This is an extract of the text which appeared in the Talking Heads feature of Pensions Week on 4 July 2011

‘The main change being introduced to IAS19 is that the expected return on assets will be calculated with reference to corporate bond yields, rather than the expected return on the assets actually held by the scheme. This will serve to reduce the attractiveness of investing in risky assets, as the expected return from those assets can no longer be offset against pension costs in the company accounts. Whether this will filter through to a change in investment strategy for many schemes remains to be seen. The impact on company accounts is but one of myriad considerations companies and trustees navigate when determining a suitable investment strategy.The financial crisis and subsequent market recovery has meant many schemes have already reduced the level of risky assets held, while many others are entering into a long-term period of gradual derisking. A knee-jerk change in investment strategy as a result of a change in accounting standards seems unlikely.

The second change relates to the way in which experience gains and losses are allowed for each year.As these often even out over time, companies were previously allowed to defer recognition of experience items comprising up to 10%of the assets or liabilities. This ‘corridor’ option is being removed, which will lead to more volatility on company balance sheets. The change in behaviour driven by the removal of this option is likely to be minimal. Many companies do not use the corridor approach and most analysts already adjust the figures to allow for the full actuarial gain and loss.’

As the nights draw in and the trains grind to a halt under 4 inches of snow, trustees may want to take a moment to reflect on the year that was.

2010 was a big year for the industry and hardly a week went by where pensions weren’t in the headlines. There isn’t space here to pick up all the year’s events but there are a number which stood out as having major implications for trustees during 2010 and into 2011.

On 28 January, Angela Eagle announced the government’s intention to bring forward legislation requiring pension schemes to equalise Guaranteed Minimum Pensions (GMP) benefits for males and females.  For most in the industry, GMP equalisation was seen as an unnecessary additional burden on already struggling schemes. 

Some argued that GMP equalisation is a straightforward exercise and ought not to incur significant additional costs but this is only true when the data is available and in a format which makes it possible to carry out the calculations. For many schemes, this data is not in electronic format, is incorrect or has been lost in the mists of time.

Data was a big issue as far back as February, when the Pensions Regulator issued a consultation paper regarding standards in record keeping. This theme continued with the implementation of targets for data accuracy by 2012 announced in June.

While the guidance and targets perhaps did not go far enough, having a clean, accurate and transportable data set is crucial to efficient administration and accurate valuation of a pension scheme and the fact that the regulator has put this high on the agenda is to be applauded. 

The time taken to review and correct scheme data – often passed down through the years between different administration firms – should not be underestimated and trustees ought to be looking at obtaining a report on their data and getting the process underway early in the New Year if they haven’t already started.

By the time we reached the summer, changes to pension regulations and new regulator’s guidance were coming through at a gallop. 

In June, the regulator issued guidance stressing the importance of reviewing and monitoring the employer covenant. As anyone who read my last schemeXpert.com column will know, my feeling is that the employer covenant is one of the biggest risks posed to pension schemes and that this should, therefore, feature high on trustees’ agendas, forming the cornerstone for investment and funding decisions.

Perhaps the biggest announcement of the summer came in July, with the change from RPI to CPI as the measure for price inflation for the purposes of calculating statutory pre and post retirement pension increases.

There is still uncertainty over exactly how the legislation will be applied but the hope is that it will be applied across the board so that trustees are not stuck with the predicament of having to commission an extensive review of their rules and other scheme documents to determine the increases that ought to be paid.

Also in July, the regulator published revised guidance on enhanced transfer value (ETV) exercises and renewed their assertion that these exercises should be treated with caution by trustees. 

The most important point to take away from the guidance was that relating to member correspondence – it is crucial that the trustees review correspondence being sent to members as part of any such exercise and satisfy themselves that it is clear, accurate and is set out in a way that members will understand the choice that they are making.

A consultation document issued by the DWP at the end of July seemed to indicate that no transfers of GMPs or of post-1997 contracted-out rights will be permitted from DB pension schemes to either occupational DC pension schemes or to personal pensions from 6 April 2012. 

This had been expected to result in a flurry of ETV activity in the run up to 2012 however, illustrating the ever changing nature of the regulatory environment, the DWP announced at the end of November that transfers from contracted out DB schemes to non-contracted out schemes will be permitted after contracting-out on a DC basis is abolished.

Add to this the proposed changes to PPF levies, the end of A-day transitional arrangements and the revised Lifetime and Annual Allowances and 2011 is already shaping up to be a busy year. 

With all this activity, it is more important than ever that trustees, sponsoring employers and advisors communicate with each other to understand the specific impact of each change on their scheme and deal with it in a pragmatic and timely manner, appropriate to the circumstances of that particular scheme.

As we draw 2010 to a close, may I take this opportunity to applaud everyone in the industry – from employers and lay trustees, through to scheme actuaries, consultants and professional trustees for the innovation and dogged determination that has been shown in guiding schemes through what has undoubtedly been a challenging year.

Marian Elliott is director at Atkin & Co

Well, maybe not quite…..but there is only one circumstance in which members’ accrued benefits will be reduced and that is the failure of the scheme sponsor.

If investment returns fail to live up to expectations and you have a sponsor who is willing and able to make up the difference, members’ benefits remain secure.

If the government introduces changes which make funding schemes more expensive and the employer can pick up the tab, members’ benefits remain secure.

If a cure for cancer is found and average life expectancy goes up to 110 – as long as you have a sponsor who is able to meet the cost of paying out pensions for 45 years, members’ benefits remain secure.

The strength (or otherwise) of the scheme sponsor should, therefore, be a pivotal concern for trustees in forming the basis for investment and funding discussions. Trustees ought to monitor the employer covenant at least as closely as they monitor the funding level or investment performance.

The way in which the covenant is measured, however, should be meaningful and this means that the trustees should get to grips with where the main risks are that could impact on the strength of the sponsor and what would happen to the scheme in the worst case scenario.

Forget a traffic light or rating system – trustees need real facts and figures to assess the impact on their scheme in a range of potential circumstances. 

Trustees need to be asking for better advice from providers and this includes covenant reviewers – don’t let them leave until you understand how much your scheme would be able to recover if the company fell over tomorrow, what could cause this to happen and what measures you could put in place to protect or increase the assets available to the scheme if this was to happen.

This should then filter through to other advisors. It is no good having all of this information and then letting your actuary carry out a funding valuation without fully understanding the nature of the employer covenant. Investment advisors should look not only at the scheme liabilities when proposing a sensible investment strategy, but also at the employer covenant. 

All of these areas are inter-linked and, to some extent, are meaningless on their own.  Advisors therefore need to place a greater emphasis on working together to present the trustees with coherent, co-ordinated, big picture advice.

The importance of monitoring the covenant has been highlighted by the Regulator and discussed at length but there is another angle to this as well – trustees should look after their sponsor and its covenant. It is, in some cases, the pension scheme’s greatest asset and should be treated with care.

A trustee’s main duty is to protect the benefits that members have accrued in their pension scheme but they also have a secondary duty to the employer who set up the scheme in the first place.

There are many ways in which trustees can make life easier for the sponsoring employer and even increase the company assets available to fund members’ benefits:

• Question and review your consultants and advisors: Do you really need a 50 page report on the flavour of the month? Is there a more efficient way of doing things? By reducing fees and introducing efficiency savings, by definition more funds are available to go towards securing members’ benefits.
• Look for innovative ways to fund the scheme: Can members’ benefits be made more secure by arranging a charge over an asset, parent company guarantee or negative pledge in order to avoid the need to demand cash from cash-strapped companies?
• Recognise that both parties are trying to achieve the same thing: to secure members’ benefits as efficiently as possible. If entrenched positions are taken at outset, this can lead to higher costs and worse outcomes.
• Educate the sponsor: In many cases, sponsors are not given access to the range of educational material, networking opportunities and offers of help and support that trustees are.  Perhaps invite the FD along to the next conference you attend. This may help to give them an insight into the real difficulties faced by trustees.

Over the last year or two, it has been heartening to see more trustees and companies entering into this spirit of co-operation in the realisation that, while the sponsor poses one of the biggest risks to the scheme, it is also one of its closest allies.