Gail Moss reports on best practice to ensure pensioners receive the right benefit at the right time
Benefits administration is much less glamorous than other aspects of pension fund operations, for instance, investment management. But as the final destination in providing a service to scheme members, it is crucial.
While the tradition has been for benefits to be run by a small in-house team, more and more pension funds are weighing up the in-house versus external provider equation, as they are with investment management.
And in the UK, in the past two years there has been an increasing trend for pension funds to consider outsourcing, says Clive Wickenden, client services director at Capita Hartshead.
“The huge majority are driven by employers rather than trustees, because the big DB schemes are being closed, and active employee members declining,” says Wickenden. “So these companies are looking after the benefits of people who no longer work for them and therefore want to pass the administrative burden to a third party.”
He adds: “Most new schemes have a DC structure, which is a different ball game in terms of administration. So pension funds may prefer to hand over this function to organisations with the requisite experience, rather than waste time reinventing the wheel.”
By outsourcing to a provider whose core business is administration, the sponsor company can focus on its own core business. The pension scheme gets access to the latest technology and, importantly, information on legislative changes.
Pensions laws are changing all over Europe, introducing more complexity which then has to be fed into a pension scheme’s software system. A specialist administrator might be able to make these changes more efficiently than an in-house team. Furthermore, it may have better resources for staff training and updating.
Internal controls and other procedures for external providers tend to be better-documented than for in-house systems, with a better adherence to international ISO accreditations for management system standards, and national requirements, such as external audit for AAF reporting in the UK.
In Switzerland, recent legal developments mean that internal control systems are now a requirement, and will also be checked by external auditors. This is an area where outsourcing partners may demonstrate some practical experience.
There can also be economies of scale in terms of costs, both for day-to-day administration and for compliance with regulatory requirements.
“For some larger schemes, an in-house team might be cheaper but quite often you don’t see all the costs,” says Benno Halter, PFS Pension Fund Services in Zurich. “Sometimes the HR or investment departments can do part of the work but it will not be charged to the pension fund, and you don’t know how much it is.”
Halter says that setting up a formal contract can help bring costs down. “Pension funds are in a position to negotiate the pricing of the next contract,” he says. “If they are not happy, they can put pressure on the provider or send out a request for proposal.”
From a staff perspective, outsourcing can help with succession problems - for example, if key members of an in-house team leave or fall ill, and problems arise for those people taking over their functions because not enough of their knowledge has been documented.
At the opposite end of the spectrum, schemes with shrinking memberships might find they have a surplus of staff.
“Moving the admin outside can also act as a fresh pair of eyes,” says Wickenden. “If something has been done the same way for years, there is probably a better way of doing it.”
The level of reporting to trustees by an external provider may be more independent than by an in-house supplier.
ABP, the Dutch multi-employer pension fund, has contracted out its benefits administration to APG, which is the fund’s subsidiary. “We have found that you get a more professional relationship if you contract out,” says Xander den Uyl, vice-chairman, ABP. “We are not in a position to contract out to anyone else, but we have a much more clearly defined relationship with APG. The service level agreement specifies what their role is, and includes key performance indicators.”
Keeping it in house
But there are also arguments for keeping benefits administration in house. First, it may be that only an in-house team can understand the culture and history of the organisation (although if administration is outsourced, the in-house team might be taken on by the outsourcing company).
There might also be a belief that employers and trustees retain greater control over the administration, in terms of quality and service, since the team is dedicated to the one scheme.
“The priority will always be our client, so they are never kept waiting in favour of another scheme,” says Mary Burke, pension administration manager, the Construction Workers’ Pension Scheme (CWPS) in Ireland. “So if there’s a request for an immediate cheque or, on the death of a member, a pension reconciliation and spouse’s pension set-up is required, we always pull out all the stops.”
Issuing cheques is particularly important for the CWPS, because only one in four of its 8,000 pensioners receives payment by bank transfer. The rest prefer paper cheques which they can cash in shops in their local village or town. Reliance on the postal system means that expediting these cheques quickly is supremely important.
“Furthermore, our staff get to know the scheme members,” says Burke. “You know exactly what their entitlements are, as there is basically only one set of rules. But if admin were outsourced to a large company, each team could be looking after up to 50 SME schemes, with different benefit structures.”
And while outsourcing can lead to greater control over costs for smaller schemes, those over a certain size may feel they can achieve lower costs than by outsourcing.
Perhaps the key point is not so much the in-house versus outsourcing decision, but that in-house arrangements should be conducted as far as possible on an arm’s-length basis. This means that pension funds can benefit from both the cultural advantages of the in-house team and the cost and efficiency advantages associated with an external provider.
The end goal of benefits administration is to ensure that the right benefit is paid to the correct person in a timely manner. Whether this process is carried out in-house or externally, the basic procedures for effective administration are the same. “First, all data held on a member’s record should be accurate and up-to-date,” says Lesley Carline, head of sales and marketing at RPMI, which provides benefits administration services to the Railways Pension Scheme, and other UK pension schemes.
The annual renewal often provides an opportunity to ensure this, but Carline says the scheme should ask the following questions:
• Does it have the appropriate checks to ensure changes in salary are correct?
• Does the salary renewal file supplied by the employer have the appropriate sign-off and authorisation?
• Do the control totals match what the employer sends through for future transactions?
Next, says Carline, there should be an appropriate authorisation process, including segregation of duties to ensure the management of risk.
Data discrepancies caught by validation procedures must be investigated straight away, with the necessary changes made as soon as possible.
In a more general sense, ‘timely’ payments means just that - for instance, lump-sum payments should be available on the day the scheme member retires. This means starting the process early enough so that all the documentation is processed in plenty of time.
Regular checks should be made to ensure that active members (or their employers) are paying contributions; if not, members should be notified. There should also be regular checks ensuring that pensioners and their dependants are still alive, and that money is being paid into the correct bank account.
Many schemes send out an annual letter which the pensioner signs and returns, but there could still be overpayments if the scheme is not notified promptly of a death during the year.
To prevent this, an increasing number of administrators are now moving towards a system of electronic verification, tapping into official death announcements on, say, a weekly basis and allowing them to immediately suspend payments where necessary.
For all schemes, but particularly DC, reconciliations are vital. Processes should be laid down to ensure that all transactions are reconciled at each level - members’ database, scheme accounts and fund holdings - against each other and against the investment managers’ records.
Over and above these specific checks, administrators should ensure that the processes agreed with the pension fund are working in practice. Where manual overrides are introduced because of non-standard benefit calculations, they need extra control levels in place.
“Administrators also need to regularly review and update processes to reflect any changes to the scheme legislation or even, for example, feeder systems such as the client’s payroll systems, which could possibly disrupt the effectiveness of the processes,” says Carline. “It is not good enough just to adhere to processes and get your tick in the box for AAF reporting and your ISO 9001 accreditation. You must ensure they remain fit for purpose.”
Doors to manual
Most benefits administration is now automated, but manual checks are still needed to spot any problems with the system - for example, schemes could manually check each (say) hundredth transaction.
As with any business process, there should be an adequate back-up system in case of breakdowns, especially since the scheme’s pensioner clients represent a group which would be particularly vulnerable if their payments are delayed.
A disaster recovery plan for administration should be in place which is understood by all staff members and is tested regularly. This could, for instance, take the form of dual servers in at least two different locations so that if one system goes down, a back-up is triggered at another location.
“This will probably require the physical presence of staff, so the back-up location should be somewhere they can get to without trouble - at least 50 or so kilometres away, say - where they can open the disaster recovery box and get on with the day-to-day business,” says Wickenden.
Benefits administrators should also take care to demonstrate professionalism in the grey areas occasionally involved in the benefits process.
“Sometimes the regulations are not entirely clear - for example, when deciding whether someone has the right to receive a disability benefit,” says Halter. “If in doubt, you should explain to the trustee board what you’ve decided, so there is back-up in case of any dispute with the beneficiary. It is also imperative to make the judgment without any emotional bias, and there should be a clear audit trail of how you did so.”
One of the biggest headaches for pension schemes is employers omitting to pay contributions on behalf of members. So contributions should be checked regularly and members notified if payments have been missed. This means that pressure can then be put on employers to pay up.
For instance, the Irish Pensions Regulator will write to an offending employer if notified by the pension scheme administrators that contributions have not been remitted. The employer then has to pay the missing contribution. If not, it can be taken to court by the IPR for non-compliance with the 1990 Pensions Act.
Within the DC world, major problems generally concern the supply and reconciliation of data. “Schemes often send inaccurate data to administrators, causing delays in getting the members’ monies into the marketplace,” says Carline. “This can be rectified by training payroll and HR teams, and also by introducing better tools such as online contribution processing, which ensures the payroll team has the correct data before it hits the administration platform.”
For DB schemes, inputting the correct data and following the correct procedures are also important.
Where schemes have historic benefit structures with some members having different accrual rates, there has to be a means of ensuring they are identified, says Carline.
“In the past, many would have a flag and it would require the administrator to run a partial calculation, then manually intervene,” she says. “But this often leads to mistakes, as human intervention is involved. The solution is either to automate all calculations for all members, or ensure the processes are robust enough to cope.”
A further problem is DC schemes not reconciling after any activity affecting the member, from the receipt of contributions, through to the allocation of units purchased. “Even today, we hear horror stories of monies which should have been invested being left in bank accounts instead, because the proper reconciliation processes haven’t been followed,” says Carline.
“There are two main areas to check - agreeing all members’ individual transactions with the global transactions of the fund, and agreeing the investment accounts with the financial accounts,” says Halter. “If you don’t do reconciliations frequently - we do them quarterly - you’ll have a hard time reconciling them at the year-end because of all the movement on accounts. And the auditor will check whether they’ve been carried out.”