to help with the process of assessment. At CSC we did not consider using payroll as an option as we are in the process of transferring our payroll team to Prague and implementing a new SAP system. We therefore had to decide between using Scottish Widows (with the AssistMe tool) or Benefex, our flex administrator. Many of the pension providers are offering to complete the assessment process as part of their ongoing service and with no additional charge. However, as Benefex already process our monthly payroll data, have established interfaces with our SAP system and offer an online communication tool to our employees, we decided to use them for both the assessment process, and the communications around the opt out process on behalf of the provider. As it is the provider’s duty to ensure the appropriate opting out communications are issued, Benefex are requiring that Scottish Widows delegate this responsibility to them.

8)      What contributions are you going to pay?

Will you maintain the standard rates of employer and employee contributions or introduce a new contribution structure for auto-enrolment? At CSC we pay up to 8% of the employee’s salary into the pension scheme provided the employee contributes at least 4% themselves. Other options are the employee paying 2%, in which case the Company will pay 4%; or pay 3%, in which case the Company will pay 6% (2 for 1 matching).  We have decided that, although an employee can continue to elect this 2 for 1 matching structure as part of their flexible benefits package, we will auto-enrol employees at the minimum compliance level (1% from the Company and 1% from the employee, increasing to a total contribution of 6% in 2017 and 9% in 2018).

9)      Will your employees stay in the pension scheme or opt out?

Don’t assume a low take up! For those large employers who have already implemented auto-enrolment very few employees have opted out. At CSC when we assessed our costs we assumed that at least 70% of those auto-enrolled would stay in the pension scheme – but that could be as high as 100% in practice.

10)   What happens if you operate a salary sacrifice arrangement?

Unfortunately, an employer cannot make salary sacrifice a condition for enrolment into a pension scheme. Therefore although CSC operates salary sacrifice under our contracts of employment we will need to communicate and set up an alternative process for those employees who are auto-enrolled and decide they do not want to pay their contributions in this way.

 

"CoCos and bail-inable bonds" how does this fit with transparency

The Financial Services Sector is getting prepared for the Capital Requirements Directive IV (CRD IV) which introduces new pay rules from 1st January 2014 and will impact bonuses paid in 2015 (in respect of the 2014 performance year). The area of this new Directive which is getting much focus is the Cap on Variable pay.

The banks are going to have to set appropriate ratios between fixed and variable pay, such that the variable portion granted each year must not exceed 100% of the fixed component. It is only with shareholder approval (of at least 66% of the shareholders,provided 50% of the shares are represented) that companies can increase the fixed:variable pay ratio up to a maximum of 1:2 (200% variable pay).

Fixed pay = payments or benefits without consideration of any performance criteria.

Variable pay = additional payments (or benefits) depending on performance and in excess of that required to fulfill the employee's job description. So this would include any bonus payable and the  long-term incentive plan (importantly valued at the date of grant). A discount rate of up to 25% can be applied to the variable pay, provided that it is paid in instruments which are deferred for 5 years or more.

Some creativity in this area is therefore expected, in the same way that EBTs/FURBS were used for Executives as a substitute for pensions provision when the Pensions Earnings Cap was introduced back in 1989 (was it really that long ago!), even though CRD IV does contain anti avoidance provisions.

So what are the likely solutions?

Increasing the fixed element of pay: there are lots of reasons why not to do this including increasing the fixed cost base of the financial institution, employment law implications as it is difficult to reduce fixed pay once implemented and of course public perception.

Introduce different types of variable pay: which have a low initial upfront value (at the time they are granted) but with greater potential upside. This would include co-ownership share structures (which already exist) whereby the employee only receives the gain on the value of the share which is subject to capital gains tax and an employee benefit trust holds the shares.

It will be interesting to see whether the financial services sector starts to (and is allowed to) use more complex alternative financial instruments as a substitute for the more traditional forms of variable pay - cash or stock incentive plans.

Some examples I heard of today and were new to my vocabulary were "CoCos" and "bail-inable bonds"! For those of you reading this blog who are not investment experts I have included a short definition below:

CoCos (or Contingent convertible bonds) are a form of debt securities that are coverted into equity upon a trigger event.

Bail-inable bonds are also a form of debt securities that are converted into shares upon a trigger event but they are also written down, potentially to zero, in order to "bail in" the bank.

My concern and reason for writing this, is how the potential creation of these new pay instruments sits against the UK Government reform on the reporting of directors pay and greater transparency on pay practices overall, but especially in the financial services sector where public and shareholder opinion is so high.

I will watch this space with continued interest over the next 12 months!

How do shareholders want you to reward your Executives?

With the AGM season almost upon us it will be interesting to see how many “no” votes companies get on their remuneration policies following last year’s casualties, such as Aviva and Barclays. Generally if 15% of shareholders vote against pay practices this would be seen as a problem, let alone the reputational damage this can have. So what should the Heads of Reward be advising their Remuneration committees to ensure the shareholders are voting with, and not against them?

·         Top down strategic approach: shareholders want to see a Corporation’s strategy and it’s KPIs influencing the reward of its top executives. They are looking for more than just financial measures in incentives and there is a definite trend away from using only EPS or TSR, to using a combination of financial and non-financial measures. As an example for our Executive STI (short-term incentive) we have introduced a balanced scorecard directly linked to the corporate strategy, made up of 60% financial and 40% non-financial metrics (including customer net promoter score) with an accelerator (or reduction) based on individual performance.

·         Performance metrics and a longer-term view: as well as a combination of financial and non-financial metrics in incentive plans, there is now an expectation that companies in both the financial and non-financial sectors should take a much longer term view to incorporate any tail risk. A three year time period for LTI (long- term incentives) is now viewed as not long-term enough and the concept of career shares vesting at the Executives retirement date are becoming popular amongst the financial institutions. Alternative solutions are to have a three year LTI performance period but then with a further 2 year deferral period before shares can be vested, or a deferral period on the STI payout as the financial sector already requires for those employees who are required to take risk in their roles.

·         Simplicity (and therefore transparency): ideally this would be one STI and one LTI program with companies being creative with their target setting and performance metrics to ensure they are driving the right behaviours. This idea of one LTI program is rapidly becoming the norm in the UK with the rapid removal of stock option plans in favour of performance shares. Share matching schemes are also less popular amongst shareholder groups not just due to the lack of transparency but “why should the Executives receive a discount on shares when the shareholders do not?”

·         Quantam: above inflation pay increases and above target bonus awards for Executives are no longer acceptable to shareholders who will only support exceptional rewards where corporate performance is strong. For 2013 there is an expectation that Executive base pay increases will average at 2.5% but there will be many instances of freezing Executive pay in under-performing businesses. The NAPF in particular are threatening to vote against companies awarding above inflation pay rises.

·         Clawbacks: although common practice for a while now in the banking world, other sectors are now incorporating clawback clauses in their STI plans to ensure Executives are made accountable for failure.

·         Rem Co Accountability: In the future shareholders will be looking to the Rem Co to justify their decisions, especially when they exercise any areas of discretion in pay practices. They will be required to disclose how performance metrics have been set in both STI and LTI programs and declare under what conditions maximum awards will be paid.

Shareholders are demonstrating “no tolerance” to high Executive payments which are out of line with the performance of the Company and they will continue to make their views known to those who are not demonstrating good pay for performance practices.