Smaller schemes could benefit from ‘fast-track lite’ option

The timing for the final introduction of the new regime, which needs at least one if not two more consultations, has been continuing to drift backwards. This is not particularly surprising given the economic backdrop and a limited appetite from the government to impose new burdens on businesses. 

When it does finally appear, the impact of the new code will not be evenly distributed, and most medium to large-sized schemes are not expected to find the new regime significantly onerous. 

With reasonable governance budgets, most of these schemes will — having absorbed the hundreds of pages of existing funding and integrated risk management-related guidance — have journey plans that either fall within the fast-track parameters, or will have robust analysis to support a bespoke route.

The new regime is likely to be a greater challenge for smaller schemes, where resources and governance bandwidth is more constrained

Smaller schemes to struggle

However, the new regime is likely to be a greater challenge for smaller schemes, where resources and governance bandwidth is more constrained. These make up the majority of defined benefit schemes in the UK, even if their membership is modest.

A number of these schemes will be struggling to eliminate their existing deficit, never mind a much more prudent long-term position. The new regime is going to put them between the fast-track “rock”, which they cannot afford to comply with, and the bespoke “hard place”, having to spend lots of money on adviser fees to justify a bespoke route.

In situations where sponsors simply cannot afford the contributions level for fast-track, then bespoke is their only option. Advisers may be rubbing their hands at the prospect of increased spending at each valuation cycle in order to help schemes demonstrate bespoke compliance. 

In many cases, this would benefit the overall risk management of the scheme and improve member outcomes, as too often we see small schemes that are reluctant to spend on anything but the minimum compliance requirements. But ultimately, if a sponsor can only afford to contribute a certain amount to the scheme, an extended and more expensive valuation process will prove to be a pretty futile exercise.

The case for ‘fast-track lite’

To address this challenge, in our submission to the consultation we have proposed a third approach: ‘fast-track lite’.

This would allow schemes to adopt all of the fast-track principles, but with an extended recovery plan rather than the standard short period. The recovery plan would be driven by affordability, informed by external covenant advice on the sponsors’ ability to pay, and equitable treatment with other stakeholders.

We believe fast-track lite would allow schemes that are already in a difficult position to mitigate the potential costs of compliance. It would cut short the extended valuation negotiations and adviser costs, with advice on employer covenant and affordability being key.

The introduction of a fast-track lite option would also allow the regulator to simplify the normal fast-track principles to be covenant agnostic — that is to say, a simple, ‘off-the-shelf’, low-risk journey plan — and to set a high bar and reduce the risks of a race to the bottom.

If you cannot afford to comply via fast-track, then you can pay as much as you are able to via fast-track lite. Alternatively, if you believe that you are able to put in place a more scheme-specific journey plan, and pay for the necessary covenant, investment and funding advice, then bespoke will be for you.

Mike Smedley is a partner at Isio