Trustees and sponsoring employers of defined benefit pension schemes should familiarise themselves with the Pensions Regulator’s annual funding statement, published yesterday. The statement is particularly relevant for those schemes whose valuations have effective dates between 22 September 2018 and 21 September 2019, but it will also be of interest to other schemes. The statement sets out what the Regulator expects of employers and trustees, as well as the Regulator’s views on some topical issues.

The following aspects are of particular note:

Long-term funding target: The Regulator expects trustees to set a long-term funding target (LTFT) consistent with how they and the employer expect to deliver the scheme’s ultimate objective, and then be prepared to evidence that their shorter-term investment and funding strategies are aligned with it. Many schemes already take this approach.

Scheme maturity: The Regulator expects that, as the majority of schemes are closed to new members, maturity issues will assume greater significance for setting funding and investment strategies in the future. The Regulator says it is important to consider the interaction between:

  • the level of assets, the degree of underfunding and the amount of benefits paid out; and
  • the scheme’s ability to close the funding gap from investments and new contributions in a reasonable timeframe.

Investment expectations: For the first time, the statement includes the Regulator’s expectations in relation to investment strategies. These include:

  • setting asset allocation consistent with the LTFT;
  • journey planning to get there;
  • quantifying the impact on funding of adverse investment performance; and
  • testing and evidencing the ability of the covenant to support this without extending the recovery plan.

Equitable treatment: The Regulator remains concerned about the disparity between dividend growth and stable deficit repair contributions (DRCs), and plans to focus on this area when engaging with schemes in 2019. Its key expectations are:

  • where dividends and other shareholder distributions exceed DRCs, the Regulator expects a strong funding target and recovery plans to be relatively short;
  • if the employer is tending to weak or weak, the Regulator expects DRCs to be larger than shareholder distributions unless the recovery plan is short and the funding target is strong; and
  • if the employer is weak and unable to support the scheme, the Regulator expects the payment of shareholder distributions to have ceased.

Long recovery plans: The Regulator plans to engage with schemes ahead of their 2019 valuations where it considers their existing recovery plans to be unacceptably long. The median recovery plan length is seven years, and the Regulator takes the view that schemes with strong covenants should generally have recovery plan lengths which are significantly shorter than this.

Late valuations: The Regulator says its preference is for the best outcome to be reached for the scheme, rather than one agreed under pressure simply to meet the valuation deadline.

The statement confirms that the Regulator will be consulting on a revised funding framework this summer and will then consult on a revised code of practice shortly after.