UK: A Briefing For Occupational Pension Scheme Trustees And Their Advisers

Consultation on the switch to using CPI rather than RPI

The Government has asked for views on its consultation in respect of the Consumer Price Index (CPI). The Government is not proposing to give pension schemes any statutory help in adopting CPI rather than the Retail Price Index (RPI) as it feels it would undermine confidence in pension schemes. CPI is generally lower than RPI, so using this in calculations would provide members with lower benefits.

The wording of individual scheme rules will significantly affect whether CPI can be applied or not. Schemes that have rules that specifically refer to RPI face some additional work to investigate whether the change is possible. In general, it is unusual to make a rule change in relation to past benefits. However, it would be prudent for schemes to check their rules to see what they say. Be aware that different groups of members may have differently worded parts of the rules.

The result is likely to be that CPI will apply less widely than if the Government were to impose it on schemes with an override or create a statutory power of amendment to make it easier for schemes to introduce it. The Government's paper can be viewed at www.dwp.gov.uk/docs/cpi-privatepensions- consultation.pdf

Transfer incentives

The Pension Regulator's (TPR) final guidance on incentivised risk reduction has not substantially altered from the consultation document mentioned in our autumn 2010 newsletter.

There are some clarifications in the final document, but TPR still makes it clear that it remains concerned about members being induced to transfer out against their best interests. However, some members may actually benefit, for example, where there are no dependents to receive survivors' benefits on the death of the member. Trustees should also be happy that members who are excluded from, or decline the offer in the incentive exercise, do not end up in a worse position.

Multi-employer schemes and employer departures

TPR has issued updated guidance for trustees and employers of multi-employer schemes to explain what happens when an employer's involvement in such a scheme comes to an end.

An employer's departure will often trigger a statutory obligation for it to pay its share of the scheme's liabilities valued on a buyout basis, the most expensive of the ways for a liability to be valued. This obligation is often called the 'section 75 debt' or the 'employer debt'.

The trustees should always consider, as a starting point, that the employer should pay the section 75 debt in full. Legislation does allow a number of options to defer or reallocate the liability that may be available in certain circumstances. However, they involve meeting detailed conditions. TPR has set these out in its guidance along with its expectations of trustees and employers in moving towards these options.

The employer ceases to be involved with a scheme in a number of circumstances:

• it ceases to employ an active member of the scheme
• an insolvency event occurs
• the scheme begins winding up.

Clarified ISAs

For scheme years ending on or after 15 December 2010, clarified International Standards on Auditing (ISAs) must be applied by scheme auditors in carrying out their work. There have been a number of areas of change resulting from the clarification process.

• Increased procedures and documentation in relation to related parties and related party transactions.
• Increased procedures and documentation in relation to auditing areas where service organisations are used or outsourcing is undertaken by the trustees. This includes all areas where the scheme administrator and investment managers are involved.
• An increased emphasis on using the work of experts (including the scheme actuary) and a consequential increase in procedures and documentation in relation to the work of these experts.

Pensions Bill published

The Government recently introduced the Pensions Bill 2011 to the House of Lords. Once it has gone through due process, it will put into law the increase in state pension age (SPA) and the changes to auto-enrolment recommended by the 2012 review team.

The timetable for increasing SPA from 65 to 66 will be amended so that this increases for both men and women between December 2018 and April 2020. SPA for women is currently rising from 60 to 65 by November 2018.

The changes to auto-enrolment include the following.

• Introducing an earnings trigger at which point the employee becomes eligible for auto-enrolment. The trigger is due to be set at £7,475.
• Employers having the option to delay auto-enrolment by three months under certain circumstances. However, employees can opt-in during this period.

Scrapping of the default retirement age

The Government has announced that it will press ahead to scrap the default retirement age (DRA) this year by phasing it out between April and October 2011. This will mean that employers will no longer be able to compel employees over 65 to retire unless the employer can justify the age for reasons such as health and safety.

Increasing longevity and the fact that people aren't saving enough for their retirement means that everyone needs to work for longer. Removing this barrier to working longer will allow people to work for a few more years and enable them to save more.

However, for many employers the transition away from DRA will be a difficult one, so the announcement of such a short time period to phase it out will be unwelcome to some employers. Acas has published guidance for employers on managing retirement processes without DRA.

Accounting implications of the replacement of RPI with CPI

UITF Abstract 48 'Accounting implications of the replacement of the Retail Prices Index with the Consumer Prices Index for Retirement Benefits' was issued on 17 December 2010. The abstract had immediate effect from the date of issue.

The UITF can only issue interpretations of UK GAAP, however, the abstract will also be useful for companies that prepare their accounts under International Financial Reporting Standards (IFRS) as it is unlikely that the IFRS Interpretations Committee (IFRS IC) will issue an interpretation of IAS 19 which addresses what is a country-specific issue.

Accounting for the change in the inflation measure is dependent on whether the entity has a specific obligation to pay pensions with increases based on RPI, or more generally with inflation-linked increases.

Where the scheme liabilities are linked to RPI, any change to these liabilities will generally require the agreement of either the retirement benefit scheme trustees and/ or the members of the scheme. In these circumstances the UITF abstract requires that the change is treated as a 'change in benefit' and gives rise to a past service cost in accordance with FRS 17. The past service cost should be recognised in the profit and loss account in the accounting period when necessary consultations have been concluded, i.e. the period in which the necessary consultations have been concluded or employees' valid expectations have been changed.

If the scheme liabilities are not linked to RPI then a change to CPI is treated as a 'change in the assumption' about inflation used to measure the liabilities and it therefore represents an actuarial gain or loss in accordance with FRS 17. The change in the scheme liabilities should be recognised in the statement of total recognised gains and losses and should be recognised in the first accounting period ending on or after 8 July 2010 (the date of the ministerial announcement). This treatment is consistent with paragraph 23 of FRS 17, which requires that an entity should use assumptions that reflect market expectations at the balance sheet date. The announcement on 8 July 2010 forms a reasonable basis for a change in these market expectations.

Disclosures should be made in the accounts that explain the effect of changes in the scheme's liabilities arising as a consequence of the replacement of RPI with CPI.

PPF changes levy framework

The Pension Protection Fund (PPF) announced on 31 January 2011 that it is going to implement a new levy framework from 2012/13.

• The new deadline for submitting information for the 2012/13 levy is 31 March 2012.
• The levy scaling factor which is used to calculate individual levy bills for the first three years under the new framework will be set using information provided to the PPF by 31 March 2011.
• If the PPF implements transitional protection, it will be based on employer insolvency scores at 31 March 2011.
• The later deadlines currently in place for submitting deficit reduction certificates and block transfer information will remain in place.

Electronic communications to members

From 1 December 2010, schemes have the option of sending members information about their benefits by email. Trustees can use email and website postings as the default method of communication for the bulk of the information that they have to give to members and other beneficiaries.

The following conditions have to be met.

• Information must be in a form that can be accessed and either be printed or stored, and disabled members' needs must be taken into account.
• The trustees must notify, by post, all those who are members and beneficiaries as at 1 December 2010 of the proposal to use electronic means in future.
• Every recipient must have the option to be able to opt out of receiving it electronically.
• Recipients must be told when any materials are posted on a website (e.g. the annual accounts).

Members can still use post to communicate with trustees if they want to.

The potential impact of IFRS

IFRS only currently apply to entities listed on a stock exchange. However, in the future these will also apply to publicly accountable bodies and, according to the Accounting Standards Board (ASB) these include pension schemes. As a result, pension schemes will have to apply IFRS to their accounts.

Currently, the pensions Statement of Recommended Practice (SORP) does not fully comply so will need to be updated to show the implications of IFRS for pension schemes. There are a number of potential impacts.

Investment accounting

• A disclosure of pricing hierarchy will be required (easy to price with a liquid market, moderately difficult to price with a limited visible market and difficult to price with a lack of a liquid market).
• Stripping transaction costs out of purchases and expensing them through the fund account will need to take place.
• Schemes will need to provide extensive risk disclosures (see below).
• They will have to use effective yield interest accounting (see below).
• If schemes have a specific investment fund designed for them, where they are the majority holder of that investment, IFRS requires that this is consolidated into the accounts of the scheme (rather than merely being shown as an investment in the notes to the accounts). This is a complex area and would require significant changes to the accounting for this investment.

Risk disclosures

Disclosure would be required for both qualitative risks (including risk management objectives, policies and processes) and quantitative risks (including credit risk, credit quality and market risk) for the exposure at the year end together with the exposure during the year if the year end is not representative of the risk exposure during the year.

Effective yield interest accounting

Schemes would have to amortise the difference between the cost and ultimate redemption value of any bonds they purchase. Currently they only account for any interest and the change in market value of bonds. The net effect (where the redemption value is higher than the current market value) is to increase investment income and decrease change in market value.

Scheme liabilities

Under IAS 26 there are three options for dealing with pension scheme liabilities:

1. fully include and create a balance sheet

2. disclose information on the liabilities in the notes to the accounts

3. include information about the liabilities in a separate report attached to the annual report.

The last option is currently the one included in the pension SORP. However, the ASB has stated in the past that its preferred option is to fully include liabilities on a balance sheet. As this is an option under IFRS we may well see the debate around this reopening in the near future.

The current timeline for convergence of the UK to IFRS is that IFRS will apply for periods commencing on or after 1 July 2013. So that translates into December year ends of 31 December 2014 and March year ends of 31 March 2015. Opening balances at 1 January 2013 would be required for the December year ends noted above.

Financial benchmarking survey for DB pension schemes 2011

Now in its third year, Smith & Williamson's survey of defined benefit pension schemes, provides valuable information for trustees and scheme advisers across the UK.

The survey will again include information across all financial aspects of schemes.

Survey highlights

• Comprehensive data on all financial aspects of your scheme
• Comparison with schemes of a similar size
• Trends against all schemes in the Survey
• Commentary and analysis from our pensions experts
• Expectations for trends in 2011

Accurate and reliable data

Designed and produced by pension specialists, the survey report provides an analytical approach to scheme data. Its clear commentary makes the facts and figures easy to follow, and sets the information in context to help inform trustee decisions.

To provide meaningful comparisons, we segment the data by scheme size (based on member numbers) using the same categories that TPR uses in its surveys.

Participating in the survey

The cost of participating in the survey is £155. However, if you are already a client of Smith & Williamson the survey is free. Book by 31 March to receive a £60 discount.

Survey on scheme confidence

The Society of Pension Consultants held an informal survey at its 2010 conference. Some of the results are summarised below.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.