DB surplus flexibility welcome, but strong safeguards needed
As the government launches its consultation on surplus flexibilities for defined benefit pension schemes today, Ian Bell, Pensions Audit Partner at RSM UK said: “This consultation, and the new flexibilities for surplus distribution, are welcome. It’s clear that guard rails on low dependency schemes are vital to protect members, and trustees will need clear guidelines to ensure they are also protected.
“Flexible surplus distribution will only be relevant where the employer has agreed that a run on strategy is right for them and their scheme members. Practically, this will only apply to schemes above a certain size, where investment outperformance can exceed the annual running costs, thereby generating a worthwhile surplus increase available for distribution.
“Investing assets on a low dependency basis will make this net annual surplus harder to achieve, and the flexibilities will therefore focus on the biggest schemes with the largest surpluses. These are likely to be within unionised industries, meaning consultation with scheme members on any sharing of surplus between members and the employer may be an issue trustees will need to overcome.
“This will likely increase annual running costs, as more professional time from actuarial, covenant, legal, and investment consultants will be needed to meet the criteria. There will also be a need for increased regulatory oversight prior to a surplus payment being made, placing additional pressure on the pensions regulator (TPR).
“The low dependency threshold is a pragmatic compromise, as it balances the Government’s economic objective of unlocking surplus funds with a minimum prudence standard. This marks a shift from ‘maximum security’ (buy out) to ‘managed risk’, which inevitably transfers some risk back onto members and the system, and increases the reliance on trustee judgement and quality of governance. Strength of employer covenant will therefore be crucial to ensuring any potential increased risk is managed properly. Overall, there are positives from the flexibilities this approach provides, but they will come with increased administrative burdens, additional costs and regulatory oversight - which may discourage some trustees from taking advantage of it.”