The Regulator has published its 2020 annual funding statement which outlines what the Regulator expects from trustees and employers with a focus on long-term funding targets.
The statement is aimed at all trustees and sponsoring employers of occupational defined benefit (DB) pension schemes but is particularly relevant to schemes with valuation dates between 22 September 2019 and 21 September 2020 or schemes undergoing significant changes that require review of their funding and risk strategies.
The statement sets out specific guidance on how to approach the valuation under current conditions but also provides an update on some topical and recent issues, such as COVID-19, and regulatory developments.
DB funding code consultation
The Regulator has published its first consultation which sets out a clear new framework for DB funding. It focuses on a long-term approach to the scheme’s funding and investment strategies to ensure savers get the benefits they expect.
A twin-track compliance approach to valuations has been proposed, either ‘Fast-track’ or ‘Bespoke’, with both allowing schemes to meet their legal obligations. The added flexibility of the bespoke approach will provide more flexibility to account for scheme and employer-specific circumstances but naturally brings with it the potential for increased regulatory scrutiny.
This first consultation is now planned to run until 2 September 2020. This will be followed by a second consultation due to be published next year which will focus on the business impact assessment. The new funding code is not expected to come into force until late 2021 at the earliest.
Therefore, all current valuations will be regulated in accordance with the existing regulations and guidance.
COVID-19
The Regulator recognises that most schemes will have been impacted by COVID-19 and it has recently published guidance which covers areas such as DB funding and investments. Trustees are being encouraged to take the time to read this.
The guidance is designed to support trustees who are faced with difficult decisions but should not override their obligations and duties under the scheme rules or legislation.
If the effective valuation dates are on or around 31 March 2020, some trustees may consider bringing forward the effective date to a date when conditions were considered more normal.
If they are considering this, trustees should think carefully as to why this option is in the best interest of their members and the impact it may have on member security.
Given the impact COVID-19 will have had on many employers, trustees should carry out additional due diligence in accordance with the available guidance. It is difficult to predict how long the current situation will continue for, or what total impact this will have on pension schemes, and therefore it will be important to monitor the situation and look out for further regulatory guidance in the coming months.
What the Regulator expects of Trustees
The Regulator expects the promised benefits to members to be the key objective for all schemes.
This requires trustees to think long-term by agreeing a strategy with the employer which recognises the balance between investment risk, contributions and covenant support.
Assessing the covenant is understanding the extent to which the employer can support the scheme. For many schemes, COVID-19 will have resulted in considerable uncertainty over the strength of their employer’s covenant and this may be heightened by the UK’s departure from the EU. Trustees are therefore being encouraged to consider obtaining independent specialist advice to support the covenant assessment.
Trustees are expected to continue to focus on the integrated management of three broad areas of risk; the strength of the covenant support; the investment risks; and the scheme’s funding plans.
The Regulator has currently suspended all their regulatory initiatives detailed in last year’s statement and it will continue to play its role in supporting trustees in responding to the impact of COVID-19.
Our comment
The funding statement is essential reading for those involved in running a pension scheme as it sets out how the Regulator expects trustees and employers to deliver on what should be their key aim - paying the promised benefits to the membership. This requires a clear plan, with objectives set out for how this will be achieved. Naturally, emphasis is therefore placed on the approach to carrying out valuations and assessing the strength of the employer covenant. There is a recognition that COVID-19 will have had a significant impact on schemes, and the guidance and easements discussed within it should help trustees in this current environment.
The statement contains important guidance, as well as some cautionary warnings, for trustees to consider when assessing the scheme’s funding position, including the need for obtaining independent specialist advice where employers may have been significantly affected. The extra flexibility for schemes preparing and finalising valuation will no doubt be very much welcomed at this point in time, but the Regulator is also sending out a veiled warning to trustees to not take their eye off the ball.