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Law Commission clarifies law on pension trust investment
Pension fund trustees do not have to
“maximise returns” in the short-term at the expense of risks over
the longer term, according to a rep
ort published today by the Law Commission.
The Government asked the Law Commission to write this report due to concerns
raised in the 2012 Kay Review that uncertainty about their legal duties leads
investors to focus on short-term movements in share price rather than making
long-term investment decisions based on the fundamental value of a company.
Pension trustees should invest to secure the best realistic return over the
long-term. But there is confusion over what they are permitted to take into
account when making investment decisions and whether they must always be driven
by the need to maximise short-term returns.
The Commission’s report examines the investment market through the lens
of the pensions industry. It evaluates the multiple sources of law that govern
pension trustees and the financial markets.
It asks whether trustees of trust-based pensions can make investment decisions
motivated by non-financial concerns, such as improving members’ quality
of life or showing disapproval of certain industries. It also asks whether they
can make investment decisions based on environmental, social and governance
(ESG) issues that can have implications for the performance of an
investment.
The Commission concludes that trustees should take into account factors which
are financially material to the performance of an investment. Where trustees
think ethical or ESG issues are financially material they should take them into
account.
The Commission also concludes that, whilst the pursuit of a financial return
should be the predominant concern of pension trustees, the law is sufficiently
flexible to allow other, subordinate, concerns to be taken into account. The
law permits trustees to make investment decisions that are based on
non-financial factors, provided that:
- they have good reason to think that scheme members share the concern, and
- there is no risk of significant financial detriment to the scheme.
The
report sets out guidance for pension trustees on their legal duties, and
recommends that in the long-term the Pension Regulator endorse the guidance
through one of its codes of practice.
The report also examines contract-based pensions, which do not have trustees,
and the extent to which providers are under a duty to act in the best interests
of members.
From April 2015, contract-based pension providers will be required to establish
an independent governance committee to assess their scheme’s value for
money and quality standards. The Government has already accepted the
Commission’s recommendations that these committees should have a duty to
act in the best interests of scheme members and be indemnified by pension
providers for any liabilities they may incur. The Commission’s report
sets out and refines these recommendations.
The independent governance committee’s duty to monitor transaction costs
will be reviewed in the Government’s planned 2017 review of the default
fund charge cap. The Kay Review proposed that investors should be incentivised
to make long-term investments. The Commission is recommending that the 2017
review should specifically consider whether the Government’s planned cap
on fund management charges encourages investment managers to choose short-term
trading over long-term investments, and if so, what can be done to address
this. The Commission is also recommending a statutory duty on independent
governance committees to act with reasonable care and skill in members’
interests.
David Hertzell, Law Commissioner for commercial and common law, said:
“There is mounting evidence that companies which treat their customers
and suppliers well do better in the long-term. The law does not prevent
trustees from taking a long-term view when setting investment strategies. They
are free to take account of environmental, social and governance issues or
ethical factors where they are financially material, or where the tests we have
set out are satisfied.
“There are clear issues with governance in both trust-based and
contract-based pensions. We very much welcome the decision to embed independent
governance committees within contract-based pension providers. And we welcome
the Government’s acceptance of our recommendation that these committees
have a duty to act in the interests of scheme members. Theirs will be a
challenging and complex role. We are convinced that, by accepting our
recommendation to indemnify committee members, the Government has paved the way
for the best and most skilled to join these important boards.”
The report, Fiduciary Duties of Investment Intermediaries, is available atwww.lawcom.gov.uk.
Notes for editors
1. The Law Commission is a non-political independent body, set up by
Parliament in 1965 to keep all the law of England and Wales under review, and
to recommend reform where it is needed.
2. The Kay Review of UK Equity Markets and Long-Term Decision Making:
Final Report is available at:https://www.gov.uk/government/publications/the-kay-review-of-uk-equity-ma
rkets-and-long-term-decision-making-final-report
3. For more details on this project, visit www.lawcom.gov.uk
4. For all press queries please contact:
Phil Hodgson, Head of External Relations: 020 3334 3305
Jackie Samuel: 020 3334 3648
Email: communications@lawcommission.gsi.gov.uk