Since the release of the FCA’s PS19/30 policy statement in December 2019, that outlined the extension to the remit of Independent Governance Committees (IGC) and Governance Advisory Arrangements (GAA), we have been monitoring how these changes have been digested by IGCs, GAAs and pension product providers.
What is becoming increasingly apparent, is that the independent oversight of investment pathways by IGCs and GAAs is proving to be much more than just a straightforward extension of their remit.
A quick recap on the implications of new duties for IGCs;
- The new legislation is more than just a straightforward extension of IGCs remit. Assessment of appropriateness for decumulation (non-advised drawdown) is significantly more challenging than for accumulation (workplace pensions).
- Many IGCs – and their respective product providers – are seeing the new responsibilities as the IGC in effect having to sign-off on the appropriateness of the pathway solutions and the associated consumer communications. Furthermore, should an investment pathway fail to meet customers’ expectations, then IGCs are concerned that they may be held accountable and have some legal liability.
- The changes appear to be manifesting as additional demands on product providers. IGCs seem to be requiring sight of evidence that robust modelling has been carried out to assess appropriateness, and also wanting to engage in the development of customer communications proactively. There seems to be a desire from IGCs and GAAs that product providers will look to external third-parties to provide validation on appropriateness.
The new FCA rules require IGCs and GAAs to assess the appropriateness of each of the four pathway solutions, and we must keep in mind that these are a binary judgement. Each pathway is either appropriate or by definition inappropriate. And, if an IGC deems a pathway solution to be inappropriate, then presumably this would need to be reported on and perhaps escalated to the product provider’s Board or even the FCA.
As we have previously established, there is a requirement on IGCs and GAAs to consider whether all customer communications are fit for purpose and adequately take into account customers’ characteristics, needs and objectives. In these circumstances, it is unsurprising that many IGCs and GAAs – and their respective product providers – are seeing this as equivalent to an approvals process.
There is a further dimension for IGCs and GAAs. What happens if an investment pathway fails to meet customers’ expectations? But surely this is likely to occur at some stage, with the recent tumultuous events in the stock markets serving only to heighten this risk. Given that the IGC/GAA will have assessed the investment pathway as appropriate, and effectively signed-off the customer communications, then the question of legal liability looms large.
We highlight below a couple of issues we have picked up from recent discussions:
- How to select an appropriate investment solution given the FCA-prescribed objectives talk about customers planning to do things “within the next 5 years”; and
- How to describe to the customer the level of riskiness under Pathway Option 3 (“taking my money as a long-term income”).
For (1) it is a significant challenge to find an appropriate investment solution on the basis that the particular action could be taken tomorrow or it could be taken in five years’ time. A solution to this product providers are finding is to make assumptions about the characteristics of the consumers likely to be using each pathway solution.
So for Pathway Options 2 & 3 (setting up an annuity and taking a long-term income) to assume that this is done after, say, three years; and for Pathway Option 4 (take out money) to assume that it is done, say, evenly over the five years.
In this way, it is considerably easier to identify an appropriate investment solution. Also, importantly, it is an assumption that can be played back to the customer in the communications in terms of describing the riskiness of the investment solution.
For (2) the consensus appears to be to communicate to the customer, under Pathway Option 3, a sustainable income. Given the customer has declared that they want to take a long-term income then the communication would appear to be incomplete without it. And furthermore, it seems clear that the risk, as perceived by the customer, is all about the likelihood that the income can continue unchanged over the long-term – and, as per the FCA’s COBS 19.10.21 R (1) (b) rule, there is a requirement to describe to the customer the level of riskiness.
From our ongoing discussions with product providers, it is clear they are already beginning to feel the pinch. While those providing the independent oversight appear to be demanding evidence that robust modelling has been carried out to assess appropriateness, and are also wanting to engage in the development of customer communications proactively.
The assessment of appropriateness and the consideration of communications are, of course, inextricably linked in terms of managing customers’ expectations. Easy enough to say. But it is already throwing up some significant challenges when it comes to non-advised drawdown.
So what next?
EValue has developed a process which analyses in detail each of the pathway solutions developed by a product provider. This process culminates in the production and publishing of an Appropriateness Report. This report uniquely summarises the results of the analysis and forms a judgement as to the appropriateness of the pathway solutions which the product provider proposes to offer.
The output from Appropriateness Reports should also be invaluable to providers as part of their product design processes, and provide their IGC or GAA with evidence that they have undertaken the required due diligence and compliance efforts.
To learn more about the EValue Appropriateness Report or to download a preview of this, please click below.