Pension scheme funding – start planning
We are delighted to announce that Peter Weiner has now joined CBC Pension Services as a professional trustee and scheme secretary.
Peter joins us with wide professional experience across the pensions industry including acting as a pensions manager, scheme secretary and trustee with major pension funds as well as small to medium sized DB and DC schemes.
Combined with his involvement with industry wide bodies such as the Pensions Management Institute and Association of Member Nominated Trustees, he adds immediate value to any board of trustees.
His depth of experience, knowledge and management capabilities will complement our growing team in supporting our clients.
Pension scheme funding – If you don’t know where you are going any road will get you there…
In the world post 21st Century Trusteeship there are 10 areas that the Pensions Regulator (TPR) identified as signposts for where Pension schemes should be going.
One key issue for many pension schemes is around the funding of Defined benefits schemes. TPR is particularly hot on ensuring that schemes run their funds and investments effectively and demonstrate good governance in this area.
The TPR’s 2019 Annual Funding Statement makes it very clear that they expect Trustees to have clear plans as to how the promise made to members to pay their pensions will be met.
The Pension Protection Fund has recently issued a document setting out the reasons why trustees need to have contingency planning for an employer insolvency.
A good starting point for this is having a robust business plan. This needs to reflect the sponsors’ plans for the scheme.
– Is it going to be a buy out or self-sufficiency or some other target?
– And what is the timescale of this goal?
Your business plan provides the map for your journey.
In order that the Trustees can build or adapt their plan with the integrated approach expected by the Pensions Regulator they need to fully understand three essential areas and how this affects their thinking.
1. The Covenant
The covenant is the employer’s legal obligation and financial ability to meet the cost of providing the pension promise of their defined benefit (DB) scheme to its members, now and in the future, along with the willingness of the sponsor to actually do so.
When it comes to the funding of the scheme, the most important concern of Trustees is knowing and understanding the Sponsors’ cash flow and balance sheet. This may require them to take professional covenant advice, which even now some sponsors are not happy about.
There may be some resistance from the employer on the grounds of confidentiality but these can be overcome with a Non-Disclosure Agreement. The costs of an employer covenant review may be another sticking point. Scoping out the review and the Trustees demonstrating that they are managing this should enable sponsors to become more comfortable with the process.
By having a full understanding of the finances, the Trustees will be in a far better position to know for example, if the sponsor could increase pension contributions if the investments performed poorly or, if the sponsor could pay more into the scheme now rather than later.
Knowing how much the Sponsor can afford to pay to the Scheme is essential.
A balance is required and a sound understanding of the employer’s ability to support the scheme should inform your investment and funding decisions.
There may, for example be times when investment in the business is a higher priority than paying money to reduce the deficit. A healthy business is much more likely to be in a position to pay off the deficit at some point in the future rather than being forced to do so sooner.
Understanding the Sponsors’ Capital Allocation Policy also means there is much less room for mis-understanding.
By understanding the science behind the calculation of the Sponsor contributions it enables a better conversation with the Sponsor. This includes understanding the margins built into the calculations to allow for market swings and global events.
Having a clear understanding of the funding issues from both the business and pension side will affect the investment strategy for the pension and ensure that it meets the needs of both.
Understanding the required level of return from investments is a lot easier if the covenant and funding is understood.
Do you know, as a group, what the level of risk is you’re prepared to take? This is important to understand as it will directly affect your investment strategy. If the covenant is not strong then you should not be taking excessive investment risk because if there are losses, the sponsor may not be able to write a cheque to the Trustees for the losses.
If, as Trustees, you know the target you are aiming for then you can build a strategy which reflects the degree of risk you are prepared to live with.
As an absolute minimum you should formally review your sponsor covenant at each triennial valuation. Good practice however, is for Trustees to invite the sponsor to update the Trustees twice a year, in line with statutory reporting periods.
Decide how you are going to assess your covenant. Should you be using an external adviser to support you? If so, decide who is going to help you choose the right one for you.
Have strong monitoring systems in place to identify issues and have contingency plans so you can take appropriate action before your plan is blown off course. The B word currently springs to mind as a key risk, but there are many other factors at play here. It depends on what industry sector the sponsor is in and the state of the sponsor’s balance sheet.
A professional trustee who can demonstrate knowledge and experience and, as importantly, add value is a real plus for trustee boards to help them get where they need to get to without having to run to stand still.
“Well, in our country,” said Alice, still panting a little, “you’d generally get to somewhere else—if you ran very fast for a long time, as we’ve been doing.”
“A slow sort of country!” said the Queen, “Now, here, you see, it takes all the running you can do, to keep in the same place. If you want to get somewhere else, you must run at least twice as fast as that!”