Majority of DB schemes ‘need covenant work’ before surplus can be released

Del Tasso-Dhupelia explained that while the majority of covenants in the market are “in scope” for some sort of run-on strategy for surplus release, many require updating.

Speaking on a webinar hosted last week by the Society of Pension Professionals, the PwC partner underlined that covenants were “the ultimate backstop” if something went wrong.

“We’re finding the majority of those in scope covenants need a degree of optimisation or refinement,” said Del Tasso-Dhupelia. “When you look at the specific covenant to the DB scheme, sometimes it’s not representative of the whole group, where the claims might sit, what the downside protections might be [etc].”

“Covenants should be seen as the enabler to a surplus release strategy and not the blocker.”

Atul del Tasso-Dhupelia, PwC

A driver of this, according to del Tasso-Dhupelia, is the fact that many covenants have not changed since schemes have gone into surplus. As such, they need updating to better reflect schemes’ current size and state and to provide sufficient protection for all parties.

“Not doing this correctly could have large consequences later down the line, but sorting out the covenant will be solvable for most well-funded schemes,” added Del Tasso-Dhupelia. “Covenants should be seen as the enabler to a surplus release strategy and not the blocker.”

Data from the Pension Protection Fund (PPF) shows that there were 3,638 private sector DB schemes in surplus at the end of August, 74% of the total PPF-eligible DB schemes. The total surplus was £239bn.

The topic of surplus use was being discussed due to an expected change in the Pension Schemes Bill that could see a new power introduced. This would see trustees able to modify scheme rules to allow for payment of surplus amounts to an employer.

The upcoming change comes with numerous administrative requirements, which Sackers partner Kirsty Pake addressed on the webinar, warning that trustees need to consider whether such payouts would be right for their scheme’s situation.

“It’s a ‘can you’ and a ‘should you’ [situation],” said Pake. “The ‘should you’ is always the more nuanced point. The protection for trustees and for employers is really around governance and having a full and frank conversation about what the position is, designing something that’s specific to your scheme, thinking about it in the context of the new funding code.”

In agreement was fellow panellist, Isio director Matt Brown, who warned that trustees can’t afford to be ill-prepared in the context of surplus management frameworks.

“If a scheme’s been in surplus for a long time and there’s no plan for what’s to be done with that surplus, that might be an indication of a poorly governed scheme,” said Brown.