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Pension scheme funding improvements prompts new approaches

22 August 2014

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Defined benefit (DB) pension schemes should be changing their approach and diverting sponsor contributions into alternative financing strategies as schemes climb towards a healthier funding status.

Aon Hewitt has said that according to its research, many schemes are now over 100% funded.

According to a recent survey of 86 of the firm's clients with recently completed funding valuations, 30% were "substantially" above 100% funded while 42% of them were around 100% on a best estimate basis.

On an accounting basis, around 25% of FTSE 350 schemes are now over 100% funded.

Paul McGlone, Aon Hewitt partner, said: "Pension schemes are clearly not out of the woods but as they seek stability they are doing so from a position which is different to where they were just a few years ago."

He added: "From both cash and accounting perspectives, many sponsoring companies are therefore likely to be pushing back on any demands for further deficit contributions into a scheme.

"Companies and trustees will therefore increasingly view their schemes through different lenses, as the companies see the risk of trapped surplus, while the trustees still see funding deficits because they are required to consider a prudent funding basis.

"Companies will want to consider reducing deficit contributions, but trustees with schemes which are still underfunded on a prudent funding basis are likely to seek other means of security for members' benefits if they are to accept the end of deficit contributions."

More companies are starting to consider alternatives ways to providing security, including escrow, charges over assets, letters of credit, surety bonds and other mechanisms, as they become less keen on paying in cash, said Aon Hewitt partner Lynda Whitney.

The firms survey revealed that 71% of large schemes with liabilities in excess of £1bn and 27% of schemes with liabilities under £100, already have some form of alternative financing, and Whitney said that Aon Hewitt expects these proportions to grow.

Whitney said: "As ever with pensions, there is no one-size-fits-all but we believe that alternative financing solutions are an option that every DB pension scheme should be considering as part of their strategy to reach pensions stability."

First published 21.08.2014