Pension funds and the governance puzzle
Pension funds with fund assets over 5 billion, must have their adjusted fund organization up and running September 1, 2019. Pension funds with fund assets of less than 5 billion, will have a year longer to do so, Sept. 1, 2020.
This article focuses on aggravating governance by introducing key functions for Internal Audit and Risk Management. (A key function for the actuarial function should also be introduced. But because the regulator DNB allows this function to be vested in the certifying actuary, this is mostly done and there is (almost) no discussion about this key function).
These two functions share many similarities with the 2nd and 3rd lines of the three lines of defense model, a widely accepted and applied model for controlled and effective management.
Introducing the key functions secures explicit attention in the governance model for Internal Audit and Risk Management, which is to be welcomed.
However, how to embed these functions in the pension fund organization has become a tricky puzzle, as the regulator DNB imposes tough and extensive suitability and setup requirements.
For example, DNB views a director as the ultimately responsible key function holder (SFH) in particular, and an external expert or an employee of a fund organization is allowed only under certain conditions. However, a SFH is subject to robust technical suitability requirements, qualifications that are not present in many directors. In addition, it is prescribed that the SFH must function independently and may not, for example, serve on an investment, communications or pension management committee. This is at odds with the committee structure at most pension funds, where a director usually already sits on one or more committees. There is also the fact that the separate status as a key functionary with final responsibility does not sit well with the idea of a collectively operating board.
Discussions are currently taking place between DNB and many mainly large pension funds about the proposed design, in order to arrive at a design that will pass the review. Discussions with a number of other pension funds are also ongoing and will increase. DNB has indicated that the size of the fund will be taken into account in the assessment ('proportionality principle').
As useful guidance, the pension funds' interest group, the Pension Federation, has released a "service document IORP II" with guidance on the design of key functions.
I myself have been involved in this subject at several pension funds and at the Kring Pensioenenspecialisten I participate in a working group to further explore and map the possibilities. It is now becoming increasingly clear what is and is not allowed and how key functions can be effectively embedded within existing structures. It is fascinating to think along with the pension funds as a consultant and the funds also find it useful.
I expect that many pension funds will still be working on the governance puzzle in the coming months. We at ARC People have indicated to the pension funds that we would like to help them (without obligation) think about how to achieve an effective and cost-efficient solution. A beautiful and exciting challenge.
Hans Sieraad
Associate at ARC People
