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Article | Benefits Hot Topics

TPR gives green light to defined benefit superfunds

Pension Board and Trustee Consulting|Retirement|Pensions Risk Solutions

June 18, 2020

The Pensions Regulator has published guidance setting out how it will regulate the superfunds regime paving the way for consolidation of defined benefit pension schemes.

After a gestation period of over three years since the Department for Work and Pensions floated the idea of superfunds, the Pensions Regulator (TPR) has today substantially confirmed how it will authorise and oversee superfunds until a permanent regulatory regime is legislated for. This is the development for which superfunds have been waiting. We envisage the first two that launched, Clara Pensions and The Pension SuperFund will now seek authorisation and complete pipeline transactions as soon as possible. We expect other superfunds to enter the market.

Should superfunds demonstrate that they can quickly build from their blueprints into fully functioning and large consolidation vehicles, today’s announcement may herald one of the most significant developments in the UK defined benefit landscape.

Today’s guidance is for those running superfunds. TPR’s guidance for trustees and sponsors will be updated in due course.

What are superfunds?

Superfunds are pension funds set up by commercial entities to consolidate defined benefit pension schemes. They are designed to have a high probability of meeting member benefits in full, but at a cost lower than an insurance buyout. However, they will not offer the same degree of security as an insurance buyout. Following the transfer of a pension scheme to a superfund, the original sponsoring employer has no further liability. The employer covenant is in effect replaced by a capital buffer that is part of the superfund.

TPR expects clearance to be sought prior to each transfer to a superfund and as part of that it will wish to see the trustees’ due diligence on the proposed transfer.

Why is today’s development significant?

Superfunds have polarised opinion. There was doubt as to whether they would come into existence or whether the rules governing them would be so unfriendly that they would be severely hampered. Publication by TPR of a substantial part of the interim regime for authorising and regulating superfunds seeks to strike a balance between member protection and commercial viability; one with the potential to allow superfunds to develop and prosper. For example, TPR has published details of how much capital they will need to hold plus intervention triggers should their funding level fall.

Some elements remain open for further development, a key one being when and how superfunds can extract profits for their investors – on an interim basis a high bar has been set of no profit extraction unless members’ benefits are secured in full through an insurance buyout.

Will they be successful?

The concept of a superfund is sound, but they are new. They will need to carefully execute their go-to-market strategies, gain size and hence economies of scale as soon as possible, convince trustee boards that they are a safe home for their members, whilst finding investors to provide capital to fund them. However, if they succeed, they will become the home for billions of pounds worth of UK pension liabilities.

What types of scheme will transfer to superfunds?

These could include reasonably well-funded schemes struggling with a weaker sponsor whose future is uncertain. Another example could be where a parent company with no legal obligation to the scheme is prepared to make a one-off contribution to remove liability for the scheme from the group’s books, but not one sufficient to buy out the scheme with an insurer.

There are of course lots of ways for schemes to deal with their liabilities, it remains the case that in most circumstances, at least for the foreseeable future, most schemes will continue without transferring to a superfund.

Will superfunds have wider implications?

The impact of superfunds may be felt more widely than just by the schemes with which they transact. If superfunds are successful, and that will take years to observe, trustees may focus less on buy out as a target end game, instead becoming increasingly confident to run off on a long-term, low dependency basis. They would do so with the confidence that should their sponsor ever became stressed or fail, they would have a viable ‘Plan B’ in the form of a transfer to a superfund.

What should I be doing now?

It is still early days. We therefore recommend:

  • Schemes with a burning platform, such as those with a severely stressed employer, should explore this option as a potential solution
  • Where the covenant is not strong, but failure is not a near-term risk, trustee boards and sponsors should evaluate whether a consolidator solution may have a role to play and, if so, decide when discussions with consolidators should be initiated
  • Other schemes should adopt a watching brief.

Separately, well-funded schemes that adopt a thorough approach to contingency planning, even those with strong employers, should consider putting in place mechanisms that help them take advantage of the new superfund regime should their employer ever fail. This does not necessarily mean transfer to a superfund – TPR’s publication envisages that some large schemes may run off “solo” while complying with a more limited set of the regulatory provisions than applies to the commercial consolidator businesses.

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