The Pensions Regulator has published a consultation on its proposals to revise the defined benefit funding code.
The first stage of this consultation is seeking views on both the new ‘twin track’ approach to regulation, and the principles that will underpin this new framework. It also wants comments form the industry on how these principles could be applied in practice to provide clearer guidelines.
Later in the year it will launch the second stage of the consultation, which will focus on the draft code itself. The new code is expected to come into practice at the end of 2021.
This twin track approach will offer schemes fast-track or bespoke regulation options. To qualify for the former trustees will have to demonstrate their scheme meets certain standards set out by TPR.
Regardless of which approach is taken, TPR said it had identified a number of overarching principles that should stand behind all scheme valuations. These include: compliance and evidence; long-term objective; journey plans and technical provisions; scheme investments; reliance on the employer covenant; reliance on additional support; appropriate recovery plans; and the need for member benefits in open schemes to have the same security as those in closed schemes.
In launching this consultation TPR said: “The government has previously noted that the DB funding framework is working largely as intended.”
“However it also acknowledge that there was room for improvement in some key areas, for example the need for greater transparency and accountability around the risks being take on behalf of members and employers, and for trustees to focus on the long-term strategic issues for their scheme as the landscape matures.”
TPR said government’s white paper on this issue highlighted some grey areas in the existing framework relating to how DB trustees should set their schemes technical provisions prudently and put in place an appropriate recovery plan. TPR said: “This lack of clarity has enabled a minority of schemes and employers to misuse the flexibility in the system and made it more difficult for use to regulate DB schemes efficiently.”
This consultation was welcomed by many in the industry, although there were warnings that it could push up the cost of DB provision for some firms, further hastening the close of the few schemes that remain open.
Cardano UK chief executive Kerrin Rosenberg says: “There is much to like in the new consultation with its strong focus on risk; understanding it, quantifying it, justifying why the risks are worth taking, and what mitigating steps have been introduced.
“Although ‘fast track’ could provide a pragmatic regulatory approach for small DB schemes, it’s not clear how many will meet TPR’s criteria.”
He adds: “There could be a risk of unintended consequences from adopting a rule-based approach, so we expect to see more messaging from TPR that ‘fast track’ is simply a regulatory approach and not necessarily the best outcome for schemes.”
Hymans Robertson head of DB Susan McIlvogue says: “The approach outlined in the consultation will continue to improve member security in DB schemes, and for many well run schemes it will mean no significant change to their funding or investment strategies.”
However she added: “There are some significant implications from the proposals that will have an impact on the DB universe. Remaining open schemes will be hit particularly hard, with the same requirements applying to open schemes as closed schemes.
“This could force further DB closures by the back door, by pushing up future service contribution rates.”
McIlvogue adds: “This could also force more stressed employers into insolvency at the expense of trying to secure DB benefits, further tarnishing the reputation of DB in the corporate world, and potentially undermining promising initiatives like CDC.
“Put simply, it could push up costs so high that DB pensions become a thing of the past.”
She points out that businesses are being asked to prioritise pension contributions above dividends and TPR is willing to put businesses into insolvency if they don’t have a viable plan to fund their scheme.
Lincoln Pensions managing director Alex Hutton-Mills adds: “Although sponsors and their investors may initially be alarmed by TPR’s proposals, they shouldn’t be overly surprised given the regulatory mood music in the last few years.
“Sustainability remains a guiding principle in the consultation. Accordingly, sponsors and investors should focus their attention on how they engage with trustees to evidence the covenant strength and affordability; scrutinise investment proposals to ensure an appropriate allocation of risk; and explore what non-cash options may be available for schemes to support a more efficient allocation of capital.”
Vassos Vassou, a professional trustee at Dalriada Trustees adds: “Trustees’ knowledge and understanding levels will need to ratchet up again so that they can comply with the new requirements.
“Either that, or trustees may need to rely on advisors more to help them through the process. The extra understanding required feels like a push to improve risk management governance and another step towards the professionalisation of trusteeship.”