Change to transfer values a symptom but not the real issue for Irish DB pension schemes

Technical Briefing on announced Transfer Value basis change

October 28, 2016
| Ireland

On Monday 24 October 2016, the Pensions Authority announced changes to the Standard Transfer Value basis that will take effect from 1 January 2017. As well as affecting individual transfer payments the change will impact upon the Funding Standard position of Irish Defined Benefit (DB) pension schemes. For many DB schemes, this funding level will be the key item of concern.

Below we have provided more information about the technical detail of the change and the impact on Irish DB schemes.

The proposed changes

The key changes announced by the Pensions Authority can be summarised as follows:

  • The pre-retirement discount rate has been decreased from 7.0% p.a. to 6.0% p.a.
  • The post-retirement discount rate has been decreased from 4.5% p.a. to 4.25% p.a.
  • The long term assumed rate of statutory revaluation has reduced from 1.75% p.a. to 1.50% p.a. reflecting a reduction in the long term inflation assumption
  • Mortality assumptions have been changed, with the changes overall weakening the mortality basis.

What is the impact of these changes?

The following graph summarises the impact of the changes on transfer values for members of different ages in a ‘typical’ scheme.

Impact of the changes on transfer values for members of different ages in a typical scheme

What next for funding?

The proposed changes will affect funding levels in different schemes in different ways, with the effect depending on:

  • The average age of active and deferred members (for whom Funding Standard liabilities are typically calculated on a transfer value basis)
  • The proportion of the liabilities represented by pensioners (whose liabilities are unaffected by the transfer value basis)

The current Funding Standard liabilities of a typical Irish DB scheme might increase by between 2-4% (depending on the age profile) as a result of the proposed changes. The impact will likely be slightly lower at the end of a current funding proposal than it is now, as a result of a change in liability mix over time.

The combined impact of the proposed changes to the Standard Transfer Value and plummeting interest rates more generally will mean that many Funding Proposals are likely to be ‘off-track’ at the next measurement date, which is 31 December 2016 for most schemes. This is likely to result in the need for revised Funding Proposals and, in many cases, significantly higher funding costs.

In addition, many schemes who have thus far avoided the need for a Funding Proposal will now require one to meet the additional risk reserves introduced with effect from 1 January 2016. Given current very low projected investment return expectations, the cost of meeting these additional risk reserves (which might typically be of the order of 5-10% of the Funding Standard liabilities) will be significantly higher than might previously have been expected.

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