Defined contribution: Trust and contract-based schemes

There are currently 2.5 million people in trust-based defined contribution (DC) arrangements and 3 million in contract-based DC schemes. The main difference between the two is in the way they are managed, and how much control the company offering the scheme has over its structure.

Trust-based DC schemes tend to be favoured by larger companies that might have had an existing trustee board in place for a legacy defined benefit (DB) scheme. They are:

◆ operated in-house by a company for its own staff

◆ have a trustee board that plays a similar role to the trustee board of a DB scheme, in that it:

            ● is responsible for the administration of the scheme.

            ● manages member communication

            ● ensures the scheme is governed correctly

            ● selects the fund range members will be offered

            ● has certain liabilities towards members.

In addition, trust-based schemes currently accommodate short-service refunds, allowing employees with less than two years of pensionable service to take a refund of their own contributions, less a tax charge. The employer can also take a refund of their own contributions, subject to a tax charge. Or the employer’s share of the contributions can be kept within the scheme and recycled or used to pay the scheme’s expenses. However, Pensions Minister Steve Webb has said short service refunds will not be part of the future pensions landscape, and warned employers not to factor them in when selecting a scheme.

Contract-based DC schemes may be favoured by smaller companies without the knowhow or the time to manage an occupational pension scheme themselves as they;

◆ Are ‘outsourced’ by an employer to a third party provider, who will manage all aspects of the scheme.

◆ Do not have to have a trustee board (although increasingly employers are setting up governance boards to monitor contract-based schemes).

Who regulates DC schemes?

In both trust and contract-based schemes, The Pensions Regulator is responsible for ensuring that payments are made from an employer to the members’ pension funds.

The Financial Services Authority is responsible for managing the regulation of individual members’ pensions (and subsequently annuities) in a contract based scheme.