On 29 July 2024, in addition to laying their final draft Defined Benefit (“DB”) Funding Code before Parliament, (see our comments on this here), The Pensions Regulator (“TPR”) published their long-awaited Twin Track Regulatory Approach to assessing DB Scheme valuations, in follow-up to their December 2022 consultation on UK pension scheme funding.
The new ‘Fast Track’ and Bespoke submission routes (“Twin Track”) have been designed to create and simplify a standardised pathway for schemes to achieve their funding targets and meet regulatory expectations / legislative compliance, by providing trustees with several key parameters and guidelines to follow.
TPR will use the Fast Track parameters as a tool for assessing their tolerated risk for a scheme, allowing them to filter which actuarial valuation exercises to investigate. Provided schemes meet all Fast Track parameters, TPR have said they are unlikely to scrutinise valuation submissions further.
The Bespoke approach will afford trustees flexibility and scope to pick a solution based on the specific circumstances of their scheme, provided the funding approach and actuarial valuation meet legislative requirements and code principles. Trustees may want to submit a bespoke submission if they are unable to meet all of the Fast Track parameters, would prefer to take more risk (subject to employer covenant strength and scheme maturity) or employer circumstances necessitate an alternative approach.
Key Fast Track Parameters
To satisfy the Fast Track parameters:
- Low Dependency Funding Basis
Schemes must follow the principles set out in the DB Funding Code and calculated using the “risk-free plus” approach, with a discount rate equal to the gilt yield curve plus an addition of no more than 0.5% p.a. All other approaches must be submitted via the Bespoke route.
- Technical Provisions (“TPs”)
A scheme’s TPs must be at a minimum level for each duration, relative to the percentage of scheme’s liabilities calculated on the low dependency funding basis and a maximum asset and stress test. DC-only benefits are excluded when calculating the funding level.
- Funding and Investment Stress Test
Schemes must be able to demonstrate that the funding level would not depreciate by more than a set percentage at each duration, when stressed, if they are fully funded and invested in its current notional investment allocation.
- Recovery Plan Lengths
The recovery plan cannot exceed 6 years, where the valuation date is before the relevant date or 3 years, where the valuation date is on or after the relevant date.
In order to make a Fast Track submission, scheme actuaries will be required to confirm the following:
- The Fast Track TPs test has been calculated and the results meet Fast Track parameters,
- Fast Track conditions for the recovery plan, the schedule of contributions and the low dependency liabilities are met.
If the scheme actuary is unable to provide such confirmation, the valuation submission will need to be Bespoke.
According to TPR, early indications have highlighted that around 80% of schemes currently have Counterfactual liabilities higher than Fast Track liabilities. Consequently, if these schemes maintained the same approach taken at their previous valuation, they would likely meet the Fast Track TPs parameter.
Whilst TPR do not anticipate the parameters and their underlying assumptions will be revised often, they will still be reviewed annually to determine if any amendments would be justified based on significant changes in market conditions or DB funding levels, as well as carrying out a comprehensive review every three years.
As mentioned above, for some trustees, implementing the Fast Track parameters may not be appropriate for their scheme. Therefore, in order to ensure legislative compliance, TPR have advised that trustees familiarise themselves with the arrangements they will be expected to take in this scenario, set out within the DB Funding Code, and whether a more prudent funding and investment approach should be considered, especially where there is limited employer covenant support / strength.
Next Steps for Schemes
- Ensure that trustees and sponsors are up to date with TPR’s consultation responses, DB Funding Code and Fast Track / Bespoke parameters and how they could impact the scheme.
- Review current funding and investment strategies and compare this against the DB Funding Code and Fast Track / Bespoke parameters to ascertain what approach would best suit your scheme.
- Consult with the scheme actuary to ensure Fast Track regulatory compliance can be achieved or whether a Bespoke approach is required.
- Seek advice from legal advisors for further support and guidance if needed.
This article was written by Clive Pugh and Sarah Moody
Provided schemes meet all Fast Track parameters, TPR have said they are unlikely to scrutinise valuation submissions further.