Countdown to manage PPF levy changes

The new levy framework, implemented next month, will bring real benefits for schemes.

Levy bills should be more predictable and influenced by risks within the scheme and sponsor’s control, such as scheme funding and investment risk.

There are a number of preparations schemes should think about to limit the size of their levy cost. 

The simplest is to make sure the information provided through the Pensions Regulator’s Exchange system is accurate. 

Every year, a few schemes provide inaccurate information and then discover their bill is higher than it should have been.

There are other things schemes can consider in order to manage their bills.

These range from securing payments into the scheme and having these recognised through deficit reduction certificates, to putting in place any of a range of contingent assets.

How the levy changes affect your scheme

The new Pension Protection Fund (PPF) levy framework is the first really substantial change to the way the levy is charged since its introduction.

We undertook an extensive process of engagement with our stakeholders across the pensions industry before publishing the final rules in December. 

The biggest change is that the levy scaling factor of 0.89 – which scales bills down to enable us to collect our estimate of £550m for 2012/13 – will be used for calculating levy bills for the following two levy years. 

Information schemes may not have focused on in the past will become critical in determining the levy the scheme pays

That means how much we collect in 2013/14 and 2014/15 will depend on whether, overall, the risk of pension schemes rises or falls. 

While this makes the PPF’s income less certain, for individual schemes it will mean greater clarity on future levies and strengthen the link between shifts in a scheme’s risk and its levy changes. 

We are also making changes to smooth the assessment of risks, which should help make bills more stable and predictable.

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This smoothing will apply both to funding values and how insolvency risk is measured.

Alongside more emphasis on scheme funding in the new formula, this gives schemes more control over the level of their levy. 

It also allowed us to move back to measuring risk up to the start of the levy year, rather than basing bills on information schemes gave us 12 months beforehand.

In assessing insolvency risk, we will place scheme sponsors in one of 10 bands for insolvency risk, rather than using the 100 Dun and Bradstreet failure scores directly.

This reflects the reality that it is very difficult to make fine distinctions in risk, a point reinforced by our experience to date of schemes entering assessment.

The cost of risky investments

We will also reflect scheme investment strategies in the levy.

This isn’t about telling trustees what strategy their scheme should adopt – we are very clear this is a trustee responsibility – but we do want to reflect the risk individual strategies pose to the PPF. 

For most schemes, we can measure investment risk using information already supplied to us. 

However, this does mean information schemes may not have focused on in the past will become critical in determining the levy the scheme pays. 

In particular, recording the underlying assets held in a pooled fund, rather than simply reporting the entire holding in the insurance or other categories, could be of significant benefit in levy terms. 

A stronger focus on funding rewards action to close deficits

A simple approach won’t reflect every scheme’s strategy well and schemes can calculate and report their own assessment of investment risk.

This may be worth doing if a scheme uses derivatives to manage its investment risk. 

Chris Collins is chief policy adviser at the Pension Protection Fund