Pension schemes will stay in deficit as recovery plans are blown off course

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Many defined benefit pension schemes will find that plans to repair their deficit have been blown off course, claims Towers Watson.

In most pension schemes, employers and trustees reach a funding agreement around every three years. The valuation dates for these agreements commonly fall around late March or early April.

Towers Watson suggest that, for a typical scheme with a March/April valuation:

  • The contributions paid to the employer would have to rise by around 30 percent in order to get the scheme back on a clear course to clear its deficit by the date previously agreed with pension scheme trustees
  • Alternatively, if contributions stay the same, the date would have to be pushed back around two years in order to have a plan that would be fully funded against its statutory target

Graham McLean, head of funding at Towers Watson, says:

“New snapshots of scheme funding positions are not going to look pretty.

“Over the past three years, investments have performed strongly but lower bond yields have increased liabilities. Typically, cash deficits will be about where they were three years ago: the significant sums that employers have paid into their pension schemes have only allowed them to tread water.  However, the situation will vary a lot from scheme to scheme.  Things won’t be as bad where the scheme was well hedged against falls in interest rates or where the original plan was to pay off the deficit quickly.

“Some trustees will succeed in getting employers to up their contributions. However, many scheme sponsors will feel emboldened to resist this, noting that the Pensions Regulator has been told to ‘minimise any adverse impact on the sustainable growth of an employer’ when it polices funding agreements.  Often, contributions may stay about where they are, with the date when the scheme is due to be fully funded being pushed back.

“Just as falling yields have made the deficit problem worse, rising yields could help it go away.  As no one can be certain about what will happen, employers may try to keep cash contributions down for fear of overpaying whilst offering the scheme alternative security – such as money in an escrow account – in case things don’t go as they hope.”

 

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