The government’s plans to protect defined benefit schemes include: governance changes for trustees; new intervention and penalty powers for the Regulator; and a duty for corporates to make a statement, in advance of sales or takeovers of a DB scheme sponsor, that any detrimental impact to the scheme has been considered and mitigated. Some changes may not go live for two years or more, but schemes and sponsors should consider the intended direction of travel. We look at the key proposals.
New funding code and compliance measures
The White Paper on protecting DB pension schemes announces a new package of measures to ‘optimise’ scheme funding, including a new Code of Practice on funding defined benefits, which will focus on:
•how prudence is demonstrated when assessing scheme liabilities in the context of setting technical provisions;
•what factors are appropriate when considering recovery plans; and
•ensuring a long-term view is considered when setting the statutory funding objective (SFO) – for example, does the scheme intend to move towards buy-out? A substantial minority of closed DB schemes do not currently have a long-term target of this type.
These measures are intended to strengthen the Regulator’s ability to enforce funding standards. Alongside this, trustees of DB schemes will be required to appoint a Chair, and there will be a new obligation to provide a DB Chair’s statement alongside each triennial valuation, reporting on key scheme funding decisions and risk management. The revised Code will, for example, set out how trustees and employers should set their SFO in the context of a long-term objective, and the Chair’s statement will report on how this objective has been used to inform the setting of the technical provisions and recovery plan. The statement should also cover the key risks to meeting the SFO and how these risks are being mitigated and managed. A requirement for commentary on governance standards and value for money may also be included.
The Regulator will start work this year on developing a revised DB Code; alongside this, the government intends to legislate to require compliance by trustees and employers with ‘some or all of the clearer funding standards’ contained in the revised Code. Currently codes of practice have evidential weight in court, but this proposal would enable the Regulator to enforce specific expectations or sanction non-compliance.
Strengthening powers and penalties
The government proposes a new penalty regime to tackle ‘irresponsible activities that may cause a material detriment to a pension scheme’, with power for the Regulator to impose punitive fines on the targets of a contribution notice, including individual company directors. Although the details remain unclear, it’s worth noting that the penalty regime could be retrospective – for example, in relation to acts or omissions from the date of this White Paper. Further work is required to ensure that the measures are effective, workable and proportionate. There will also be a more general review of the moral hazard regime and possible strengthening of the Regulator’s powers in relation to contribution notices and financial support directions.
The White Paper sets out proposals to give the Regulator greater information-gathering powers, so that the same principles apply across the DB, DC, master trust and auto-enrolment sectors (currently it has greater powers in the latter two sectors). This will include a power to compel employers, trustees and other relevant parties (including advisers) to attend an interview to explain relevant facts or events, or answer questions, where they are not willing or able to do so voluntarily. The Regulator will also be given power to impose fixed or escalating civil sanctions for non-compliance with such a request, and a wider power to inspect records etc at a party’s premises.
The government also proposes a new criminal offence to punish ‘wilful or grossly reckless behaviour of directors (and any connected persons)’ in relation to a DB scheme – further details are subject to consultation.
Regulatory oversight of mergers and takeovers
The government had previously sought views on giving the Regulator power to intervene proactively in corporate activity such as mergers, takeovers or large financial commitments that could threaten the solvency of a DB scheme, but has decided to build on the existing notifiable events framework and voluntary clearance processes instead. It will review the current list of notifiable events to see whether this should be extended, and whether earlier notice needs to be given of some types of event. In relation to clearance, the government will ‘review the role of trustees and whistleblowing activity’; the Regulator’s clearance guidance will also be updated to ensure that it captures all appropriate transactions. The White Paper emphasises that the government intends to ensure that the new measures do not have an adverse effect on legitimate business activity and the wider economy.
Other measures will be introduced, including a new requirement for sponsoring employers or parent companies to make a statement of intent, in consultation with trustees, in advance of ‘relevant business transactions’. The statement should demonstrate that they have appropriately considered the implications for any affected DB scheme and set out proposed mitigation for any detrimental impact from the proposed transaction. It’s not yet clear which transactions would trigger this duty, but the government suggests that it will be restricted to ‘those which pose the highest potential risk… such as the sale or takeover of a sponsoring employer’.
Other proposed actions include a review of how information-sharing between relevant regulators could be increased, and ongoing reforms to corporate governance to ensure that pension considerations carry appropriate weight in board room decisions (although this ‘does not mean that pensions will always trump other interests’).
The government will consult this year on frameworks to encourage consolidation of smaller pension schemes and to provide a more affordable alternative to buyouts – for example, commercial consolidator vehicles in which a private company sets up a new DB scheme and takes over the liabilities of other schemes in return for payment(s) by the previous scheme sponsor. The covenant would be provided by capital supplied by external investors, so a return to investors would be required, but the vehicle would not need to meet the same capital requirements as an insurer buying out benefits.
The Trustee Toolkit and other guidance will be updated to support the consolidation objective, and there may be some changes to GMP conversion legislation to support benefit simplification.
No RPI/CPI override
The White Paper also comments on proposals made in the 2016 consultation on options to support the British Steel Pension Scheme. Options canvassed in that consultation included the possibility of making it easier to reduce revaluation and indexation of pension rights (by changing the index from RPI to CPI) and/or allowing bulk transfers without consent to a scheme offering lower revaluation and indexation, but with benefits above PPF compensation levels. In light of the arrangements reached in relation to the BSPS, the government has decided not to make further changes, so there will be no statutory override to facilitate changes of index. It will, however, look at whether the process for reaching a regulated apportionment arrangement, which can be expensive and complex, could be improved.
Approach to the proposed changes
The government proposes a phased approach to delivery of these measures, prioritising those that do not require legislative change (for example, general awareness-raising measures). Changes to primary legislation to strengthen the Regulator’s powers and the clearance framework, and to introduce the proposed new criminal offence and civil sanctions, are unlikely to be introduced before the 2019/20 parliamentary session (but, as noted above, the new penalty regime could have retrospective effect). Research and consultation on the DB funding Code and Chair’s Statement measures, and new consolidation options, will begin later this year.