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DB superfunds: new guidance for trustees and employers

  • United Kingdom
  • Pensions

23-10-2020

The Pensions Regulator recently published its guidance for trustees and employers considering transacting with a defined benefit (DB) superfund. This follows interim guidance published in June this year for those setting up and running a DB superfund - our speedbrief on that is here.

The guidance reflects what we expected based on previous announcements and gives some certainty as to how the Regulator will approach transfers to superfunds.

What are superfunds?

Superfunds, also known as DB consolidators, are DB pension schemes set up on a commercial basis to accept bulk transfers from other DB schemes. Normally, the original scheme employer’s liability to fund the transferring benefits stops and is instead taken on by an employer in the provider’s group, which is backed by a capital buffer. The buffer is separate from the superfund but is available if certain trigger events occur.

Currently, the two main providers are Clara Pensions and the Pensions SuperFund, which have different business models. Other providers, with different structures, are also beginning to emerge.

Why has the Regulator issued guidance?

Transferring members and assets to a DB superfund will sever all or part of an employer’s liability to a DB scheme. This is a significant decision. In the absence (for now) of specific legislation, the guidance aims to provide clarity to trustees and employers on the steps that should be taken in respect of a transfer to a DB superfund.

What are the key points in the guidance?

The guidance describes the approach that the Regulator will take when regulating transfers to superfunds, as well as the approach that it expects trustees and employers to take. In particular, trustees must be satisfied that three “gateway principles” are met before any transfer:

  • 1. Transfers should only be considered if the scheme cannot afford to buy out now.
  • 2. Transfers should only be considered if a scheme has no realistic prospect of buy-out in the foreseeable future (likely to be up to five years in most cases), given potential employer cash contributions and insolvency risk.
  • 3. A transfer must improve the likelihood of members receiving their full benefits.

Advice and assumptions should be consistent across the three gateway principles.

What else is worth knowing from the guidance?

Regulatory engagement – trustees and employers are expected to contact the Regulator at an early stage in advance of a transfer so that the circumstances of the transferring scheme can be discussed.

Due diligence – trustees must carry out their own due diligence on the superfund receiving any proposed transfer, considering in particular:

  • if transferring to the superfund is right for members and any other options available to improve the scheme’s funding position
  • what is being offered by the superfund, including any benefit enhancements, fees, investment and funding objectives and modelling outcomes
  • if the transfer meets the gateway principles, and
  • the risks attached to any residual liabilities left in the scheme.

Comfort may be taken from the Regulator’s own assessment of any superfunds (a list of the superfunds assessed by the Regulator will be published here shortly), but this is not sufficient on its own. The level of due diligence required will vary depending on the size of the transferring scheme.

Clearance – employers will be expected to apply to the Regulator for clearance in relation to a transfer of their scheme to a superfund – it considers this to be a new “Type A” event. Clearance will not be given unless the trustees confirm that the gateway principles have been met. They must be prepared to demonstrate this by providing their rationale and any relevant documentation.

Once a clearance application and supporting evidence have been submitted to the Regulator, it may take up to three months for a decision to be made. Trustees and employers should accordingly build this timing into their project plan when deciding when to contact the Regulator about a proposed transfer.

Historic corporate activity – trustees must show as part of the clearance application that they have reviewed the sponsoring employer’s historic corporate activity and recent significant value extractions. Employers can help with this by providing details of past activity and confirmation of whether it was detrimental to the scheme. If detriment or value extraction is identified, the trustees will need to consider whether the proposed transfer to the superfund mitigates it and what else may need to be done.

Advice – trustees should take appropriate professional advice (including actuarial, covenant and legal) in considering and undertaking a transfer to a superfund. Sponsoring employers are expected to pay for this.

Member engagement – trustees should be open with members throughout the transfer process, providing clear communications that explain the due diligence carried out by the trustees and why the trustees believe the transfer increases the likelihood of members receiving full benefits. Members considering transferring out of the scheme should be alerted to the risks of doing so and should be supported to make an informed decision.

Consider all options – assessing whether a transfer to a superfund is the best option for members will involve considering the other options available to improve the security of member benefits. For example, trustees should consider whether funding can be improved through additional deficit reduction payments, parent company guarantees or other contingent security.

Specific types of transfer – appendices to the guidance focus on some more unusual circumstances: schemes in a PPF assessment period, partial transfers and transfers to superfund models that do not result in immediate severance of the employer covenant.

Comment

Transferring members and assets to a DB consolidator is a significant decision. In some circumstances (for example an employer at imminent risk of insolvency with a scheme funded significantly below buy-out level), the benefits will be clear. In other cases, the merits may be more finely balanced.

The Regulator expects trustees and employers to give detailed consideration to the gateway principles and the appropriateness of transferring. Taking comprehensive and robust advice will be an important part of this. Trustees and employers should not underestimate the time required to plan and implement a project of this nature.

Legislation is still outstanding (it could form part of the next pensions bill trailed recently by the Pensions Minister) and the Regulator’s guidance is likely to develop as the market evolves. However, this guidance does now give a long awaited degree of certainty for trustees and employers considering this option. We also expect to see a list soon of the superfunds that have been assessed by the Regulator.

Some of the schemes that have been waiting in the wings to transfer to a consolidator may now finally do so over the coming months. And the interest in this type of solution is bound to grow quickly in light of the financial challenges currently faced by many scheme sponsors.