DB pension funds losing interest in asset-backed contribution models
The use of asset-backed contribution (ABC) models in UK defined benefit (DB) pension funds has slowed, coinciding with new regulatory powers to account for the economic growth of sponsors.
In June 2014, UK Pensions Regulator (TPR) updated its DB Code of Funding with stated recovery plans for deficits that must also create and protect sustainable growth for sponsors.
This, alongside market conditions, saw a steady rise in the use of ABCs, yet growth is still much lower than in previous years, according to research from KPMG.
An ABC structure sees sponsors of a pension fund and trustees agreeing a regular contribution cycle backed by an asset, such as property.
Trustees can benefit from greater funding security, while cash is preserved by the sponsor.
In its annual ‘Asset-backed Funding for Pensions’ report, the consultancy said there were 12 new arrangements set up in 2014, taking the total value to £9bn (€12bn) from £7.8bn.
However, growth slowed compared with the 21 new deals seen in 2013, which added around £2bn to the total.
KPMG suggested in last year’s report that 2014 could be another record year for the use of ABC structures.
“Changes in market conditions during late 2013 and early 2014 eased the pressure on funding deficits, which may help to explain the reduction in demand compared with last year,” it said.
However, as UK Gilt yields fell to record lows in the latter part of 2014, the report suggested 2015 could see another surge in demand for ABCs.
The report also said TPR’s new Code of Funding would have eased pressure of companies to fund deficits “uncomfortably quickly”, as it supports longer deficit recovery periods, which reduces the need for ABC structures.
While 2014 saw a 38% reduction in the value of new ABC structures compared with a year earlier, the use of cash escrow accounts and reservoir trusts continued to grow even further.
David Fripp, a pensions partner at KPMG, said 2015 could see ABC growth levels go back to the situation seen in 2013, purely down to the Gilt yield environment.
However, simultaneously, the growing use of cash escrow accounts and reservoir trusts highlights a growing concern among sponsors and trustees of trapped surpluses.
Fripp added: “Cash funding remains the most common approach to tackling deficits. However, the alternatives explored in our report can provide greater flexibility in allowing companies to preserve cash that may be better used in the business or reduce the risk that cash becomes trapped in the pension scheme.”
TPR’s new code was widely welcomed by the pensions industry after updating dated guidance on how trustees and sponsors should approach funding DB schemes.
The use of ABCs could also, independent of TPR guidelines, be affected by a new levy calculation formula from the Pension Protection Fund (PPF).
The new levy, which comes into effect for the 2015-16 year, will see the PPF disregard any ABC structure used to lower levy estimates, which does not come with a legal value guarantee from an independent consultant.
ABCs can be used by employers to lower PPF-levy contributions significantly due to the expectation that assets can be taken on board by the lifeboat fund in the event of insolvency.
The new levy guidelines will allow ABC structures backed by all assets, removing a previous requirement from the PPF limiting it to property.
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