Pooling – how it works
Gail Moss outlines the essential elements of multinational pension and asset pooling, and how smaller pension funds can get in on the act
Pension pooling is simply a way of combining pension schemes in different countries so that they can be managed in an efficient way, in a single entity, enhancing governance and financial performance.
Until now, it has primarily been the preserve of large multinationals such as Shell, Unilever and Nestlé, which have all set up their own pension and asset pooling vehicles for the pension schemes of their global subsidiaries.
However, smaller corporates can take advantage of the new European pooling solutions as well. There are also many reasons why pension pooling is now growing in popularity.
"Pension schemes of multinational companies always used to be governed locally by the human resources management department in each country," says Jacqueline Lommen, senior international benefits consultant, Hewitt. "But the introduction of the IFRS and compliance regulation has turned pensions into a boardroom issue, which is very much the domain of the chief financial officer and the risk officer. The financial crisis has underpinned this trend."
She continues: "Increasing IFRS liabilities and the sudden cash calls related to pensions have increased the need for an international approach towards occupational pension arrangements, with control by the corporate centre. So companies want to manage their schemes cohesively across borders."
Pension pooling - in which entire pension funds are merged together - is not the same as asset pooling. Pension pooling merges both assets and liabilities, through an IORP, whereas asset pooling only consolidates the assets, leaving the local pension funds in place.
Nevertheless, asset pooling can bring benefits such as improved governance, economies of scale and tax efficiency.
An asset pooling arrangement is formed in a specific domicile using the appropriate framework of that domicile - for instance, the FGR vehicle in the Netherlands, CCF in Ireland or FCP in Luxembourg. These frameworks are different from those used for pension pooling via IORPs.
The Netherlands, Belgium and Luxembourg are most commonly used as domiciles for asset pooling, although other countries are likely to follow. Belgium, for example, launched its own framework two years ago.
Crucial to their importance is the tax efficiency of each asset pooling vehicle, which makes it relatively easy for pension funds using them to reclaim tax on foreign dividends.
EU figures show that around €5.47bn per year is lost in unclaimed withholding tax. This is partly because of the sheer complexity involved in the claims procedure, with those sponsoring companies who do reclaim their tax reckoned to be spending €1.09bn each year on the exercise.
Furthermore, Aegon has estimated that over an eight-year period, the return on investment from a global equity portfolio where all dividends can be reinvested outperforms a portfolio where withholding tax is paid by about 6%.
Tax efficiency is therefore not only a reason to use asset pooling, but is arguably the most important factor in determining the domicile of the asset pooling vehicle. It is important to realise that just because there are double taxation agreements between two countries does not necessarily mean that dividends remitted from one country to an asset pooling platform in the other country will be paid with no tax deducted.
"Luxembourg, Ireland and the Netherlands are in a position to provide tax-efficiency because as well as a flexible vehicle, they have a large international tax treaty framework in place," says Lommen. "To base an asset pooling vehicle elsewhere, you would have to go through part of the procedures on an ad hoc basis, because the tax treaties do not exist. You should also make sure that the domicile you choose has a government which is supportive - some countries are more open to talking to market players on regulatory issues than are others."
And she says that asset pooling can have a role even where it is the pension schemes, rather than just the assets, which are pooled, using an IORP.
"For an IORP to have the last 5% of tax efficiency, you might need an asset pooling vehicle beneath," she says. "Asset pooling providers are key to the investment administration processes as well."
But asset and pension pooling is not the preserve of the big multinationals. Smaller pension funds can participate alongside schemes belonging to other companies in an off-the-shelf open-ended pooling vehicle owned and run by providers - generally, asset managers, custodians and insurance companies.
Pure asset pooling, as well as fully-fledged IORP pension pooling solutions, are available through this route. Aaron Overy, head of asset pooling development, Northern Trust, which recently set up its own asset pooling platform, explains: "Smaller schemes get the biggest bang for their buck. Maybe they find it hard to access a particular asset class or manager because of their small size, so being part of a larger entity overcomes this problem."
He adds: "They can also save money because the platform is large enough to negotiate on fees. Generally, it can act as a centre of excellence, with a sophistication that smaller pension funds could not normally afford."
Whatever the overall size of the pension scheme, however, a cohesive investment policy for subsidiary pension schemes all over Europe can also prevent internal contradictions in investment policy.
"It means that the French pension scheme isn't going to be selling Coca-Cola shares when the German scheme is buying them," says Overy.
However, companies participating in this kind of multi-employer open-ended platform may relinquish some individual control - for instance, their choice of investment manager may be restricted.
But they still retain control over their risk budget and their asset allocation. The asset pooling vehicle, or platform, sets up the sub-funds, but the local pension plans choose which one to invest in.
Some of the investment returns may have to go to the provider in fees, however, whereas corporates using their own closed-ended vehicles can retain all their income.
In return, the provider takes care of the proper governance and funding of the vehicle and deals with the operational challenges, the supervisory reporting and so on. This is attractive for smaller companies who do not possess the means and size to create and maintain an in-house pooling solution.
The ideal domicile for an asset pooling platform is a jurisdiction with the relevant legal and tax expertise, as well as set-up arrangements for an asset-pooling vehicle, crucially one which is tax efficient. However, other considerations also come into play. "Multinationals typically want the asset pooling vehicle to be based in a jurisdiction with which they are more familiar from an investment and regulatory perspective," says Benjie Fraser, practice lead for JP Morgan Worldwide Securities Services' pensions and endowments business.
There could also be cultural or linguistic reasons for choosing the domicile.
"It might make sense for French or German multinationals to go to Luxembourg, while a UK multinational could head for Ireland," says Fraser. "There is a pooling structure which can be set up in the UK, but it would need some refinements to make it as effective as, say, the Irish structure."
Alexander van Ittersum, product development manager, Aegon Global Pensions , says: "The aim is to create a structure that is robust and works. The key issue is the ‘look-through' aspect to make sure that pension funds can claim all the withholding tax they are entitled to."
Aegon has been marketing its asset pooling platform to France, the Netherlands and the UK for two years and is now planning to expand this to Germany, Switzerland, Ireland and Denmark.
For those multinationals that want a cohesive investment strategy but not an all-out asset pooling scheme, one option is to nominate an individual subsidiary to capture investment information on a master recording basis and consolidate it in a report.
"This enables trustees to set investment strategy across the whole range of funds," says Fraser. "Alternatively, they could consolidate all custody worldwide with a single custodian."