Background
In the absence of a legislative authorisation and supervision framework, tPR has introduced an interim regulatory regime for assessing and supervising superfunds.
In June 2020 tPR issued interim guidance – this focused on the expected standards for those operating superfunds. The guidance contained what tPR believes to be the appropriate expressions of how the investment duties in the investment regulations, the trustees’ funding requirements and other governance requirements should apply to superfunds.
tPR has now issued new guidance for trustees and sponsoring employers considering transacting with a defined benefit (DB) superfund, the approach to regulating transfers to superfunds, as well as the approach tPR expects trustees and employers to take when considering whether to transact.
Why do superfunds require specific guidance?
These are new entrants to the occupational pension scheme world and can be complex and include numerous entities with different flows of obligation and benefit. They will rely on unconventional structures to support the replacement of the employer’s covenant.
A superfund is a consolidation vehicle facilitating risk-transfer from a DB pension scheme. It allows for the severance of an employer’s liability towards a DB scheme and is replaced by a special purpose vehicle (SPV) employer. This is, to all intents and purposes, a shell employer and is usually put in place to preserve the scheme’s PPF eligibility.
The replacement employer, backed by a capital buffer, will usually support a consolidator scheme. Some of the important features of a consolidator scheme are as follows:
- A bulk transfer takes place of a ceding scheme’s liabilities to a consolidator scheme, which is prepared to accept the liabilities of a number of schemes from unconnected ceding employers.
- It will have its own governance and administration (these functions may be in-house, or outsourced).
- There will usually be one trustee board.
The capital buffer replaces the ceding employer’s covenant and, while it is not an asset of the pension scheme, it forms part of the longer-term security of the scheme, which can be called upon when needed.
The “gateway principles”
tPR expects trustees and sponsoring employers to demonstrate why they believe the transaction is in the best interest of members, and how the transaction meets the three “gateway principles” based on those outlined in the DWP’s earlier consultation, which are:
A transfer to a superfund should only be considered if the scheme cannot afford to buy out now
Although tPR expects superfunds to provide a high probability of members receiving full benefits, they will not provide the same level of security as insurers. Therefore, if a pension scheme can access buy-out with an insurer, it expects the trustees to choose this option rather than transferring to a superfund.
A transfer to a superfund should only be considered if a scheme has no realistic prospect of buy-out in the foreseeable future
This will depend principally on the scheme’s funding level and the strength of the employer. tPR expects that, where trustees conclude that the value the scheme would receive from expected deficit repair contributions under the current schedule of contributions or from an employer insolvency is sufficient to secure buy-out in the foreseeable future, this principle will not be met.
The assessment of the “foreseeable future” will be specific to the employer’s circumstances. In general, tPR would expect this to be a period of up to five years but acknowledges that there may be greater certainty around employer covenant over the initial three years. Longer periods are unlikely to provide the clarity trustees need to inform their assessment of this principle. Trustees should obtain appropriate advice and provide a rationale for the time frame they are using.
A transfer to the chosen superfund must improve the likelihood of members receiving full benefits
At outset, when considering whether the transfer improves the likelihood of members receiving full benefits, trustees will have to compare two elements:
- The likelihood of members receiving full benefits with a superfund.
- The likelihood of members receiving full benefits if the scheme remains with the employer.
tPR’s capital requirements for superfunds provide a high probability of paying member benefits and it is likely that superfunds will be better funded than many pension schemes. Where the covenant is provided by a weak employer, trustees’ justification for the transfer may be relatively straightforward. In other instances (for example where the current covenant is strong and robust), addressing this principle will require more detailed analysis.
In addressing this principle, tPR expects trustees and their advisers to consider the issues carefully based on their experience, supported by appropriate and proportionate quantitative analysis.
Transferring to a superfund
tPR considers a transfer to a superfund to be a new category of clearance “Type A” event.
As part of the clearance process, tPR assesses whether any potential detriment to the scheme caused by the transfer and the removal of the ceding sponsoring employer’s covenant has been adequately mitigated.
Providing clearly documented consideration of the gateway principles will form a significant part of the ceding scheme’s trustees’ evidence, demonstrating that the detriment has been adequately mitigated.
This will require trustees and employers to work collaboratively to achieve the best outcome for members. Trustees will therefore be included in the clearance warning notice and determination notice as a “directly affected party” – due diligence is therefore essential.
To provide a clearance statement for the transaction, tPR expects trustees to confirm that these principles have been met. Where trustees cannot demonstrate the principles have been met, tPR will generally be unable to provide a clearance statement for the transaction. Where a transaction proceeds, it should normally take place within three months of tPR issuing a clearance statement.
Partial transfers
Partial transfers to a superfund are permissible, paving the way for, say, only deferred members being transferred to such a vehicle, with pensioners either remaining in the scheme or being transferred separately to an insurer. This could be advantageous to a scheme as insurers might be competitive in their pricing of pensioner annuities but expensive (relative to a superfund) for deferred annuities.
Communication with scheme members
Given the planned change to their scheme’s circumstances and, in particular, the removal of the link to the sponsoring employer, this will be an uncertain time for members. They might consider transferring their pension or accessing their funds by retiring from the scheme when they would not otherwise have done so. This is a critical moment for them, as these are irreversible actions that will have a lasting impact on their retirement benefits.
Trustees should therefore be open and transparent with members about the planned transfer to a superfund throughout the process and be clear in communications with members.
For any members that may be considering a transfer, trustees should be alert to the risks and support members to make an informed decision.
The full guidance can be found here.
If you would like any further information in relation to the above, please get in touch with your usual Quantum Advisory contact or contact us at info@quantumadvisory.co.uk