Archive for March 2020

John Wilson

The Pension Schemes Bill 2019 – 2021 was announced in the Queen’s Speech on 19 December 2019 and introduced in the House of Lords on 7 January 2020. Having passed through Committee stage, the Bill will move to Report stage in the House of Lords, where scrutiny will continue.

These are, however, unprecedented times and everything is fluid. Parliament has now shut down until 21 April at the earliest to combat the spread of coronavirus. That said, the Bill is still expected to come into force, even if this is later than originally envisaged.

Key provisions aim to ensure that there will be criminal sanctions for bosses who put retirement incomes at risk and that pension savers will be provided with more holistic information on their retirement savings via dashboards.

Issues that are expected to be the focus on future debates include:

  • The new offences in Part 3 of the Bill (see our previous blog ‘Clause for concern’). When the Bill finally gets Royal Assent, The Pensions Regulator will issue, for consultation, further guidance on its approach to enforcement.
  • The provisions on long-term funding and investment strategy, where it will be interesting to see if there is any impact on the proposed measures as a result of the financial effects of the current pandemic.
  • Guaranteed Minimum Pension (GMP) equalisation where there have been calls to help trustees with their duty to address GMP inequalities and facilitate conversion of GMPs into non-GMP scheme benefits. Currently, the Bill does not contain any relevant provisions but the Government recognises the importance of the issue.

For the time being, pension scheme trustees and sponsors can only keep a watching brief on developments. In the words of Robert Kennedy, which seem very apt at the moment –

“Like it or not, we live in interesting times. They are times of danger and uncertainty; but they are also the most creative of any time in the history of mankind. And everyone here will ultimately be judged – will ultimately judge himself – on the effort he has contributed to building a new world society and the extent to which his ideals and goals have shaped that effort.”

John Wilson

Finance Bill 2020

The Finance Bill 2020 was published on 19 March.

The key pension measure, as announced in the 11 March Budget, is clause 21 on the Tapered Annual Allowance or ‘TAA’ (see below for the background to the TAA). 

This provision amends the TAA legislation in the Finance Act 2004 (FA 2004). It increases the maximum threshold income and adjusted income which an individual can earn without their annual allowance being reduced (or ‘tapered’). However, the clause also decreases the minimum TAA from £10,000 to £4,000. 

In more detail, the definition of a “high-income individual” is changed so that the tapering of the annual allowance will only apply to individuals whose adjusted income is greater than £240,000 (previously £150,000) and whose threshold income is greater than £200,000 (previously £110,000). 

The amendments to the Finance Act 2004 have effect for the tax year 2020-21 and subsequent tax years.

The measure will impact an estimated 250,000 individuals who are currently affected by the TAA.  Those earning more than £300,000 will see a reduction in their annual allowance and will pay more tax as a consequence. Likewise, those earning below £300,000 adjusted income are likely to see a reduction in the tax they pay because they are either no longer impacted by the taper and are entitled to the full £40,000 annual allowance, or they are still impacted by the taper, but their TAA has increased.

Scheme administrators of registered pension schemes will need to modify their systems to accommodate for the changes. 

The Finance Bill also confirms the tax rates and thresholds for 2020/21 and these can be viewed at – https://www.gov.uk/guidance/rates-and-thresholds-for-employers-2020-to-2021.


What is the TAA?

The government introduced the TAA with effect from 6 April 2016 for those with incomes of over £150,000 including pension savings. The TAA is triggered when both the threshold income and the adjusted income (see below) exceeds their designated limits. The £40,000 annual allowance is reduced by £1 for every £2 that the adjusted income exceeds £150,000, to a minimum annual allowance of £10,000.

The government announced a review of the TAA because of its impact on the NHS and delivery of public services. Following this, the government confirmed that it will, from 6 April 2020, increase the threshold income from £110,000 to £200,000, the adjusted income from £150,000 to £240,000 and will decrease the minimum reduced TAA from £10,000 to £4,000.

The threshold income, which is broadly net income before tax (excluding pension contributions), is increased from £110,000 to £200,000.
The adjusted income, which is broadly net income plus pension accrual, is increased from £150,000 to £240,000.

The minimum TAA is decreased from £10,000 to £4,000. So, someone affected could have a TAA of between £4,000 and £40,000.

By way of example, someone with threshold income of £140,000 and adjusted income of £210,000 will currently have a TAA of £10,000. However, from 2020/21, assuming no change to their salary/pension benefits, their TAA for tax relievable pension savings will increase to £40,000.


David Davison

With most charities in LGPS having to disclose their pension funding position in their accounts at 31 March 2020, the recent turmoil in the markets is likely to be causing concern, particularly for those with limited balance sheet surplus. 

The FTSE 100 has fallen by over 30% since March 2019. While this does not directly reflect the impact on individual funds it is a good proxy for the change in growth assets over the year.

A ‘flight to safety’ will have increased the value of government bonds.  However, a widening of credit spreads will have reduced the value of corporate bonds. 

Overall, depending on the investment strategy employed by the fund, asset values may be down with Funds with very little hedging likely to see a significant fall in asset values.

The deficit recorded in your accounts also depends on the value placed on your liabilities, and at the moment there is some good news on that front.  Widening credit spreads have increased corporate bond yields and they are now higher than they were in March 2019.  Inflation has also fallen.  Both of these factors will reduce the value places on liabilities.

At time of writing therefore charities may see an improvement in their position in comparison to last year.  The position is highly volatile however and Is changing significantly every day.

If you are concerned about the figure likely to be placed on your balance sheet there are steps you can take to help manage this.

What is not universally known is that it is the Directors /Charity Trustees who have responsibility for setting the FRS disclosure assumptions and not the Fund actuary.  You can therefore chose to use a different set of assumptions if those are more suitable for you and bearing in mind that one set of global assumptions issued by the Fund actuary can’t be specific to each employer, this is probably something worth considering, especially if your balance sheet position is important.

You may well be surprised by just how much of a difference small changes in the assumptions can make to your liabilities and therefore your deficit and balance sheet position.

I would therefore encourage employers already disclosing an LGPS pension liability to consider the assumptions used and whether or not they are appropriate.

The table below shows the potential impact of varying the assumptions used to calculate the FRS 102 liability.  Please note this will vary for each scheme and the figures below are provided as an example only (based on a scheme with a duration of approximately 20 years).

Change in assumption Change in liability
+0.1% p.a. discount rate -2%
-0.1% p.a. inflation -2%
-0.5% p.a. salary increases -1%


Indicative results showing the impact on deficit and balance sheet position based on the above changes to the assumptions are shown below.

‘Standard’ assumptions £000 Organisation specific assumptions £000
Assets 2,000 2,000
Liabilities 3,000 2,850
Deficit 1,000 850


So, for this illustrative example, a change of around 5% in the liabilities as in this case could reduce the deficit by around 18% and improve the balance sheet position by £150,000.

Therefore, you can see that for organisations participating in LGPS, it is well worth considering the use of bespoke assumptions, particularly if you are looking to manage your balance sheet. If you would like an indication of how changes could have impacted your 2019 disclosures, please let me know and we would be happy to provide these.

If you are looking to incorporate non standard assumptions, you need to consider this now as Funds usually require some advance notice that a different process will be used. We provide this service for many of our clients so don’t hesitate to contact us if you need more information.

Angela Burns

Markets have been extremely volatile in recent weeks primarily due to Covid-19.  Many countries are in lock down and a sharp eurozone recession could be on the horizon.

Many employers will be approaching their year-end with accounting figures to be produced at 31 March 2020 and will be worried about what recent market movements can mean for accounting figures.  Markets are fluctuating daily, but current conditions could actually see an improvement in the accounting position for many schemes.

The table below sets out how various economic indicators have changed since 31 March 2019

  31 March 2019 18 March 2020
iBoxx >15 Corporate Bond Index 2.35% p.a. 3.00% p.a.
Bank of England 20-year Implied inflation3.65% p.a. 3.00% p.a.*
Bank of England 20-year nominal spot yield1.60% p.a. 1.30% p.a.*
FTSE All Share Total Return Index 7235.16 5213.67

*estimate based on gilt yield movements

Gilts yields have fallen since 31 March 2019 from 1.60% p.a. to around 1.30% p.a. (although the figure was as low as 0.5% p.a. only a week or so ago).

However, credit spreads have increased dramatically, and the result is that corporate bond yields (on which accounting valuations are based) have increased by around 0.65% p.a. (and have effectively doubled over the last week or so)

Inflation has decreased by 0.65% p.a. and has been much more stable than the gilt or corporate bond yields.

Overall, for schemes with inflation linked benefits, accounting liabilities as at 31 March 2020 (if market conditions are unchanged from now) will have reduced, all other things being equal.

The overall funding position will also depend on how assets have performed.  Schemes with high equity exposure will have seen a significant drop in asset values with the FTSE All Share Total Return Index falling by almost 30%. 

Schemes with Liability Driven Investment (LDI) are likely to see an increase in asset values due to the significant falls in gilt yields (albeit these returns are very volatile).  Well hedged schemes (against gilt yield movements) may therefore see a material improvement in their position.

The table below sets out our broad estimated position for a sample scheme assuming different investment strategies.

31 March 2019 Accounting Position

Assets:                 £30m

Liabilities:            £35m (50% linked to inflation movements)

Deficit:                 £5m      

Investment strategy 1:   30% LDI, 20% Corporate Bonds, 25% equity, 25% diversified growth

Investment strategy 2:   75% equity, 15% corporate bonds, 15% gilts

Estimated position at 16 March 2020

  31 March 2019 Actual 31 March 2020 Estimated Investment Strategy 1 31 March 2020 Estimated Investment Strategy 2
Assets £30m £27m £24m
Liabilities £35m £29m £29m
Deficit (£5m) (£2m) (£5m)

As you can see from the table, we expect that schemes with a high proportion of hedging and a more conservative investment strategy will have an improved accounting position based on current market conditions.  Schemes with a high-risk strategy and lower proportion of hedging may still be in a similar position to last year despite huge falls in asset values.

Please speak to your usual Spence contact if you have any queries or would like some preliminary figures in advance of your year end.

Brian Spence

Our response to Covid-19

We are continuing to evolve our response to COVID-19 as the situation develops. In order to maintain our highest levels of service for all clients, and to ensure minimum risk to the wellbeing of our staff, we have decided that from Tuesday 17 March, our staff will work remotely.

All non-essential business travel has also been cancelled.

Impact of Office Closures

In order to ensure that we can continue to operate our business normally, we have taken the following steps:

  • All mail will be redirected to our Belfast office.
  • A very small team will attend the office in Belfast (or Glasgow if Belfast became unavailable) by walking or driving to work.
  • Any relevant correspondence for onward digital processing and outgoing post will be dealt with by this team.
  • The quickest way to contact our teams will be using telephone or email.

Technology to Support Home Working

Our business has been essentially paperless since 2009.  Our IT infrastructure is entirely cloud based so we have no physical servers.  We use a combination of Microsoft online software (e.g. Office 365) and applications hosted on Microsoft Azure. Our telephony is on Microsoft Teams and is fully cloud based.

Our main pensions administration software Mantle is hosted on the Google Compute and Amazon Web Services cloud platforms.

This means that we are able to fully support all services to our clients including administration, actuarial, pensions payroll, treasury and investment management services as normal.

Wellbeing of our Members of Staff

We remain committed to helping our members of staff through this period, and ensuring that we minimise the risk of them catching the virus.

Using Microsoft Teams for managing remote meetings with and without video allows us to continue to interact closely together and with our clients.

We will be holding weekly all staff briefings, and maintaining regular communication within and between teams supported by Microsoft Teams.

Our Business Continuity Planning team continues to monitor the situation, meeting twice a week, and communicating with our wider team regularly.

Communication

We will continue to update you on our preparedness, the fluctuations in investment markets and the general position on your pension scheme as the situation develops. 

Please do continue to contact us as normal if you have any questions at all.

Alan Collins

In the current challenging times on so many fronts, thinking about/writing about actuarial valuations leads me to ask “so what” from time to time and you may well feel the same.

However, if not, then hopefully the following will give some useful reminders / pointers for sponsors and trustees with an actuarial valuation due in the coming weeks and months.

  • Unless schemes are already very well-funded and very well protected against interest rate movements and have low levels of growth/equity assets, their funding level will have taken a hit over recent weeks. The degree of the hit will be dictated by the levels of exposure in these areas. My experience is seeing schemes which are broadly unaffected (perhaps still 1%-2% down) to seeing with funding levels falling by 15% or more since around mid-February.
  • For open schemes, even those that are well funded, current market conditions will result in higher expected costs of benefit accrual. This is primarily due to lower interest rates / lower long-term rates of expected investment return. For a typical final salary or Career Average Revalued Earnings (CARE) scheme, it could increase costs by 5% of salary or more. Unless other action is taken, this increased cost will fall on company sponsors.
  • Given the above, I think it is very important to know where you stand – technology is available now such that all trustees and sponsors should be able to ascertain their funding positions on an up-to-date basis. Peter Drucker’s famous saying of “what gets measured, gets managed” has never been truer than today.
  • As legislation stands, actuarial valuation dates must be no more than 3 years apart. So, you will not be able to defer the effective date of your valuation. I assume it is pretty unlikely that schemes will want to bring valuation dates forward to now unless there is a requirement/very good reason to do so.
  • So, your results need to be measured at the valuation date. However, crucially, any resulting funding recovery plan does not. A recovery plan (and schedule of contributions) can take account of changing (and hopefully improving) market conditions during the 15-month period in which valuations need to be completed. I have seen this occur several times now e.g. valuations which took place shortly after the credit crunch in late 2007/early 2008 and those which took place shortly after the EU Referendum vote in 2016, showed much better positions by the time they were due to be signed off.
  • Reducing risk may mean selling some assets at a price below the peak they reached just a few weeks/months ago. However, if doing so can move you towards your ultimate goal more effectively, then it will be the best thing to do. Over the early 2000s, I saw many trustees miss out on de-risking opportunities while they hung on for market to “return” to pre-crash levels.

Overall, managing a defined benefit pension scheme remains a long-term enterprise. I hope this bump in the road, like several others before, is overcome quickly. My key messages are keep thinking and planning for the long-term, keep up to date with what is happening (with the scheme and your sponsor) and continue to look to reduce risk gradually over time when you can. 

David Davison

In mid 2018 the LGPS (Scotland) Regulations were amended (as outlined in Bulletin 21 – Hope Springs Eternal to introduce the concept of a suspension of the cessation debt when an employer exits a Fund. This brought a welcome and much needed option to assist admission bodies, many of whom are charities, in better managing their LGPS liabilities.

Unfortunately to date Funds have chosen not to utilise this additional flexibility through the adoption of alternative solutions in some cases but primarily by choosing to just ignore the change and carry on as previously.

In January SPPA issued a consultation to identify who had used the new provisions and how often, and to consider what changes might be needed to Regulation to have Funds more frequently utilise them. It also asked for suggestions about what other measures could be considered to add additional flexibility to the exit process.

Here is a link to our submission which looks to make some practical proposals how a more consistent, equitable and flexible approach could be adopted. We would hope to engage further with SPPA and the Funds to provide any additional support necessary to reach mutually beneficial solutions.

Brian Spence

Preparing for Covid-19

Like many businesses in the UK at the moment, we are developing and taking appropriate measures to ensure the wellbeing of staff and our ability to continue to supply services to our clients.

Business Continuity Plan

We are taking action to ensure that our business continuity plan supports our clients, and is ready for use when it might become necessary.  Our Plan is reviewed regularly in the normal course of business and since late January we have been making arrangements to allow us to respond to the escalating risk posed by Covid-19.

With offices in seven cities across the UK, we are well placed to serve our pension scheme clients.  A large proportion of our 170 members of staff regularly work from home on an occasional or regular basis.  Over the past week, we have taken steps to ensure that all members of staff can work from home if needed.  We have run full tests of our Plan, including simultaneous full closure of all offices, in order that we are prepared for any and all eventualities.

We expect that under most presently foreseeable contingencies, we will be able to fully support all services to our clients including administration, actuarial, pensions payroll, treasury and investment management services.

Our business continuity team is currently meeting twice a week to monitor the evolving situation, and will communicate any action necessary to our staff.

We have confirmed that all of the suppliers who have access to our offices, and therefore come into contact with our team, will guarantee sick pay for their employees, should they need to self-isolate.

Working Patterns of our Members of Staff

We are encouraging our team to take a safe and pragmatic approach.  We want to minimise the risk of them catching the virus, and so have asked all members of staff to consider working from home unless they have a particular need to travel, and to not travel unnecessarily for work purposes. 

We are continually reviewing arrangements for external meetings. We have an excellent platform in Microsoft Teams for managing remote meetings with or without video and we would encourage our clients to make full use of this to reduce the level of personal contact arising from meetings.

We have also identified a small team who can attend our administration offices in Belfast or Glasgow by walking or driving to work, rather than using public transport. This is in order that we can continue to maintain access to incoming post, and scan any relevant correspondence for onward digital processing and to arrange outgoing post.

Technology Supporting Remote Working

Our business has been essentially paperless since 2009. Our IT infrastructure is entirely cloud based so we have no physical servers. We use a combination of Microsoft online software (e.g. Office 365) and applications hosted on Microsoft Azure. Our telephony is on Microsoft Teams and is fully cloud based.

Our main pensions administration and actuarial software Mantle is hosted on the Google Compute and Amazon Web Services cloud platforms.

Paying Pension Scheme Members

Apart from a small number of members who prefer to be paid by cheque, our entire payment process is online in the cloud with all payments raised and approved in Mantle.

For those members who continue to be paid using cheques, we have written to them to ask them to approve a mandate to allow us to pay them by bank transfer instead. Clearly cheque payments are a particular area of risk in certain scenarios but we will do our best to continue to support this very small group of members.

Monitoring of Scheme Investments

We use a number of technology platforms to ensure that we are monitoring individual pension scheme investments and wider investment markets.

We will monitor the impact of market changes on our clients’ schemes and continue to advise any appropriate action on an individual basis.

A key platform we use is Mobius Life. We have been in close contact with them in relation to their own business continuity planning and testing.

Communication

We will continue to update you on our preparedness, the fluctuations in investment markets and the general position on your pension scheme as the situation develops. 

Please do continue to contact us as normal if you have any questions at all.

Matt Masters

Definition

Cash Commutation [Noun / kæʃ kɒmjʊˈteɪʃən]. The right that a beneficiary has to exchange one type of income for another. More commonly referred to as a Tax-Free Cash Sum (“TFCS”). 

Background

As interest rates have fallen and life expectancy has increased Cash Commutation Factors (“CCFs”) have inexorably risen. But have they increased at the same rate as the cost of providing the underlying pension? 

In the 1970s, members were expected to live perhaps fifteen years in retirement, with pensions that were level in payment, at a time when investment returns were high. Now, by contrast, members are expected to live perhaps twenty five years in retirement, will have at least half their pension increasing in payment, and future investment returns are forecast to be considerably lower. 

Overarching Requirements

“Acting in the best interests of scheme members” is frequently taken as the key “rule of thumb” to be followed by trustees, if not an overarching requirement. However, this misses the point.

Trustees’ paramount duty is to the terms of the Trust Deed. Insofar as member options are concerned, trustees do not have a duty to maximise the amount payable. Rather, they need to make sure they are exercising their powers properly, acting fairly and in good faith. 

And this is really where the rubber hits the road. The Trust Deed will outline who sets the CCFs and, effectively, what they are able to take into account in determining them. Frequently, the Trust Deed will refer to factors being “actuarially equivalent” or “reasonable”, but these are not the same thing.

So what is reasonable to take into account in determining CCFs?

The answer to this question is one of ongoing discussion within the pensions industry and, as ever, the answer is nuanced. For example:

  • Is it appropriate to choose unisex factors? And should these reflect the number of males and females in the scheme? 
  • Should factors reflect the pension increases that would have been provided (and is it okay to look at an average increase rate, for simplicity)? And where pension increases are not known in advance (for example, where they move in line with inflation) what allowance should be made for this?
  • Should factors reflect the funding position of the scheme (is it right to pay out a “full” TFCS when the scheme is underfunded)?
  • Is it right to take account of member-specific features (for example, the likely life expectancy of someone in ill-heath)? Or should we look at the mortality experience of the scheme as a whole?
  • To what extent should factors reflect underlying market conditions (what if underlying market conditions are artificially low -or high- for example as a result of quantitative easing)? Do we need to believe in the permanency of any change in market conditions before aligning our CCFs with them?
  • How often should we review factors? Should they change each month, like Transfer Values, or should they be retained for a longer period, to enable members to plan for their retirement? And what about the very long term and inter-generational fairness? Can we legitimately persist with factors that are considered unreasonable to avoid the excessive administrative cost that comes with frequent changes?
  • Does it matter if CCFs don’t reflect fair value? After all, members can always vote with their feet and not take their TFCS. Indeed, in this age of ‘freedom and choice’, members may well have the alternative of taking cash from their Defined Contribution pension pots.
  • Can we look at what every other scheme is doing? Provided we’re in the middle of the herd we’re safe, right?

So what should trustees do? 

Importantly, as we noted earlier, the starting point is the Trust Deed. However, I would suggest there are a few “must do’s” beyond that.

Clear communication is key. Personally, I would like to see members encouraged to take advice when it comes to taking their TFCS. Indeed, legislation already requires this for Transfer Values in excess of £30,000.

It’s also important for CCFs to be reviewed regularly. For example, the Pension Protection Fund review their factors annually. But why not treat the TFCS more like a Transfer Value, where it can vary each month (and could be fixed at, say, six months prior to retirement, to enable members to plan)?

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