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The DWP’s White Paper set out the advantages consolidation can bring to defined benefit (DB) pension schemes by reducing costs per member, enabling more effective funding and investment strategies and improving governance.
Whilst the detail of authorisation and supervision of DB consolidation vehicles is still to come, what role do pension trustees have in deciding the merits of consolidation if this is being considered by the scheme sponsor?
One consolidator claims their offering is “a new way to solve the pensions problem” by companies “freeing themselves from their pension liabilities” whilst ensuring “members’ benefits become more secure.” Another states, “Consolidation, in one form or another is coming. It is a good thing and we should not be afraid of it.”
Superfunds are one of the new potential consolidation solutions. The pension scheme sponsor would make a one off payment to discharge their liabilities, which would pass to the Superfund. This solution may be appropriate where the scheme is well funded on a technical provisions basis but funds are materially insufficient to buy out with an insurer and there are doubts about sponsor covenant.
As a professional trustee, I can understand consolidation is an attractive option for sponsors. Pension liabilities are taken on by another party in exchange for a one-off (or staggered) payment. At a stroke, a sponsor’s pension scheme accounting costs could be materially reduced or eliminated entirely, increasing the value and stability of the sponsor. No more deficit, no more difficult conversations about providing appropriate levels of funding over increasingly long timescales. For some sponsors, DB consolidation could be the difference between survival and insolvency.
But pension trustees have a fiduciary duty to the scheme beneficiaries. Would a trustee be executing their duty of care properly if they agreed to the sponsor’s proposal to move to a consolidation vehicle? Where a sponsor has a strong covenant, a better solution for members may be to buy out with an insurer or fund the pension scheme on a self-sufficiency basis.
A professional trustee has the expertise to independently consider the sponsor’s position and the scheme’s situation, undertake due diligence on the consolidation firm and decide whether any proposal is in the long term interests of pension members. A professional trustee is also more likely to meet the Pension Regulator’s authorisation and supervision requirements.
A lay trustee, especially an employee of the sponsor, may not have this independence or expertise. It is easy to imagine it may seem logical to agree with the sponsor’s course of action, without realising it could be to the detriment of member security and, possibly, breach their duties as a pension trustee.
The DWP recognises there are some hurdles to overcome as part of the consultation process on DB consolidation, not least what happens if this type of consolidator enters insolvency and what the role of the Pension Protection Fund (PPF) would be.
A tried and tested vehicle already exists, in the form of DB master trusts. Unlike alternatives, a master trust enables each separate scheme section to retain its own benefit structure and scheme specific asset allocation and funding strategy, whilst benefiting from the advantages of consolidation. Yes, the sponsor remains liable for meeting the cost of scheme benefits, but this should give the pension trustees comfort member interests are being protected.
My opinion is trustees need to exercise caution if the sponsor proposes consolidation as a solution for its legacy DB liabilities. The answer to the consolidation question may not be straightforward - as demonstrated by the recent and surprising change of chief executive of the Pension Superfund and withdrawal of one of its main sponsors. Careful consideration by pension trustees and scheme sponsors is even more critical before deciding on consolidation; not only to help trustees deliver better member outcomes, but also to ensure the longevity of the selected provider.