The Pensions Regulator's funding approach

The Pensions Regulator today published its statement on how it will regulate the funding of defined benefit schemes. The new document follows a consultation exercise launched in October.

There was little disagreement with the broad regulatory framework suggested, and respondents to the consultation indicated broad support for the use of filters, or "triggers", to help the regulator prioritise its workload. Suggestions were made about how these could be refined and clarified to meet the underpinning regulatory objectives, and a number of changes have been made as a result.

Triggers are not targets

In response to the positive comments made about the proposed framework, the regulator has made it clear that it has chosen to continue to use an approach focused on triggers. The regulator has emphasised, however, that triggers are primarily a mechanism for the regulator to focus its resources. They are not and should not be seen as targets for pension schemes.

Technical provisions are the primary trigger

The Pensions Regulator has taken on board arguments raised during the consultation process - in particular by making clear that its primary focus will be on ensuring that technical provisions have been calculated using methods and assumptions that are prudent given the scheme's circumstances. The regulator recognises that this may lead in some circumstances to longer recovery periods, but the task of getting the technical provisions right is of primary importance.

Buy-out measure less important in defining the technical provisions trigger

Particular concern was expressed over the practicality or desirability of using a percentage of a scheme's solvency measure in setting the technical provisions trigger. In response to comments made, the Pensions Regulator has modified its approach. Rather than looking at a range in relation to buyout representing average values for section 179 and FRS17 liabilities, the regulator will concentrate on the values themselves in applying technical provisions triggers to individual schemes.

Flexibility on recovery plans

The regulator has made it clear that it will be flexible when considering recovery plans. In deciding whether to take action where a recovery plan has triggered, full regard will be given to the impact any change to the recovery plan may have on the employer's viability, including its ongoing ability to fund the scheme and its long term health.

The statement retains a ten year trigger for recovery plans but makes clear that this trigger is not a target or a standard for the length of a recovery plan. It also states that it does not intend to focus its attention on schemes where the recovery period is set at less than ten years unless it has reason to believe that assumptions used may be inappropriate or where the strength of the employer's covenant is believed to be deteriorating.

Follow up assessment

In the document published today the regulator offers more detail on how it will respond when schemes trigger. The purpose of any further assessment of the scheme will be to identify schemes where the trustees have made either imprudent or inappropriate funding decisions. To help make this assessment the regulator will initially be likely to ask for information that should be readily available.

Contingent assets

The regulator's proposals for recognising the use of contingent assets in a scheme's funding strategy has met with overwhelming support. Whilst indicating a preference for money paid directly into the scheme, the regulator accepts that under certain circumstances the use of contingent assets can provide valuable flexibility. Separate guidance for trustees will be published on the regulator's website in May 2006.

David Norgrove, chairman of the Pensions Regulator, said: "We thank the industry for its input during consultation. We have listened carefully to comments made, and have made some changes to our approach as a result. We have therefore set out in this statement what we consider to be the most appropriate approach to regulating the new regime.

"Our triggers provide an indication of the situations in which we may look at a scheme - but they are not targets. We will be flexible in our approach, recognising that schemes with strong employers pose less risk, but that in most cases the best protection of members' benefits is an ongoing employer. We will take a risk-based approach, allocating regulatory resource in order to focus on those schemes that pose the most serious risk to members."

The statement informs trustees, employers and their respective advisers on how the Pensions Regulator will regulate funding requirements for defined benefit schemes. It should be read with the regulator's code of practice on scheme funding which provides guidance for trustees and others on implementing the new funding regime.

1. View the statement on how the Pensions Regulator will regulate the funding of defined benefits.
2. The Pensions Regulator launched a 12-week consultation on 31 October 2005, outlining how it planned to regulate new scheme funding requirements. The statement on the regulatory approach and use of the regulator's powers in relation to these new requirements has been issued following this consultation.
3. The Pensions Regulator's Funding defined benefits code of practice is now in force and can be viewed on the website along with specimen funding documents designed to assist trustees and their advisers. 
4. The new scheme funding requirements are part of wider reforms set out in the Pensions Act 2004. Elements of the scheme funding provisions take account of the funding requirements in Directive 2003/41/EC on the activities and supervision of institutions for occupational retirement provision.
5. The DWP regulations replace the minimum funding requirement (MFR) and came into force on 30 December 2005. The new requirements apply to valuations based on an effective date of 22 September 2005 onwards but completed after 30 December 2005.
6. The Pensions Regulator is the regulator of work-based pensions in the UK, with wider and more flexible powers under the Pensions Act 2004. It replaced Opra which no longer exists.
7. The new powers of the Pensions Regulator include the ability to:
   • collect more detailed scheme information;
   • impose a statutory obligation on 'whistleblowers' to report suspected breaches of the legislation to the regulator;
   • issue improvement notices and third party notices, enabling the regulator to ensure problems are put right;
   • freeze a scheme that is at risk, while the regulator investigates; and
   • prohibit trustees who are judged not fit and proper to carry out their duties.

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