Pension Protection Fund strategy could impact employer levies

The route by which the Pension Protection Fund (PPF) intends to reach its new long-term strategy of being financially self-sufficient by 2030 could make a big difference to the levies employers pay over the next few years, according to Towers Watson.

By 2010, the PPF aims to have protected itself against the risk that movements in asset prices, interest rates and inflation could leave it unable to pay the intended levels of compensation. An additional reserve of around 10% of liabilities would guard against the risk of people living longer than forecast or of unexpectedly high claims being made against the PPF after 2030.

PPF modelling suggests it will have more than an 80% chance of reaching this target if it charges a levy of £700 million, not increasing with inflation, in each of the next 20 years. However, this does not mean levies will be frozen at close to their current level of £720 million in the short term.

Rash Bhabra, head of corporate consulting at Towers Watson, said: “The levy has recently gone up with average earnings, so freezing it would be a short-term reprieve for employers.

“But one reason why the PPF is targeting self-sufficiency is it knows there will not be as many schemes around to pay levies in future. It may therefore choose to build up most of its funding reserve sooner rather than later. It has announced its destination without saying how it is going to get there.”

The funding strategy document reveals the mean projection of the PPF’s liabilities will be around £80 billion by 2030, so the intended 10% prudence margin would amount to around £8 billion. Bhabra added: “The PPF has left the door open to paying third parties to take longevity risk off its hands but the central plan is to self-insure against this and against future insolvencies by holding £8 billion or so more than it thinks it will need.

“The PPF has not said what it would do with this if the events it is there to protect against do not happen. Just cutting levies will not return it to the employers that overpaid because some will have bought out their schemes or have a very different risk profile in 20 years’ time, and some will not even exist.”

The PPF’s funding objective could also have implications for the agreements employers reach with trustees over how to fund their own pension schemes. Bhabra said: “The PPF’s game plan relies on pension schemes becoming better funded so it does not have to pick up the pieces if the employer goes bust.

“It will therefore want the regulator to insist on funding targets that achieve this with plenty of room to spare. Continuing to run the risks that feed into the PPF levy calculation will also come with a price tag for employers as they will be making a bigger contribution to the PPF’s buffer fund.”

The PPF’s funding target will be met by a combination of investment returns, proceeds from the assets of schemes brought into the PPF and by continuing to collect an annual pension protection levy from eligible pension schemes.

Alan Rubenstein, chief executive at the PPF, said: “We think it is important we expose our plans so we can show how we intend to ensure we have the financial resources needed to pay existing levels of compensation to current and future members of the PPF – and become self-sufficient by the time the level of risk to the PPF from future insolvencies has reduced substantially.”

Martin Clarke, executive director of financial risk at the PPF, added: “We believe this will further reassure our members, now and in the future, that their compensation comes from a stable and trusted source.

“It will also provide greater certainty and predictability for those who pay the pension protection levy by clearly showing how we expect to meet our liabilities as the number of levy payers and the real value of levy receipts falls over time.”

Joanne Segars, chief executive of the National Association of Pension Funds (NAPF), said: “The key will be to find a balance between a prudent route to self-sufficiency, and an overly cautious approach that saddles [employers] with higher levies.

“Although the long-term view of self-sufficiency is welcome, vital short-term issues need to be addressed. The PPF is still working on reform of the risk-based levy, and it must get this right over the coming months.”

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