New funding code: what it means for the not-for-profit sector

The Pensions Regulator has proposed a new framework for the funding of private sector defined benefit pension schemes with ‘fast track’ and ‘bespoke’ approaches, each of which will have implications for not-for-profit employers participating in such schemes.

Currently, as part of the valuation process for a pension scheme, the trustees might commission a covenant review to assess the strength of the employer relative to the scheme and the level of contributions it can afford to pay.

The Pension Regulator’s current defined benefit funding code highlights that a covenant review should reflect the employer’s circumstances and so may take into account different considerations if an employer is in the not-for-profit sector than if it was a for-profit employer.

For example, the trustees should seek to minimise any impact on the employer’s sustainable growth when putting in place plans to pay the promised benefits. Sustainable growth will mean different things to employers in different circumstances. It should be interpreted so that it is capable of being applied to all types of businesses. Sustainable growth will look different in the not-for-profit sector, partly because what constitutes success is different for a not-for-profit business than for other types of business.

The concern with the proposals on scheme funding is that the ‘fast-track’ approach might be too prescriptive for the not-for-profit sector to use because it will not take into account the unique features of that sector.

Although the detail on the approaches has yet to be published, there is a concern that the limits on the length of time over which a scheme must be returned to full funding under the fast-track approach might be an issue for the sector.

Using the ‘bespoke’ approach will attract more regulatory scrutiny and require trustees to justify their funding decisions in more detail. This will make it important for the trustees of schemes backed by not-for-profit employers to take independent advice on the legal and financial aspects of the employer covenant in order to help support their funding plans for the scheme. Taking such advice might increase costs for not-for-profit employers in the short term but is more likely to result in appropriately funded schemes that are able to withstand an accepted level of risk.

Such an outcome would reduce the likelihood of costly regulatory intervention in the future, with all the adverse publicity that would entail for a not-for-profit employer seeking to attract donors.

For now, not-for-profit employers should continue to work collaboratively with pension scheme trustees to reach funding solutions that recognise the needs of the scheme and the employer’s plans for sustainable growth.