Proposed reforms to DB pensions risk growth and investment

The Department for Work and Pensions (DWP) recently consulted on regulations underpinning a new funding framework for Defined Benefit (DB) pensions.

What do employers think of the proposals?

The principles behind the revised funding regime are good. Previous business failures showed that there are still a minority of cases where the payment of final pensions is not being properly planned for. DWP is right to require DB pension schemes to think about the long-term and to have a funding and investment strategy in place.

As proposed however the regulations are not targeted towards just these outlier cases. Instead, they will act as a funding straitjacket across the DB pensions market that will drain funding from corporate sponsors and push schemes to divest of growth assets. Mercer estimate that £200bn of liabilities could be added to sponsor balance sheets because of the new regime over the next 10-15 years.

This money will have to come from somewhere, but at a time of such considerable economic pressure there are clearly other areas that should be taking precedence. CBI’s recent Employment Trends Survey found 75% of UK employers have faced labour shortages in the last 12 months, 46% of which have been unable to meet output demand as a result.

The CBI is particularly concerned that:

• Under the proposed regulations all DB schemes will be bound by a fixed target point at ‘maturity’ at which point they must have no dependence on their corporate sponsor and must have divested away from growth assets.
• A new requirement in law that trustees ensure pension deficits are closed ‘as soon as the sponsoring employer can reasonably afford’ will cause excessive caution in interpretation and will result in overfunding.
• Schemes may not have enough time in which to implement the drastic funding and investment changes required or even to completely understand the changes before the new regime’s effective date in September 2023.

What are the asks from the CBI?

In the CBI’s response, we called upon government to implement a more proportionate, targeted and flexible regime. DWP should ensure:

• The Pensions Regulator (TPR) is given the power to allow those schemes undergoing close regulatory scrutiny (those opting to be regulated through the so-called ‘bespoke route’) the flexibility to pick a path to maturity that suits their needs. This flexibility should also allow schemes to change their maturity target where circumstances demand.
• Those schemes with strong sponsor covenants can continue to take on supported investment risk beyond maturity. This will mean sponsors with safe, maturing schemes can continue to invest in growth assets and sponsor capital is freed for inward business investment.
• The new ‘affordability principle’ that requires trustees seek to close deficits ‘as soon as the sponsoring employer can reasonably afford’ is not introduced into law as proposed. This will mean affordability continues to be considered only alongside all other relevant factors, and excessive trustee caution and the overfunding that will result is avoided.
• A delay of one full valuation cycle for schemes approaching maturity is put in place if these changes aren’t made. This will help mitigate the dramatic funding and investment changes we expect.
• Even if the above changes are made, the effective date of the new regime from September 2023 should be delayed by 6-months for all schemes to ensure that the DB pensions sector has sufficient time to understand what the new regime entails and ensure their compliance with the law.
  
  

What can your business do to prepare for the new regime?

This isn’t the final say on DB funding. DWP can now take onboard CBI and industry feedback and implement changes. We will be engaging heavily with DWP in the coming months and are seeking ongoing member feedback.

TPR will also be hosting their own consultation on the new DB Funding Code imminently – this Code outlines the practical framework for enforcement of the funding regulations. Both schemes and sponsors could use this opportunity to seek a better system. We will be responding and outlining why a flexible, ‘scheme-specific’ approach to funding should be retained.

However, if a change of course does not happen, businesses should be alive to the short regulatory timetable and the implications of the new regime. It is advisable that businesses with DB schemes take a proactive approach now and seek professional and trustee advice on how the new system will affect them.

Want to find out more?

For more information on our lobbying on this area, please contact Laurence.

Download the full submission from the CBI on the DB funding regime.