UK Pension Reform: Surplus in Defined Benefit (DB) Pensions

In this note we consider:

• A legislative block to the release of surplus

• How may surplus be used?

• What about investment?

• Trustee duty to members

• What about the Pensions Regulator (TPR)?

Pension Reform: Surplus in Defined Benefit (DB) Pensions

• The Chancellor has announced that new rules will give more flexibility over the use of surplus in DB pension schemes.  Details are expected in the Spring, in the government’s response to the consultation “Options for Defined Benefits”.  Investment by pension schemes was also a key part of the Chancellor’s speech on  29 January on economic growth.

Legislative block to the release of surplus

• Surplus in an ongoing DB scheme can currently only be returned to an employer if the trustees passed a resolution by 2016 to permit this in principle (and a funding test and other prescribed conditions are met).  At that time, with schemes in deficit and being closed to new members or to future accrual, passing a resolution to allow repayment of surplus to the employer was not high on many trustees’ agendas.  

• The government is proposing to amend the legislation to allow trustees to release surplus, even where no resolution was passed by 2016.   We anticipate that this will be included in the forthcoming Pension Schemes Bill.  

• The government statements so far make no comment on the existing legislative safeguards on return of surplus from an ongoing scheme (in particular, a funding test and notification to members).  We expect that these, or similar protections, will continue to apply.  

How may surplus be used?

• According to the government, potential uses for trapped surplus include: investment in the wider UK economy; investment in the sponsoring employer’s core business; and providing additional benefits to pension scheme members.

• It’s not clear what, if any, restrictions will be placed on how any surplus released under the new rules may be used. Using surplus to pay dividends to an overseas parent would not benefit scheme members or advance the government’s growth agenda – but would it be prevented?  In addition, will provision of additional benefits to “scheme members” include allocating surplus to pay defined contribution (DC) contributions to members of the same scheme?

• Changing legislation to allow payment of one-off “bonuses” to scheme members would greatly simplify any sharing of surplus between the employer and members.  Currently, any increases to pensions must be for life – with the additional uncertainty and risk falling on the sponsoring employer.  

What about investment?

• Restrictions will be lifted on how well-funded DB schemes may invest their surplus funds.  Increasing investment by pension schemes in the UK is a key part of the government’s growth strategy.  While investment in UK plc is clearly what the government hopes for, there is so far no indication that this will be mandated.

• The final report of the government’s Pensions Investment Review is expected in the Spring.

Trustee duty to members

• The government press release contains a reminder that trustees have an overarching fiduciary duty to act in the “best interests” of their members.  Trustees will still be expected to fund their scheme and invest scheme assets in a way that leads to members receiving full benefits.  

What about the Pensions Regulator (TPR)?

• TPR has expressed its support for the government’s proposals, while making clear that its first priority is to ensure that members have the best chance of receiving their promised benefits.  

• The government emphasises that every regulator has a role to play in supporting its Growth Mission and plans to publish a Regulation Action Plan in March this year.  

Authored by the Pensions Team.