Introduction
On 29 July 2024 the Pensions Regulator (tPR) laid its final draft defined benefit (DB) funding code before parliament and published a number of consultation response documents. This is the final stage in a consultation process that has been running since March 2020. The DB funding code sets out guidance on how to comply with the requirements of the Funding and Investment Strategy (FIS) regulations.
The new code will apply to triennial valuations with effective dates on or after 22 September 2024 and some Trustees will therefore need to get up to speed very quickly. If any changes to the code arise from the parliamentary process then tPR will take this into account when assessing valuations.
We would encourage Trustees and employers to start preparing for the new requirements now even if their first valuation under the new regime is not imminent.
New requirements – focus on long term strategy and journey planning
The key legislative requirements set out in the Pension Schemes Act 2021 and the FIS regulations are set out below:
Long -term objective
- Trustees will be required to consider how they wish to meet the benefits of the scheme in the long-term.
- This may be an insured buyout, a consolidation solution or running off the scheme indefinitely.
Low dependency funding target
- Trustees must set a target that they intend to meet by the time the scheme reaches significant maturity.
Low dependency investment allocation
- Trustees must set a long-term investment strategy which is highly resilient to movements in market conditions.
Journey planning
- A journey plan will need to be put in place which transitions the scheme to low dependency funding by the point of significant maturity.
Statement of strategy
- Trustees must produce a statement of strategy setting out their approach to funding and managing risk.
The new requirements build on the existing requirements for Trustees to carry out an actuarial valuation at least every three years and if a scheme has a Technical Provisions deficit then they will need to continue with the requirement to agree on a Recovery Plan which aims to recover the deficit as soon as the employer can reasonably afford.
What has changed since the original draft?
tPR has considered the feedback received, the updates to the DWP regulations (which came into force on 6 April 2024) and the significant shift in financial conditions since the first draft code was launched. Whilst the final draft code is not radically different to the initial draft, tPR has sought to clarify its intentions and has relaxed some of the more prescriptive aspects of the previous draft. Some of the main updates are set out below:
Low dependency investment allocation (LDIA)
- The new code has removed the prescriptive stress-tests that it previously proposed using to test the resilience of the LDIA.
- Decisions on the actual investment allocation of a scheme should not be constrained by the notional allocation which is used to derive and support the low dependency assumptions.
- tPR has removed the need for a LDIA to be invested so that it broadly matches scheme benefit cashflows.
Relevant date and significant maturity
- The point a scheme reaches significant maturity is now set to be the date when the duration of its liabilities reaches 10 years (8 years for cash balance schemes) – this was previously expected to be 12 years.
- Duration will be calculated using financial conditions as at 31 March 2023 for schemes using the Fast Track submission route.
Smaller schemes
- tPR has changed the definition of a smaller scheme (which benefits from some relaxations) to be schemes with fewer than 200 members (previously 100 members).
Open schemes
- Open schemes can now take account of future accrual and new members when assessing maturity and can adopt greater flexibility in setting assumptions for valuing the future liabilities.
Fast Track or Bespoke
Alongside the main consultation response, tPR has also published a Fast Track and regulatory approach response document. Key points arising from this are set out below:
- tPR has reiterated that both Fast Track and Bespoke routes are equally valid. Fast Track is considered a regulatory filter for assessment of valuations and will not be used as a benchmark for assessing Bespoke funding approaches.
- There will be one set of Fast Track parameters for Technical Provisions, investments and recovery plans which will be set with reference to the maturity of a scheme.
- Confirmation from the Scheme Actuary that a scheme meets the Fast Track parameters is required for any Fast Track submission.
- tPR does not expect the parameters to change often but they will be reviewed at least annually with a more in-depth review every three years – any changes to the underlying method and assumptions will be consulted on.
tPR will publish the final Fast Track parameters separately as a standalone document once the code comes into force, but the consultation response confirms the following criteria:
- Low dependency assumptions – the discount rate will be subject to a maximum margin of 0.5% p.a. above the yield on gilts and there will also be restrictions on other assumptions such as CPI growth and cash commutation.
- Technical Provisions – Technical Provisions will need to set at minimum proportions of the low dependency liabilities for varying durations. For instance, a scheme with a duration of 14 years would need to set their Technical Provisions as at least 94% of the low dependency liabilities.
- Stress tests – schemes will need to satisfy funding level stress tests based on prescribed parameters, similar to the calculations that underpin the PPF’s risk-based levy.
- Recovery Plans – should be no longer than six years, or three years where a scheme has already reached significant maturity.
Next steps
Trustees should engage with their Scheme Actuary to understand how the new regime will fit in with your existing funding and investment framework and to commence early discussions regarding whether the Fast Track route will be followed at the next valuation.
If you would like any further information in relation to the above, please get in touch with your usual Quantum Advisory contact or email us at info@qallp.co.uk