The Pensions Regulator (TPR) has this morning issued a statement to employers sponsoring defined benefit pension schemes. It acknowledges that falling asset values and increasing pension scheme deficits are "compounding difficulties" but seeks to reassure employers that the current scheme-specific funding regime is flexible enough to cope with the impact of the economic downturn. It builds on a similar statement issued by TPR to trustees in October 2008 and reported in our bulletin here.

The statement sets out TPR's general position in relation to funding issues in the current economic climate, with a strong undercurrent of pragmatism. Some key points are outlined below:

The scheme-specific funding regime allows trustees and employers to renegotiate recovery plans

The statement reiterates that the position of trustees of a defined benefit pension scheme in deficit "is akin to unsecured creditors" of the sponsoring employers and, as such, trustees will have a "shared interest in maintaining the health of the company". The statement goes on to say that "there is no reason why a pension scheme deficit should push an otherwise viable employer into insolvency."

The statement highlights the potential for trustees and employers to renegotiate previously agreed recovery plans (ie, the plan in place for each scheme in deficit which sets out how the scheme's funding position is to be restored and the length of time that will take). TPR must be informed of any changes to a recovery plan.

However, the statement does not give companies carte blanche to demand that the recovery plan be revised. It states that the recovery plan "should not order to enable companies to continue paying dividends", although there may be exceptional circumstances (for example, if fresh equity is injected). The dividend payment proviso is cited as an example; there may be other examples of corporate activity which could hamper the company's ability to secure a revision of the scheme's recovery plan.

Trustees are advised to "understand what is reasonably affordable for their sponsor" but also to make sure that the pension scheme is not disadvantaged when compared to other unsecured creditors.

Triggers are not targets: TPR will take a pragmatic approach

TPR emphasises that pension schemes are long-term undertakings and that "the challenges presented by current economic circumstances should be seen within this longer-term context." The statement assures employers that TPR will continue to "apply the flexibilities in the system pragmatically, looking for outcomes in the best interests of the scheme and sponsor." This means that, whilst TPR has previously stated that recovery plans of longer than 10 years will attract scrutiny, this remains a trigger and not a target. Schemes are free to have a recovery period of more than 10 years if that is appropriate for the scheme.

Reasonable affordability: short-term v long-term

In its statement, TPR notes that it is important for employers and trustees to understand the difference between temporary impacts of the economic cycle on sponsor cashflow and longer term structural changes to the strength of the scheme sponsor. TPR goes on to make the following points in this context:

  • Where there are short term concerns over affordability in circumstances where employers and trustees have agreed to revise the recovery plan, a back-end loaded recovery plan may be more appropriate than extending the plan length.
  • Where the employer is facing more severe difficulties, trustees may need to review investment assumptions in their funding plans (for example, on the amount of investment risk the employer can underwrite).  
  • Should a new valuation show a much larger deficit, a longer recovery period might be appropriate. In these circumstances, trustees are likely to look for alternative security (for example, contingent assets).

TPR's statement provides practical and pragmatic advice to trustees and employers in light of the current economic and financial turbulence.

Employers who believe that an existing recovery plan is at serious risk of jeopardising the company's future health or solvency are actively encouraged by TPR to discuss this with their pension scheme trustees, with a view to renegotiating recovery plans where appropriate. Employers should note, however, that where recovery plans are renegotiated, it may be difficult for them to justify the continued payment of dividends to shareholders.