Nothing holistic about Brexit!

Emer Cox

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Cabinet reshuffles. Turmoil in the financial markets. The pound tumbling against the dollar. Not to mention, real concerns about Britain’s Eurovision future!  We have witnessed a lot since the EU referendum.

Trustees have already felt the impact of Brexit, with their defined benefit pension scheme deficits climbing as gilt yields have fallen to record lows. In truth, it isn’t surprising that the financial markets experienced significant turmoil in the face of such economic uncertainty.  As a result, the value of Sterling in relation to other currencies has plummeted to its lowest point in over two decades, having fallen 12% against the dollar.

Away from the short-term impact, there is still considerable uncertainty as to the long term consequences of Brexit on the UK pensions industry, which will only become clearer in the months, and years, to come.

But what will the long term implications of Brexit be on UK Pension legislation requirements?

Regular reviews are carried out of the regulation and legislation of pension schemes both in the UK and across Europe. The Pensions Act 2004 sets out the funding requirements for UK pension schemes including governance requirements. Large parts of this were derived from the 2003 Institutions for Occupational Retirement Provision (“IORP”) Directive.

Coincidentally, in the days following the Brexit result, the European Commission published a document in respect of IORP II, a major piece of European pensions law. Given our impending departure from the European Union, will we need to comply with IORP II or can Britain subsequently avoid this additional regulation? At present, this remains to be seen and will depend on the terms agreed on exit. It is important that we do not immediately assume that EU pension legislation will no longer apply to the UK post Brexit – we are unlikely to see an automatic reduction in regulatory requirements. The Financial Conduct Authority (“FCA”) has confirmed that they will work closely with the Government on this and the FCA’s new head, Andrew Bailey has stated that there would be no “great bonfire of regulations”.  The FCA has also stated that, “Firms must continue to abide their obligations under UK law, including those derived from EU law and continue with implementation plans for legislation that is still to come into effect.”

The European Insurance and Occupational Pensions Authority (EIOPA) had been actively considering the possible implementation of solvency requirements for pension schemes for some time. However, in April 2016, they finally confirmed that they did not believe the “introduction of a one-size-fits-all framework with harmonised capital or funding requirements would be effective at this point in time.” The phraseology of ‘at this point in time’ raises the possibility that EIOPA may well revisit this in future.

Instead EIOPA is endorsing the implementation of a common risk assessment and transparency framework across the European Union in the form of a holistic balance sheet (“HBS”). This idea was contained in the initial proposal for a solvency requirement in earlier IORP II drafts before being shelved. The HBS would consider the pension scheme’s funding with reference to investment risk and return, sponsor covenant and funding position.

Now that the UK is to leave the European Union, does this mean that any HBS requirements would fall away instantly as a result?

There is the possibility that The Pensions Regulator could enforce the idea of the HBS independently to apply to the UK post Brexit, albeit without the assistance of EIOPA. However, should the UK remain a member of the European Economic Area and elect to abide by single-market financial legislation, then EIOPA’s version of the HBS could potentially apply to UK pension schemes through future IORP directives.

It should be noted that any previous EU directives embedded into UK law will remain so, unless there is a radical overhaul of legislation post Brexit. Instead, it would give the Government additional flexibility over time to amend those laws stemming from EU legislation. There is an argument that the Pensions Regulator and UK pension legislation will be better equipped to adapt to the ever changing pensions landscape as a result. In any event, if the Regulator does decide to depart from current practice, such a departure won’t be made straight away and a HBS for the UK isn’t going to be implemented overnight.

In saying that, the Pensions Regulator has been supporting the concept of Integrated Risk Management (“IRM”) and has issued guidance in relation to this. Given the similarities between IRM and IORP II in terms of risk management and governance, it is unlikely that the UK will escape these additional regulatory obligations going forward.

The impact of Brexit on the rest of the EU must also be considered. The UK was not in favour of the HBS as a solvency requirement in the first instance and this contributed to its omission from IORP II. Following Britain’s exit, might this increase the likelihood of a solvency regime for the rest of Europe?

So trustees, employers, pensions professionals and members will just have to wait for the votes to come in from across Europe and the final result of Brexit is set in stone.  Will it be ‘nil pois’ for the Holistic Balance Sheet?  Will the UK sing to EIOPA’s tune? Or offer their own HBS composition?  Who knows, it all depends on those EU leaders, but one thing is for sure, in the words of Bucks Fizz, “soon you will find that there comes a time, for making your mind up”!

Emer Cox

Post by Emer Cox

Emer joined in 2014, within the actuarial function she completes valuations, prepares FRS17 disclosures and carries out liability management exercises