Government ambitious plans for DB scheme surpluses avoid unnecessary ‘layers of caution’ – Steve Hodder, LCP

The Government’s plans to free up as much as around £160 billion of surplus funds sitting in Defined Benefit pension schemes have avoided “unnecessary layers of caution”, which should help maximise the benefit to their members and the companies who stand behind them, according to LCP Partner Steve Hodder.

Under the Government’s plans, rules will be relaxed to allow pension scheme trustees to agree with company sponsors that ‘surplus’ funds can be used in a variety of ways. This could include improving benefits for existing members of the scheme, using surplus funds to boost the pensions of employees of the sponsoring employer and/or allowing funds to be returned to the company to be used to benefit the business.

There are three areas where the announcements are somewhat bolder than what many expected:

• Surplus funds will be able to be used immediately above a “low dependency” funding measure, with any appropriate additional margin determined by Trustees but not required by law. There had been speculation that an explicit (and perhaps onerous) margin above low dependency would be required by law, or perhaps an even more onerous target of full funding on a buyout measure.
• A statutory override will be introduced to allow trustees and companies to change scheme rules to permit the use of surplus, where this is not currently possible.
• The Government will remove a specific test for trustees to determine that releasing a surplus is “in members’ interests”, given trustees are already required to determine if any actions they take are in line with their fiduciary duty.

The boldness of these policies reflects the fact that the funding of Defined Benefit pension schemes has improved dramatically in recent years, and surpluses have proved very real and robust through recent market volatility. Some schemes have already put in place arrangements to use some of their surplus funds where circumstances allow, but the new legal framework will make this much easier and is likely to lead to far more trustees and sponsors considering how best to use their scheme’s surplus.

Commenting, LCP Partner Steve Hodder said:

“We welcome the Government’s ambition in avoiding unnecessary layers of caution in their plans for DB surpluses. 

“Of course, it is paramount that member benefits are protected.  However, the surpluses of DB schemes today are very real and robust as demonstrated through recent market volatility.  Regulators have devoted considerable time and energy in developing a low dependency measure for scheme funding, and that is the right yardstick to allow Trustees to consider if their scheme is now able to productively use its excess assets.

“From our early conversations with Ministers in the last Government, the issue of productive use of surplus funds has been thoroughly examined and consulted on, and the Government’s final proposals are to be warmly welcomed. 

“The role of pension scheme trustees will now be key, as the industry settles into new norms of using strong DB schemes to benefit scheme members, sponsoring firms and the wider UK economy.”