Funding levels for UK defined benefit (DB) schemes increased to £38bn in 2022, against a backdrop of sharply falling asset and liability values, with two thirds of companies in a WTW sample seeing funding ratios improve.
The £5bn deficit reported at the end of 2020 first shifted to surplus of £32bn at the end of 2021 – the highest accounting surplus in the past decade – and continued to grow during 2022, according to the consultancy’s latest report – FTSE 350 DB Pension Scheme Report 2023.
WTW’s analysis of accounts filed by DB scheme sponsors in the FTSE 350 with 31 December year-ends revealed that these companies paid £8.9bn into their DB schemes in 2022, and £5.9bn into defined contribution (DC) schemes.
The DB number, which was the highest cash terms figure since 2018, included £2.3bn to finance new benefit accrual, the report said.
Bina Mistry, head of corporate pension consulting at WTW, said: “Two thirds of companies disclosed having surpluses in their pension plans but almost three quarters were still paying deficit contributions. This is because funding targets agreed with trustees are often more onerous than the measure of liabilities disclosed in accounts and because there can be a lag between funding levels improving and deficit contributions being switched off.”
She added: “There is every chance that 2022 will be a last hurrah for cash injections into DB schemes and that this group of employers will, for the first time, pay more to DC than DB this year. Some large one-off contributions will not be repeated in 2023, while higher interest rates will reduce the costs of providing new benefits to the dwindling number of active members.”
The report pointed out that accounting standards require companies to use the yield on high-quality corporate bonds to convert the pension payments they expect their schemes to make in future into a single liability value, adding that yields rose sharply over 2022, with the average discount rate increasing from 1.91% to 4.85%.
Mistry said that “principally owning to this jump in yields”, the liabilities disclosed to investors have fallen by “about a third”.
Assets have also fallen in value, although not enough to stop funding positions from improving, the report said. According to the analysis, aggregate funding levels increased from 107% to 111% on an accounting basis; 65% of employers recorded an accounting surplus at the end of 2022, up from 62% at the end of 2021 and 38% at the end of 2020; and WTW estimates that one in five of these employers now has a pension scheme that is sufficiently well funded to buy out its liabilities in full with an insurer.
Mistry said: “While the immediate effect of improved funding will be to spare some employers from finding the cash for more deficit contributions, it also puts the spotlight on what pension strategies companies and trustees should pursue from now on, and on how better-funded schemes should invest their assets.
“The decision on whether and when to buy out does not simply boil down to whether you can afford to. Companies will explore how to get some value from having paid in more than they now think was needed to provide the benefits due to scheme members.”
Mistry noted that for the 30% of employers whose schemes have not completely closed, one option could be to use them to fund new benefit accrual. For others, potential uses of funds include discretionary pension increases, refunds to the employer and, in some circumstances, DC contributions.
“If the companies who could, in theory, afford to get liabilities off their balance sheets without stumping up more cash all sought to do so immediately, some would run into capacity constraints; the premiums from these companies alone could be equivalent to roughly three years’ worth of de-risking transactions based on recent volumes,” she said.
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