Trustees need to prepare covenant arrangements, says UK Pensions Regulator
UK - Trustees should prepare plans to access employer support to the scheme, such as contingent assets, ahead of time, instead of waiting to ask for extra security when it would weaken the sponsoring employer, The Pensions Regulator (TPR) has said.
A statement issued by TPR on Understanding Employer Support for Defined Benefit Schemes noted that while some schemes already have a "sound approach" to monitoring and assessing the employer covenant, for others, "improvement is necessary".
The document sets out the regulator's expectations of trustees ahead of forthcoming consultations on revised guidance relating to monitoring employer support and covenant issues for trustees of multi-employer schemes.
TPR said trustees needed to ask "probing questions" to understand the employer covenant to the DB scheme properly.
The scheme should also be examined objectively, with the employer's ability to meet its obligations assessed in the context of the scheme's exposure to risk and volatility, the regulator said.
However, TPR recommended trustees and employers prepare plans for crystallising employer support to a scheme should it become necessary.
This could include the provision of contingent assets or agreements for increasing security such as sharing in anticipated increases in cash flow.
TPR said: "Without such arrangements, trustees run the risk they only look to crystallise employer support at a time when the employer has many other competing demands for limited funds, or when it would substantially weaken the employer."
Yet TPR acknowledged trustees should "act proportionately" in assessing covenants, as it may be unaffordable or inappropriate for all pension schemes to have elaborate contingent assets.
Bill Galvin, acting chief executive of TPR, said: "Most trustees will need to monitor the strength of their sponsor's covenant on an ongoing basis, and all should have a very good idea of exactly how they might respond in different scenarios.
"This means they require a good knowledge of the sponsor's business, agreed trigger points for action and clear options on how to act to increase scheme security.
"Monitoring the covenant can be as important as monitoring the investment performance."
Robin Simmons, partner at law firm Sacker & Partners, said: "Trustees, employers and advisers have been waiting to hear what TPR's thinking is on this important issue.
"And today, finally, a statement from TPR - to issue draft guidance? No, this is a prelude to that draft guidance - telling us it will be coming over the summer.
"It has stated its expectation that 'all trustees should have a framework for assessing and reviewing covenant' - so the guidance when it comes will impact every DB scheme."
He added there would also be more draft guidance to replace the current guidance on inducements to transfer out of a DB scheme.
"We've already heard earlier in the year TPR is more sceptical about inducements than the current guidance suggests, so trustees and employers can likely expect some tougher words from TPR on that topic later in the year," he said.