Let’s Talk Pensions

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TFN takes a look at the state of pension deficits in the third sector by asking three experts to answer some basic questions. 

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28th April 2017 by TFN Staff 0 Comments

Save, save, save is the mantra for those who want to enjoy a comfortable old age. But what if you have been saving in a pension scheme for decades? Does that mean you’re safe? Or are pension schemes in such disarray, you are likely to face a bleak future? 

Q: Is the third sector facing a pensions timebomb?

Let’s Talk Pensions

Anjelica Finnegan, policy and research  manager, Charity Finance Group

Pensions deficits have rarely been out of the headlines over the last year. Like all parts of our economy, charities too have been hit hard by rising life expectancy and lower than expected return on investments. 

The latest data the sector shows that the pension deficit has fallen over £100 million to £1.63 billion in 2013-14 from £1.75bn in 2012/13. Of course with the cuts to interest rates and volatility in the market post-Brexit, this figure will fluctuate. 

Do not simply look at the numbers

Charities’ pension deficits are no secret and even more people are aware of the scale of the challenge charities face now that the enhanced disclosure on the Charities Sorp requires charities to disclose their pension deficits up front in the accounts. 

This can spook employees, beneficiaries, supporters and funders alike as the scale of any deficits are now clearly laid out.

But the figures are only half of the story. If you are someone that is concerned about a charity’s pension deficit your first step should be to look at the annual report that accompanies the accounts. It is here that a charity will outline what it is doing to address the deficit and how it will mitigate the risks. 

So what are charities doing to fix the problem? 

Unlike businesses, charities cannot skim money off their profits to address their deficits. Rather they need to find ways to find room in (often dwindling) unrestricted funds.  

There are steps that charities can take, and indeed are taking, to put their schemes on a financially stronger footing. For example, they have reduced benefits, raised contributions, and implemented long-term recovery plans and pledging assets. 

You can find more information about addressing your pension deficit in Navigating the Charity Pension Maze, CFG’s free online guide at cfg.org.uk.

Pension legislation set to change? 

I don’t want to get too technical in this article – but it is also worth pointing out that our current direct benefit pensions legislation is broken. For charities I am thinking in particular of section 75 employer debt in multi-employer schemes. 

p>p>For those charities looking to close such schemes to new members, they are trapped in a catch 22 where they can neither afford to exit the scheme, nor stay in it. This has contributed to charity closures. 

For those readers that are interested in technical detail you can read more about section 75 in a blog I wrote on the issue last November, which you can read at blog.cfg.org.uk.  

I am pleased to say that as of April 2017 there is light at the end of the tunnel. After years of CFG and others in the charity sector fighting for change, the Department of Work and Pensions has produced draft regulations which will allow charities to defer paying a cessation debt if they look to close their multi-employer scheme to future accrual. You can read more in the news section at professionalpensions.com.

This should mean that charities can put in place a plan to make sure they meet the obligations they have to their employees without continuing to incur debt that they will struggle pay. 

Q: My charity has a huge pensions deficit, is the pension scheme about to go bust and leave me penniless in my old age?

Let’s Talk Pensions

Angela Burns, Consulting actuary, Spence & Partners

With pensions often hitting the headlines for the wrong reasons, this is an understandable and not uncommon question. With challenging economic conditions leading to rising deficits, how can we be sure that our pensions are safe?

Fortunately there is a strong system in the UK to protect defined benefit pensions. There are various layers of support that mean that the risk of individuals losing their pension savings is relatively low.

Organisations that provide defined benefit pension schemes have a legal duty to ensure that members will receive their promised benefits. If the scheme has a deficit, this must be made good over an acceptable period of time. The Pensions Regulator provides oversight and ensures that employers are committed to making up any shortfall. The regulator has a number of powers that it can use if it is felt that an organisation is not doing enough, for example demanding additional contributions. With the various legal protections and regulator oversight it is very difficult for an organisation to turn its back its pension commitments.  

Most of the time, a pension scheme sponsor can agree to pay contributions to make good any deficit without any impact on its daily operations. However, in some cases they may be unable to fund the scheme due to financial distress. If an organisation cannot afford to pay for its pension commitments it may become insolvent. How this affects your pension savings will depend on which type of pension scheme you are in. 

If you are in a large scheme with many employers such as the Scottish Voluntary Sector Pension Scheme or some Pensions Trust schemes, then each employer guarantees the pension commitments in the scheme. If your employer becomes insolvent, the remaining employers must stand behind your benefits.

Often there are hundreds of employers participating in these schemes and so the risk of every employer becoming insolvent and being unable to pay for the benefits built up is relatively low. If this happened in practice you may lose some of your pension but most of it would be paid from the Pension Protection Fund (the PPF – see below).

If you participate in a standalone arrangement (such as your organisation’s own scheme), then if your employer became insolvent you would be en​titled to benefits from the PPF.  

The PPF is a bit like an insurance arrangement, in that it pays out benefits to pension scheme members where the employer has gone bust. It doesn’t guarantee the full scheme pension, for example if you are over your scheme’s normal retirement age you will receive your full pension, but if you are younger you will receive 90% of your pension.  Large pensions may be capped, and there are also some changes to future pension increases.

As a result of the regulatory system in the UK and the various layers of protection, although there is always a risk that you might lose out if the pension scheme goes bust, it is a relatively low risk and the PPF is there to protect you.

Q: My charity has a huge pension deficit, is it about to go bust?

Let’s Talk Pensions

Gillian Donald Charities partner, Scott Moncrieff

A good question, which has arisen for many charity trustees and employees because of a change in accounting requirements which means it has become much more visible in the past year. Mostly (not always) these arise when the charity is part of the local government pension scheme.

The answer isn’t a simple yes or no, but depends on two main things: current financial circumstances and expectations of ongoing sustainability. These are referred to as liquidity and solvency.

Liquidity

This means the charity has enough cash to pay the monthly contributions each month. Most charities will have sufficient funds for current commitments and will hold their financial reserves cushion in cash, but many don’t hold the minimum level of reserves they would like to in order to be confident about bumps in the road. So these liabilities may place strain on the charity and it may look to make savings in other areas.  

Solvency

This is where the charity believes over the longer term it can continue to be able to meet its obligations. This will require sound financial projections as evidence which give the trustees assurance and factors in increases in repayments. Since charities don’t set out to make surpluses, there may be limited room to absorb increases in payments in future without some significant changes to the operational model.

Charities have an added complexity in restricted funds – pension liabilities are normally charged against unrestricted funds. The trustees must be confident not just of having sufficient funds, but that they are able to apply them towards the deficit.

Mostly these deficits arise because people are living longer than was expected when they were working, so they are drawing a pension for longer than was expected. This has depleted the funds more than was expected so they are playing catch-up. 

The liabilities are usually allocated across the expected remaining working lives of the members of the scheme, so if your scheme is still open to new members, this can be a really long-term commitment. 

However, if the scheme has closed to new members, the timescale will be the time till the last remaining member’s usual retirement date.    

So it’s definitely not all payable out of this year’s income. But it’s important that you have sufficient confidence about your charity’s ability to generate income in future years to meet the future years’ payments. The charity’s trustees need to include a statement on why they consider the charity to be a going concern and may make specific comment on the pension.  

Finally, the auditors are required to consider the charity’s ability to continue as a going concern. Their opinion will note if there is an uncertainty.  

These are some of the answers trustees and employees are asking themselves. They are not alone – the private sector is grappling with very similar issues. There are no easy answers but the key pillars of liquidity and solvency must be achievable alongside a longer term solution to the open-ended nature of this liability.  

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