Regulator issues annual funding statement for DB schemes

News alert 2025/01

At a glance

The Pensions Regulator has issued this year’s DB Annual Funding Statement. It is the first such Statement under the new DB funding regime and is particularly relevant to those carrying out actuarial valuations with effective dates for the 12 months starting from 22 September 2024. It provides helpful clarity in a number of areas, recognising improved scheme funding levels and current global uncertainties.

The detail

On 29 April 2025 the Pensions Regulator issued its 2025 Annual Funding Statement, aimed at trustees and sponsors of DB pension schemes along with an accompanying analysis. The statement is focussed on “Tranche 24/25” schemes – those with valuations with effective dates between 22 September 2024 and 21 September 2025 (the first tranche falling under the new funding regime). However, it is also relevant to all DB schemes as it sets out some broader commentary about current risks, as well as clarifications on covenant assessment, the long-term objective and supportable risk measurement that have been raised since the publication of the new DB Funding Code and the Regulator’s employer covenant guidance.

Below we step through our commentary on the key elements of the Statement.

The Regulator’s key messages

With most schemes remaining in surplus, and with three quarters in surplus as at 31 December 2024 on a Regulator-derived low dependency basis, the Regulator expects most schemes to be shifting their focus from deficit recovery to endgame planning.

However, the Regulator warns that trustees should keep in mind that recent trade and geopolitical tensions have increased uncertainty, including around interest rates, inflation and global economic growth, and so trustees need to understand the risks to the scheme’s investment strategy and employer covenant. Investment volatility could be persistent, and this may influence trustees’ and sponsors’ approach to risk management.

On analysing valuation results (based on statement of strategy data to be supplied to it through a new digital service shortly to be launched), the Regulator promises to be risk-based and outcome-focused when deciding which schemes to interact with. It also notes that for the first time it has defined what it considers to be tolerable risk under Fast Track and estimates that around 80% of schemes should be able to satisfy the Fast Track tests and conditions. The Regulator has also confirmed that it does not plan to update its Fast Track parameters for current valuations from those published in November 2024.

Valuations under the new DB funding regime

The Regulator says that as the new DB funding regime requires the valuation process to be more integrated, involving actuarial, investment and covenant angles, trustees must ensure they work collaboratively with their different advisers throughout the process. The Regulator also stresses that given the new elements introduced – specifically referencing the extensive new information that needs to be disclosed at the end of the valuation process in the statement of strategy – it will be important for trustees to engage early with advisers and employers.

In a welcome statement, the Regulator has also confirmed that the statement of strategy does allow flexibility when describing the long-term objective for schemes. This should allow trustees to accurately describe their specific plans, eg aiming to reach buyout at an unspecified point in the future while targeting low dependency by the relevant date on the way. Whether such statements referencing buyout will be acceptable to scheme sponsors, who may have concerns about accounting implications, remains to be seen.

General considerations

Under this heading the Regulator discusses various issues, including reiterating the importance of employer covenant when assessing the level of supportable risk within a scheme’s journey plan, and urging trustees to recognise and mitigate against the macroeconomic uncertainties that may impact scheme investments and the employer covenant.

It highlights for the first time artificial intelligence adoption and energy transition as two other dynamics that may also have impact, while reiterating climate change and wider sustainability issues as areas in which trustees should work with the employer and their advisers to understand potential implications. It stresses the need for trustees to ensure that they have robust and effective operational processes in place to enhance the resilience of their schemes to market shocks and reduce the risks to the scheme to acceptable levels.

The Regulator further takes the opportunity to acknowledge the increased interest in scheme surpluses and the likelihood of new legislation in this area, and suggests that for the time being it would be good practice for trustees to have in place a policy for the release of surplus in the context of their individual scheme and the current legislation, and to start thinking about how they would approach any requests to release surpluses from the employer.

Funding strategies

As in last year’s statement, this section of the Statement groups schemes into three categories according to their funding levels.

• For those at or above low dependency – the Regulator’s focus is on endgame planning, taking the opportunity to highlight its DB endgame guidance which it expects to publish in the early Summer. Some food for thought is also included for such schemes that decide to run on.
• For those above technical provisions but below low dependency – the Regulator’s focus is on ensuring the scheme continues on the path to achieving the low dependency objective by the relevant date. 
• For those below technical provisions – the Regulator calls on such schemes to address the deficit as quickly as the employer can reasonably afford.

Clarifications on covenant assessment and monitoring

Appendix 1 to the Statement contains a number of clarifications on assessing and monitoring the employer covenant. Drawing out a few, the Regulator has clarified that: 

• A proportionate approach to assessing the employer covenant may be appropriate from the outset where a scheme has a lower level of covenant reliance. Helpfully, the Regulator has said that trustees can focus their assessment on confirming that key aspects of the covenant, such as the reliability period, are ‘at least’ what is required by the scheme, rather than focusing on establishing the maximum reliability period.
• When considering the scope of any covenant assessment, trustees should look at what aspects of the covenant they are placing the most reliance on and the most significant risk factors that could impact the support available.
• It does not “expect trustees to seek an enhancement to existing contingent asset support where this is not required to support the level of risk within the scheme’s journey plan“, including it seems in relation to “non-look through” guarantees (ie where a guarantor’s cash flows are not included for affordability purposes), such as a PPF levy standard guarantee.

Clarifications on supportable risk measurement

Appendix 2 contains welcome extra detail to the "supportable risk" test – the key integrated risk management step in the new valuation process. This includes:

• Confirmation that the test involves considering a downside scenario assessed over the length of the covenant reliability period.
• Confirmation that the Regulator expects trustees to be proportionate in deciding on a reasonable modelling approach to adopt, reflecting their specific circumstances.
• That it does not consider it proportionate for trustees to ‘stress’ employer cash flow forecasts as part of this assessment.