The Department for Work and Pensions today published revised regulations regarding defined benefit funding in response to the consultation that was started in July 2022.
The main changes are that scheme funding requirements have been made clearer, sustainable growth investments have been guaranteed alongside the affordability concept, and open schemes can now take into account future accruals and new members when calculating maturity.
The government says reducing administrative constraints through streamlined reporting criteria is in line with its overarching plan for Superfund initiatives and DB schemes.
The updated rules will go into effect on April 6 and valuations will begin on September 22, 2024.
But the revised regulations have been met with scepticism as experts express doubts about its support for productive finance goals and question its clarity on investment flexibility and asset resilience.
Sackers partner Janet Brown says: “The new DB funding regime is inching its way towards the DB dance floor, but the DWP Funding regulations are still missing their partner, with the DB Code (and the TPR Fast-Track guidance) still to show up.
“The main news is that the start date will be September 2024, so April valuations “as you are”, but come September 2024 the regulations and DB Code will be waltzing away together, dictating the direction of DB valuations going forward as the new regime hits in full.
“Of course, this all assumes that there is no unexpected intermission caused by a General Election once the code is laid before Parliament, with the PM’s current working assumption being that this will take place in the second half of the year.
“In the intervening 18-month period between the original consultation on the draft regulations and the finalised version, the Mansion House proposals and 2023 Autumn Statement focused on how DB schemes could use their assets more flexibly. Seemingly at odds with the then draft DWP Funding regulations and DB code, which were steering schemes to take on less risk as they mature, the final regulations have had to pirouette somewhat to accommodate wider Government aims, as well as the “richness of the responses”.
“Key areas identified for change, which will no doubt be welcomed by the industry, include: making clearer the flexibilities that were intended to be set out within the regulations, and that “even mature schemes can invest in a wide range of assets; reassuring schemes that investment in a sponsoring employer’s sustainable growth can be considered “alongside the affordability principle”, and making it clear that “open schemes can take account of new entrants and future accrual” when determining the point at which the scheme will reach significant maturity – which should be helpful.”
WTW head of pension scheme funding Graham McLean says: “The Government says it has revised the regulations to better support the productive finance agenda. While some of the tweaks may help this, the suggestion that schemes will have freedom over investment is more implicit than it needed to be, and it is hard to see anything in the final regulations which fulfils the promise to ‘make it explicit that there is headroom for more productive investment’.
“In particular, the regulations still indicate that, once a scheme is significantly mature, its funding basis must assume an investment allocation which makes the value of assets relative to liabilities not only resilient to market movements but ‘highly resilient’ to them.
“It is arguably now clearer that this need not apply to surplus assets, and the Government is underlining that actual investments could be different from those assumed. But trustees might still question whether the ‘highly resilient’ test allows them to assume for funding purposes that 20-30% of their portfolio is in growth assets, as the Regulator has said might be possible.
“When the Government consulted on the draft regulations, it asked for views on whether to permit significantly mature schemes to take more risk supported by the employer pledging contingent assets. Since no changes to the regulations are made in this regard, for funding purposes it will not be possible to take these into account. This will act as a further brake on schemes investing in pursuit of surpluses that can be used to benefit both members and the sponsoring employer.
“Where schemes are less mature, risk appetite may be reduced by the requirement for trustees to focus on what they can be ‘reasonably certain’ of when assessing the employer covenant. Judging the overall effect of these changes will require careful thought and interpretation, but the opportunity to write something clearer and more explicit has been missed.”
“Until 2014, the Regulator’s Code of Practice said trustees should aim for any shortfall between the value of a scheme’s assets and its technical provisions should be cleared as quickly as the employer could reasonably afford. This was deleted when Parliament told the Regulator to ‘minimise any adverse impact on the sustainable growth of an employer’.
“It is now being brought back, with the wording strengthened. The requirement has also been hard-coded into regulations and is described by DWP as having ‘primacy’ over other factors, presumably to avoid any challenge to whether a Regulator enforcing this approach was following its objectives. This could have been a bigger deal if funding levels were not as healthy as they are but should still strengthen some trustees’ negotiating hands, even though they will have to take account of the impact on the sustainable growth of the sponsor.”
“Where a scheme is already significantly mature when they undertake their first valuation under the new regulations, the Regulator might expect technical provisions to match the low dependency target immediately – sometimes requiring deficit recovery plans that would not be required under the current regime. How many schemes this affects depends on how the Regulator defines ‘significantly mature’ when it publishes its revised Code of Practice in the Spring.”
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