Managing Contributions

When it comes to funding Defined Benefit (DB) pension schemes, there is no such thing as the ‘right answer’. There is a range of possible outcomes that may be considered reasonable, and this does not always mean increased cash contributions.

The Trustees are required by legislation to determine the valuation assumptions in a prudent manner. However, you have just as much right to determine the contributions and investment strategy as your Trustees have, and you should seek your own advice to challenge your Trustees, allowing you to utilise the cash in your business rather than locking it into your scheme.

What We Do

  • INVESTMENT STRATEGY
  • FUNDING
  • PPF LIABILITY
  • Along with the level of contributions you make to your scheme, the most important control you and your Trustees can exercise is in setting the level of investment risk that is adopted (the risk objective).

    You may have heard statements about ‘working the assets harder’ without apparent recognition that this will have implications in terms of investment risk. Although it is not generally possible to seek higher expected returns without taking more risk, it is all too possible to take more investment risk yet not gain much in terms of expected returns.

    We will advise you, and your Trustees, on the trade-offs between risk and return. Assistance in clarifying your investment beliefs and risk tolerance can be very helpful, especially given that there may be differences between you and your Trustees in perspectives and objectives.

    Risk metrics should be supplied in a focused and relevant manner, keeping it as simple as possible. Charts and diagrams are often more helpful than pages of numbers, and all data should be presented in the terms that are most relevant and accessible with the least possible jargon.

    While your pension scheme is a long-term investor and should have the associated risk tolerance and time horizon, that ‘long term’ is made up of a series of ‘short terms’. Our approach, therefore, is to look at risk and return from both perspectives, providing information all the way from long-term asset liability studies to instantaneous market stress tests and scenario analysis, so you can make an informed decision.

    As well as determining the overall level of risk to be taken, decisions must be made about how the total risk budget should be allocated between different risk factors. Ideally, this should be based on a holistic view incorporating both assets and liabilities, a view that considers all the relevant risk areas such as term, inflation, currency, credit, equity, illiquidity and political. If this sounds too complicated, we can provide delegated services so you and your Trustees do not need to go into this required level of detail, but can stay focused on the big picture.

    The assumed level of investment returns is often one of the main drivers of the effective discount rate for the liabilities in your scheme and therefore can have a significant impact on the calculated funding level. We’ll provide you with an informed judgement about the level of returns you should expect from assets and liabilities, and how much this might vary under a range of different economic and market scenarios.

  • Your pension Trustees receive advice on the funding of your scheme from their appointed Scheme Actuary. The Scheme Actuary’s advice to your Trustees is based on a subjective view of the financial strength of your company and how prudent your Trustees should be in setting the funding basis.

    That view has major implications for the cashflow, long-term funding and financial reporting of your company. As such, we believe you need robust corporate actuarial valuation advice to ensure your views and interests are taken into account. You have to sign up to the Statement of Funding Principles (which influences the size of the deficit) but you should negotiate to get the best deal.

    There is no single right answer on the valuation assumptions, and your Trustee board may be led towards excessive prudence in the absence of any challenge to its initial position.

    You should challenge any proposed assumptions to ensure an appropriate degree of prudence rather than compound/serial prudence.

    Your Trustees need to take account of the strength of your employer covenant and you should present this in a robust way.

    The deficit should be paid off as soon as your company can reasonably afford to do so. You are best placed to know what your business plan is and should take advice on how that fits with payments to your scheme.

    A key element of our approach to building the pension funding strategy into the overall corporate strategic planning process is not to wait for the results of the scheme valuation to drive the next phase of scheme funding.

     

  • The annual PPF levy is made up of two parts.

    Your Scheme-Based Levy (SBL) works on a simple formula based on your scheme liabilities and a fixed factor. This levy is usually comparatively small.

    Your Risk-Based Levy (RBL) is more complicated. It takes into account the estimated deficit in your scheme, the level of investment risk being run by your scheme and the estimated risk of your company becoming insolvent. The RBL is often much larger than the SBL and is also the main levy that you and your Trustees can potentially influence.

    Because of the way Experian and the PPF source information, there is significant scope to manage and potentially reduce your PPF levy. We will help you understand the factors that influence your levy calculation and help you regularly check that the information used by Experian and the PPF is correct.

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