The Government announced today that it will give the Pensions Regulator ‘a new objective to support [defined benefit] scheme funding arrangements that are compatible with sustainable growth for the sponsoring employer and fully consistent with the 2004 funding legislation’.
The precise wording of the objective has not yet been published. The new objective will supplement the regulator’s existing objectives to ‘protect the benefits under occupational pension schemes’ and ‘reduce the risk of situations arising which may lead to compensation being payable from the Pension Protection Fund’.
Having asked in the autumn statement whether assets and liabilities should be smoothed when trustees and employers negotiate funding arrangements, the Government now says it will not take this idea forward. (Budget Red Book, paras 1.155-6).
Adam Boyes, a senior consultant at Towers Watson, said: “It appears that the Pensions Regulator’s new marching orders could be broader in scope than the objective that the Government consulted on earlier this year. This would have required the regulator only to consider the long-term affordability of deficit recovery plans to sponsoring employers; the regulator would argue it does that anyway so this looked like the sort of objective it would have drafted for itself. Today, the regulator commented coolly that it regulates according to the regime set by the Government, so it may not be overjoyed with where the Government has ended up.
“We will have to see what impact this has on how funding agreements between employers and trustees are policed. For example, the regulator has said it will amend its Code of Practice but not whether it will revise or elaborate on the idea that deficits should be paid off as quickly as the employer can reasonably afford. Although the Government may welcome the extra corporation tax it would collect if companies made smaller deficit payments, the Budget has not given companies a green light to reduce contributions at the risk of making benefits less secure. For some companies, the further reduction in corporation tax from 2015 announced today may even be a reason to bring payments to their pension scheme forward.
“It’s not only how much cash is paid into schemes that matters but also the calculation of the headline funding deficit. The regulator has sometimes sounded as though it wants to shoe-horn schemes into using a fixed margin above gilt yields when they discount future pension payments into a single liability number. The legislation has always permitted different approaches which can make pension deficits less sensitive to swings in gilt yields. After the Budget talked about a regime that is ‘fully consistent with the 2004 legislation’, the regulator appeared to confirm that its next statement to employers will draw attention to these flexibilities. Implementation of the new objective will be reviewed after six months, so the Government has signalled that it could return to this issue if it thinks it needs to.”
Smoothing
Towers Watson welcomes the decision not go ahead with another idea floated in the autumn statement – allowing (or requiring) schemes to smooth asset and liability values.
Adam Boyes said: “The proposals for smoothing had a lot of rough edges and could actually have made deficits look bigger in future by keeping today’s low interest rates in funding calculations for longer than may otherwise have been necessary - prolonging the pain for employers sponsoring defined benefit pension schemes. Expectations about the future are a better guide to valuing pension liabilities than what happened during an arbitrarily selected past period.”
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