TPR Annual Funding Statement: Is your scheme’s strategy fit for purpose?

In its 2024 Annual Funding Statement, released this week, TPR also made specific reference to climate risks and sustainability considerations when carrying out insurance transactions.

It highlighted the range of options available to trustees, including insurance transactions, consolidation and run-on. Some types of schemes were encouraged by the regulator to explore options “to achieve greater levels of governance and economies of scale”.

TPR plans to publish guidance on consolidation options and arrangements later this year.

Managing surpluses

TPR’s statement added to data demonstrating that most defined benefit (DB) schemes have experienced “material improvements in funding levels”.

Approximately half of the schemes assessed in TPR’s latest report have likely exceeded buyout funding levels, the regulator said, meaning trustees and employers can turn their attention to ensuring long-term strategies remain relevant.

Louise Davey, TPR’s interim director of regulatory analysis and advice, said: “Where funding levels have improved significantly, trustees should review objectives and strategies, set during a period of low interest rates, to ensure they remain in the best interests of members.

“If they are not, trustees should look to redirect some of their funding level improvements towards a funding and investment strategy that is aligned with their plans for the scheme.

“Options range from moving to a long-term target with the potential to generate additional surplus, to entering a consolidator or insurance arrangement.”

A mixed reception

Industry commentators welcomed the statement – the last before TPR’s new funding code comes into effect later this year – and highlighted the regulator’s focus on how trustees can prepare for run-on if they choose this option.

However, some were wary of an overt emphasis on private markets investment, particularly for schemes that were fully funded on a technical provisions basis but still short of full buyout funding.

Paul Houghton, partner at Barnett Waddingham, said: “The highlighting of private market investments feels slightly out of place, coming across as an overly deliberate nod to the chancellor.

“There is also a significant focus on climate and sustainability risks – and while it is difficult to disagree with the messaging here, the expectations for schemes, including what the regulator views as proportionate, could still be clearer.

“Having said all that, we are still receiving messages that really relate to a new funding regime that has been promised for several years – and not the one technically in force. What we’d really like to receive from the regulator is the new Code of Practice that these messages are geared toward.”

Laura McLaren, head of DB actuarial consulting at Hymans Robertson, praised the report’s focus on endgame options and the opportunities for schemes to run on rather than buy out with an insurer.

“It was surprising, however, to see very little emphasis on the importance of building consensus between the sponsoring employer and trustees, as this approach is likely to lead to the best outcomes,” McLaren added. “Given how much the DB landscape has changed, trustees and sponsors are going to need a lot of support to carefully weigh up a decision between run-on, buyout or an alternative.”

Climate risk and sponsor covenant

Jane Evans, partner at EY, highlighted the regulator’s focus on climate risk and how it can affect sponsor covenants.

“Covenant remains an important consideration for all schemes – even those that are well-funded,” Evans said. “Risks from data reliability, buyout market capacity and pricing volatility, illiquid realisations and legal issues can delay the path to buyout and leave schemes exposed to member benefit cuts if a sponsor fails.

“The current surge in corporate insolvencies highlights that things can, and do, go wrong for sponsors, and changes driven by climate or nature-related factors will only increase risks for companies in the coming years.”

Even well-funded schemes cannot ignore the importance of covenant, Evans added, and needed to track longer term risks to the strength of their sponsoring employers.

Chris Heritage, director at Cardano, said the statement was “a helpful reminder” for trustees to review journey plans to take into account funding positions, the financial market environment and sponsor covenant.

Heritage added: “We are pleased to see reference to the importance of considering climate change and wider sustainability issues as part of this reassessment of scheme strategy; in particular the impact on the employer covenant or prospective insurer counterparties – an area which often can be overlooked.”

LCP partner Jon Forsyth said trustees were already becoming more interested in systemic risks such as climate change, and “having taken the step back to consider these issues, are making different decisions as a result”.

Pension schemes and insurers pledged to improve transparency on environmental, social and governance issues through the launch of the Sustainability Principles Charter at the end of January.

Schemes in deficit

TPR reported that, despite significant improvements to aggregate funding levels, roughly a quarter of schemes were still in deficit on a technical provisions basis.

“Trustees of such schemes need to focus on achieving a recovery plan that is as short as reasonable, based on the employer’s affordability,” TPR said. “They also need to be very mindful of the employer covenant, given their higher reliance on it.”

Further reading

Charities urged to review endgame for DB schemes (19 March 2024)

TPR boss outlines consolidation drive (13 March 2024)

Sustainability comes to the bulk annuity sector (30 January 2024)