The Pensions Regulator (TPR) has issued its 2019 Annual Funding Statement for defined benefit pension schemes. It builds on the Government’s white paper ‘Protecting defined benefit pension schemes’ published in March 2018, and indicates the direction which TPR is likely to take when updating the DB funding code later this year. More focused strategic clarity may also explain why this is the earliest TPR has issued this annual statement (in previous years it has often been May before it has been issued).
While of particular interest to trustees and employers of defined benefit pension schemes completing a valuation with an effective date between 22 September 2018 and 21 September 2019, it should also be read by anyone involved in managing or funding defined benefit pension schemes.
Points of general relevance
The statement focuses on two key topics:
- Long term funding targets
- Balancing risks.
Long term funding targets (LTFTs)
TPR encourages schemes to have a long term funding target which recognises the journey the scheme is on and looks ahead as to how this can be achieved. It develops on the Government’s stated policy objective to introduce a requirement to have a specific long term destination (although whether this will be a priority with all the other legislative matters likely to be required over the next few months’ remains to be seen).
Schemes will need to understand their ultimate objective and design their shorter term goals to align with this. This will require schemes to have a strategic focus on their final destination (whether that is self-sufficiency, buy-out or something else).
TPR reinforces the integrated approach using the three key areas of employer’s ability to support the scheme (the covenant), investments, and scheme funding plans, which were developed in the 2018 annual funding statement.
TPR continues to classify schemes depending on the strength of covenant. This year, however, each of the 5 existing groups has been split into two sub-groups depending on whether the scheme is relatively immature or relatively mature. TPR is recognising that as most schemes are now closed to new members, the funding strategies for such schemes need to be adapted to reflect that they are in a different phase of their journey.
To determine which group best fits the circumstances of their scheme, trustees and employers will need to evaluate where their scheme falls. The guidance from TPR can then be used to help develop an appropriate LTFT.
Points for schemes in a valuation period
Schemes undertaking a valuation with an effective date between 22 September 2018 and 21 September 2019 should also note that TPR is focused on:
- Equitable treatment
- Long recovery plans
Building on its comments in the 2018 annual funding statement, TPR remains focused on ensuring that pension schemes are treated equitably with other stakeholders, particularly where shareholders are receiving dividends or other distributions which unfairly affect the pension scheme.
Recent high profile corporate failures are mentioned (albeit briefly), but are clearly affecting TPR's thinking in this area. TPR expresses concern about "covenant leakage" – in the form of dividends or otherwise - which comes at the expense of higher deficit repair contributions or where a shorter recovery plan would be more appropriate. Trustees and employers with proposed funding arrangements which could fall into this category should expect to see scrutiny from TPR during the funding process.
Long recovery plans
As well as covenant strength, TPR will assess the scheme’s maturity in determining whether an agreed recovery plan length is appropriate.
Schemes with existing lengthy recovery plans will be targeted specifically and are likely to find that it will be more difficult to justify continuing the existing arrangements this time.
Clyde & Co comment:
The 2019 annual funding statement builds on TPR’s previous annual funding statements. Schemes are expected to have a clear strategic focus and the recognition of the different position of immature and mature schemes is a welcome step forward. The expanded key risks information will also be useful for trustees and employers. It should be considered required reading, whether your scheme is currently in a valuation process or not.
The Pensions Regulator: Annual Funding Statement 2019 for defined benefit pension schemes is available here.