What charities can do to address DB affordability

However, even where this has been done, the key challenge for any charity continues to be the need to ensure the affordability of its DB liabilities.

Many charities, both large and small, have DB pension liabilities. While larger charities tend to sponsor their own DB schemes, smaller charities often participate in multi-employer, non-segregated DB schemes. 

It is important that charities and their pension scheme trustees have frank discussions about investment strategy

We live in challenging economic times with turbulence in the financial markets, gilt yields at 'all-time lows' and the continuing uncertainty of the Brexit effect. In addition, charities face their own difficulties, with recent research showing that charity fundraising is under pressure.

Charities must take a proactive approach

Against this backdrop, the DB pensions deficit poses problems. Although many charities have commercial undertakings, charities do not exist to make a profit – they exist to further their charitable purposes.

This is a challenge for pension scheme trustees who are required to assess the charity's covenant and understand how quickly it can afford to pay off the scheme's deficit.

In practice, the best outcome may be achieved where the charitable organisation takes a proactive and open approach with the trustees. A good relationship and understanding between the pension fund trustees and the charity is likely to lead to a more appropriate funding strategy for the scheme.

It is helpful for the charity to be as open as possible with the trustees about how sustainable growth applies to its particular circumstances. For example, does the charity intend to expand its charitable operations? And is the charity mainly reliant on donations or is it doing what it can to sustain its existence?

It is also important for the charity to be open about the extent and nature of any restrictions on its income, capital or reserves. 

Investment discussions should be open

Investment strategy may have a great impact on the size of any pensions deficit – a successful investment strategy may go some way to reduce a deficit while an unsuccessful one may have the opposite effect.

Many charities take an ethical approach to investment strategy for their charitable assets. For example, a cancer charity may decide not to invest its assets in tobacco companies.

Again, it is important that charities and their pension scheme trustees have frank discussions about investment strategy – donations to a charity may be adversely affected should the public find out its pension scheme assets were invested in the 'wrong' type of company.

Charities come in all shapes and sizes. From a funding and investment perspective, the key to addressing the pensions deficit is ensuring an open dialogue with the pension scheme trustees.

There is a better chance that, where the trustees understand the charity's drivers, the most appropriate strategy for the scheme may be put in place.

Liability management exercises can help

Reputation is key within the charity sector, but that does not mean to say that charities should not consider various ways in which to manage their pension scheme liabilities.

Whatever options or exercises a charity chooses, communicating in the right way with the affected members is crucial.

Pension increase exchanges and enhanced transfer value exercises along with trivial commutation exercises have been popular with employers looking to manage their DB pension liabilities. 

However, the introduction of the defined contribution flexibilities in April 2015 has also opened the door to additional at-retirement liability management options for those members who are interested in them. 

Since DB benefits themselves cannot be accessed flexibly, the member would need to transfer their benefits to a DC scheme. 

After the transfer the member would be able to decide on the level of flexibility they require, for example the ability to take a series of lump sums or enter income drawdown.

The advantage for the charity is that post-transfer its DB scheme no longer has the liability to provide the member's benefits.

Ruth Bamforth is a director at law firm Walker Morris