DB funding code

DB funding code: it’s a matter of principle

David Fairs, Executive Director of Regulatory Policy, Analysis and Advice, The Pensions Regulator, defends the draft version.

Over the last few weeks, there have been calls for us to rethink or abandon the first consultation on our draft DB funding code. The arguments are that it was written in different, more benign, economic conditions and it is now out of place.

I can understand these sentiments, but I strongly disagree.

At this stage, we are seeking views on what the principles for a sound, resilient funding framework should look like and what they should be seeking to achieve.

These principles build on our past messages on the importance of trustees setting a long-term objective and putting a realistic plan in place for how to get there. This should enable them to manage the bumps along the way and improve the resilience of their scheme to adverse events as it matures.

Many well-run schemes already do this. We are just looking to embed this good practice in our guidance and regulatory approach, taking account of the views from industry on how best to do that.

I also believe the issues the consultation raises are even more important and relevant in the light of Covid-19. There is good evidence that schemes which have managed their risks well, and have built sufficient resilience into their long-term funding strategy, are likely to have fared better as market conditions have worsened. Integrated risk management is needed now more than ever.

The importance of flexibility

Of course, what the Covid-19 crisis has also shown is the importance of a flexible funding regime which enables trustees and employers to withstand significant economic fluctuations. We believe our proposals preserve this flexibility. Trustees and employers would have a choice: follow Fast Track guidelines or agree bespoke solutions which take account of their scheme and employer circumstances.

Some have argued that requiring trustees to justify the risks they are taking relative to the Fast Track benchmark undermines flexibility. I don’t agree.

The White Paper focused on the need for greater clarity through an agreed standard and the government is looking to require trustees to explain their approach and capacity to bear risk in a statement. It is only right that with greater flexibility comes greater accountability and regulatory scrutiny. Having a benchmark – as we envisage for Fast Track – enables this.

However, it would not, as I have heard some say, force employers to put more money in to the scheme than they can reasonably afford to pay. One of the key principles we have proposed is that recovery plans should be driven by employer affordability. Bespoke would allow schemes longer recovery plans where the employer cannot afford to follow the Fast Track guidelines.

Striking the right balance

We think the principles under consultation still stand.

But when we consult on where Fast Track guidelines should be set later next year, it will be essential to have regard to prevailing market conditions and where the majority of the landscape sit at that time. This is to ensure we strike the right balance between risks to members and the PPF and employers’ sustainable growth.

We explained in our consultation document that our second consultation would include an impact assessment. We will also consult on our proposed process for setting and reviewing Fast Track guidelines (such as technical provisions and recovery plan lengths) so that they remain relevant and reflect economic conditions.

When it comes to the long-term objective, however, we have been more specific in our first consultation as to what the low dependency funding basis (Gilts + 0.25-0.5%) and timing point for reaching that target (duration 12 to 14 years or equivalent measure) might be. We will review these parameters in light of the change in market conditions since we issued our consultation, informed by further modelling based on a range of economic scenarios. And, of course, we are looking for your views on this.

Extending the DB consultation deadline

We are also conscious that many stakeholders, advisers, trustees and employers are busy dealing with the immediate impacts of Covid-19. We decided to extend the deadline for response to 2 September 2020 to make sure that all interested parties are able to give the consultation their full attention. We will continue to review the situation and consider whether a further extension is required.

So, in summary, we believe the principles we have laid out for consultation remain the right ones to focus on. We recognise the challenges the current environment brings and we intend to reflect prevailing conditions in any parameters we set in our second consultation on the DB code later on next year. We are looking forward to a robust and constructive debate and our door remains open for anyone who wants to talk to us about the consultation ahead of it closing.