The 87 UK pension funds that participate in the Local Government Pension Scheme (LGPS) in England and Wales have reached a funding level of 102% on a low-risk basis, according to Isio’s LGPS Low-Risk Funding Index.
The consultancy’s index estimates the funding position for the LGPS funds using the pensions industry standard approach to low-risk funding for past service liabilities, namely using a discount rate based on government bond yields.
The funding level has improved dramatically since the most recent LGPS England and Wales triennial valuations were carried out as at 31 March 2022, when funding was estimated to be 67% on the same low risk basis, with a corresponding deficit of over £180bn, and none of the 87 funds had a funding level of 100% or higher, Isio stated.
The improved funding level, the consultancy claimed, is primarily due to the significant increase in UK government bond yields, which has resulted in the value of liabilities assessed with reference to bond yields falling dramatically.
Steve Simkins, partner and public services leader at Isio, said: “LGPS funds are in a significantly better position to March last year and it is important that those close to or exceeding full funding consider what they do now to capitalise, both to lock in their position and to avoid overpaying contributions.”
Every LGPS fund’s funding level has increased by at least 30% – apart from the Environment Agency (Closed) Pension Fund – on a low-risk basis over the period 31 March 2022 to 31 July 2023.
However, Isio said there are still significant differences in funding position between funds. Currently, 46 funds are fully or over-funded and 41 are under-funded, while the funding level varies from 150% on the over-funded side to just 66% at the under-funded end of the spectrum.
“Every LGPS fund has many employers, each with their own assets and liabilities. Individual employers have different funding levels depending on their participation history, so a fund that is 100% funded will have individual employers which are under- and over-funded on a low risk basis – 100% represents the average position,” Isio said.
Where there have been material improvements in funding levels for pension funds and their employers, Isio suggests those schemes:
- actively review investment strategies and consider taking advantage of de-risking opportunities;
- consider reducing employer contributions;
- consider flexibilities for employers, recognising the different needs of their fund’s employer base.
Simkins said warned that while de-risking is “almost always the right answer” for fully funded trust-based schemes, it must be carefully considered by individual LGPS funds given their open status and long-term nature.
He added that de-risking does not need to be wholesale and it does not need to be permanent. “Each fund is made up of many participating employers, each with different funding positions and objectives, and so each fund should actively engage with its employers on their own merits, enabling de-risking or reductions in future contribution rate levels where appropriate. There is a risk of inaction, if market conditions were to worsen again.”
Furthermore, Simkins expects the Department for Levelling Up, Housing and Communities and the LGPS scheme advisory board to “urgently engage” with these changes and consider whether an out of cycle actuarial valuation should be triggered to avoid further over-funding.
“This could have a significant and positive financial benefit for councils, many of whom are struggling to deliver core services. Excessive pension contributions constitute unnecessary spend and should be challenged,” he said.
Isio plans to each month from September onwards release its LGPS Low-Risk Funding Index based on market conditions at the end of the previous month, tracking levels and the impact of further changes in market conditions.
The Index will be extended to reveal funding levels for each individual LGPS fund and monitor how funds are responding to current market conditions through their investment strategies and employer engagement.
Isio also intends to publish a similar index for Scotland which will be released over the coming months.