PPF statistics hint at a different future for DB schemes

At their most recent update, 2,869 schemes were in surplus (with 2,449 in deficit). Are we approaching a time when the PPF will be a side issue for most schemes?

Of course, it needs to be heavily caveated that this is a snapshot in time and we do not know the strategy pursued by each of those schemes that has produced this result.

However, we are in a funding and regulatory environment where those schemes that can are being encouraged to nail down any gains made in the past few years, and build towards a position of self-sufficiency.

If the current direction of travel is maintained, we could begin to consider a world where the PPF is no longer necessary to solve a DB crisis, and we are entering a phase where it is relevant only to a limited minority

When achieved, this will leave those schemes in a place where, for them, the PPF is on the periphery. The proportion of schemes that are of main concern to the PPF and the Pensions Regulator is expected to be shrinking, while the regulator continues it’s plan to reduce the risk in defined benefit schemes.

The PPF is already anticipating further material reductions in the number of underfunded schemes and the impact it will have on its ability to raise revenue in the form of risk-based levies.

DB schemes could be grouped into three main tranches:

1. The risk transfer group. These schemes are on a clear path to a destination of ultimate risk transfer.

2. The steady state. The cost of the risk transfer is prohibitive or unwanted at this time, meaning the scheme will need to continue in its current form.

3. The rump. Where the cost of the scheme is effectively dragging the employer down, with the PPF the most likely destination.

The relative size of the rump will be the determining factor in the attitude of the regulator when deciding where their focus should be, to protect members’ benefits and the scheme’s long-term viability.

TPR could change the way it regulates DB schemes

How would TPR regulate in a world where (say) 90 per cent of schemes would not be eligible to fall into the PPF? We know TPR has, controversially, already allowed some schemes without a significant sponsor (aka zombie schemes) to persist outside the PPF.

Where the risk to the PPF is low, would TPR allow more zombie schemes? This could be an important policy development where scheme benefits are allowed to continue outside the PPF for longer, which would increase the likelihood that members will receive their full benefit or experience higher benefit security for longer.

Could we have a solution where schemes are encouraged to enter the PPF quickly? This may well be as controversial as the inception of the PPF, as those schemes that perceive themselves to have been well run may be asked to share the cost of the underfunded rump.

On the other hand, the longer these schemes soldier on, the greater the risk to the viability of the PPF in its current format. TPR and policy makers will have to make some difficult choices.

If improving market conditions might otherwise allow the PPF to reduce its annual levies, it may instead prefer to maintain these and build a war chest of its own from which to ‘rescue’ schemes at threat from PPF drift.

What would the criteria be for a schedule of such interventions? How would it deal with perceived inequalities in the selection of the next rescue target from the list of vying candidates?

Govt could rethink PPF funding

We have certainly been through (and many are still in) challenging times for scheme funding and benefit security.

If the current direction of travel is maintained, we could begin to consider a world where the PPF is no longer necessary to solve a DB crisis, and we are entering a phase where it is relevant only to a limited minority.

Depending on the balance of scheme numbers within our tranches, perhaps the case for central government support, rather than DB sponsor levies, is becoming stronger.

There is no doubt it would be controversial for the state to step in and change the way the PPF is funded, but it may be necessary to appease those schemes that have worked so hard over the past decade to get their own houses in order.

David Brooks is a technical director at Broadstone