I’ve been rather carried away by the Bim and Paul show at the WPC and will continue with cheesy headlines that could dilute the impact of important pension issues.
Yes I know the difference between a surplus and a surplice and “no”, nuns have nothing to do with it, except perhaps that like pension schemes they are much understood.
Some sobriety is needed and it comes from Jo Cumbo who reminds us
The government is consulting on proposals to enable employers to use surplus funds built up in defined benefit plans. These schemes currently serve around 10mn members.
Should surpluses go to employers so they can produce and pay more, or should they go to pensioners so they can be more economically active by having money in their wallets and purses? Or should they stay in pension schemes , awaiting the next market downturn and increase in liabilities when interest rates come down?
The answers to these questions will differ from scheme to scheme and will be answered by employers, trustees and hopefully in consultation with members and even current employees. I can think of no better ways of getting people engaged in pension matters than debating who gets what. BP and Shell should try it, unions should insist on it and the legion of communication consultants, who schemes pay so much for, should make it happen.
It is a matter for discussion by existing staff who are most likely not in the DB scheme , because surplus in the DB scheme could be recycled into DC pots – via the employer. There may even be ways for hybrid schemes to pay internal transfers – all things are possible if you pay lawyers and actuaries enough.
So this blog is not about what should happen , but what could happen and right now not much is happening because most employers have got it into their heads that surpluses are for spending on insurance policies. The 20% cost of a buy-out in terms of the technical provisions of a DB scheme is happily being considered by the currently well-funded pension schemes and their sponsors as good-value. It can’t be considered as “fair value” in the technical sense because fair value is about 20% less – in terms of the premium paid by the scheme for the guaranteed that the scheme will eventually go away.
Frankly – that is a very expensive way of getting rid of a problem and members, employees, trustees and regulators are waking up to the reality that it is not necessarily fair value for the tax-payer. For the tax-payer is responsible for most if not all of the surplus through the taxes foregone to get money into DB schemes and foregone for keeping those monies invested.
Surplice extraction – should not happen to a nun
Agreed – nuns have rights and the right to their surplice is one of them
Surplus extraction – should happen to a pension scheme
There is no point in keeping surplus in the coffers of a pension scheme. “Investing for surplus” as the DWP is now calling it, is a stupid idea.
Surplus funds should be being used productively. That doesn’t necessarily mean in the pockets of the insurers who know no better than to lend the money back to corporates without any clear instruction that the money be invested productively
Surpluses should be returned to employers, employees and pensioners with a view to the money being spent productively. We cannot order people or companies how they spend their money, but depriving them of money that is available is a 100% nailed on certain way of ensuring that we continue to see economic stagnation in the UK.
This question of surplus distribution is not simple. If it cannot be distributed until all liabilities are discharged, there will be no members left alive to enjoy it. Where members have made contributions into the scheme, they have a right in equity to some proportion of the surplus. There is a clear argument that sponsor employers should receive refund of the deficit repair contributions they may have made, before any distribution to members. I have not seen any scheme where members explicitly contributed to deficit repair – though some contribution rates appear to have had an element of that built into them through excessive prudence.
The greatest problem here is the benchmark from which surplus will be measured – best estimate of liabilities, the prudent technical provisions or as TPR still seems to want to impose, self-sufficiency. The latter appears to be around twice best estimate values. This is by far the greatest drag on sponsor finances, greatly restricting their productive investment.
Investing some, or even all, of a surplus productively will not touch the sides of the overall problem in the economy.
Having now read the comments to the FT article Henry references, there is one further point which should be made. Refunding surplus to the employer sponsor does benefit scheme members in that it improves the credit standing of the sponsor, and lowers the possibility of employer insolvency, which is the primary risk to scheme members pensions.
I thought it was interesting the comparative lack of profile the announced* reduction of the authorised surplus payments charge has had. (I may have missed it, but don’t think I have seen this pushed through yet).
Further to my more extensive comment, I did originally suggest in my DWP post Mansion House submissions that refunds to encourage scheme run-on and used for further benefit accrual either within the same scheme or other pension arrangements for current employees should be subject to a lower tax charge than the distribution of a windfall surplus after buy-out.
As previously explored in these blogs, I do have strong views on how any employer refunds from pension schemes in surplus should be handled.
I think there are a number of key elements:
1. Any surplus refund to the employer should not be a single sum payment but a drip feed spread over a number of years in a process that can be changed or stopped if the scheme situation changes. This will also encourage the employer (or other scheme sponsor) to maintain its guarantee to permit scheme run on.
2. I strongly believe that any actuarial valuation is inappropriate for determining the surplus to be refunded as this is an abstraction from the reality of the pension scheme and ignores completely its cash flows which are critical to the payment of the annual pensions and other benefits. A cash flow projection clearly indicates the extent the scheme the scheme is drawing on its capital asset base to meet benefits year by year and also exposes its market value and mortality risks in the way that an actuarial valuation does not.
3. As the government appears to make clear in the announcements following the autumn statement, the arrangement must offer the opportunity to enhance members’ benefits as well as providing benefit to the employer. My own view, reinforced by recent situations in BP and Boots, is that customary discretionary benefits should be the first call on any surplus. I also believe that protecting the real value of pension payments should also take protection over the refund of potentially surplus funds.. In other words that the caps on this revaluation and pension increases should be dis-applied for both past and future benefits before refunding to the employer (Allied Steel and Wire and pre 1997 PPF level benefits). Whether any further enhancement over a fully indexed defined benefit should then be a matter for the trustees and the employer to agree on a fair and equitable basis.
4. Trustees should required to consider whether a buyout as an alternative to scheme run on with these provisions is in the members interest and they should be required to justify a buy-out to members in the same way as they are legally required to justify a refund of surplus to the employer.
5. The whole process requires revised regulatory control with I would suggest the Pension Regulator charged with protecting the interests of pension scheme members over their entire lifetime both in respect of past service accrual and in terms of future pension payments.
I look forward to putting my points in the upcoming consultation but I would be interested in the comments of your other readers on these points.