Recent movements in markets and upcoming changes in Defined Benefit funding regulations are putting pressure on Social Housing Pension Scheme (SHPS) funding levels. Our pensions advisers Isio discuss recent and upcoming developments and outline the current considerations to take on board.
Despite these pressures, FRS 102 positions at 31 March 2020 have looked better than perhaps anticipated. This update considers:
The SHPS Scheme funding level at the 30 September 2017 valuation was 75% with a deficit of £1.5bn (liabilities of £6.1bn less assets of £4.6bn). This funding level had crept up to 78% at 31 December 2019, with an estimated deficit of £1.4bn (liabilities of £6.1bn less assets of £4.7bn).
However, the funding level fell during March and April to around 70% with an estimated deficit of around £1.7bn (liabilities of around £6.1bn less assets of around £4.4bn). This is despite £371m of contributions being paid in by employers since September 2017.
With the Pensions Regulator’s new Defined Benefit (DB) Funding Code of Practice in consultation, many sponsoring employers are already going to be under pressure to pay more money in, more quickly.
Any latitude offered by the regulator for contributions payable during the current economic emergency will not resolve the need for more funding in future. The NHF, supported by Isio, is taking the lead by meeting with the regulator to discuss how the housing sector might best be represented and how factors such as strong covenant are to be reflected in any new funding schedule.
As things stand, contributions would need to increase significantly (Isio estimates an increase of between three and five times with no mitigating action). Employers may want to prepare individually by understanding the possible outcomes and solutions. Please contact the NHF or Isio if you would like to discuss this further.
Note that this funding code will also affect organisations with their own DB trust, but will not directly impact the Local Government Pension Scheme (LGPS) as this is set up under separate regulations.
Organisations are recognising in their accounts the SHPS position at 31 March 2020 when measured on an FRS 102 basis. This will be different from the funding position above, given that the FRS 102 liabilities are marked to corporate bond yields rather than government bonds, and in general the deficit has not increased by as much (and in many cases has reduced).
The main driver in the liability change this year is the CPI inflation assumption. Across all durations, this is around 0.7% p.a. lower than last year. This has been mainly driven by the effects of coronavirus on the markets, as the majority of this fall in assumption has occurred in 2020.
Corporate bond spreads above government bonds peaked at the end of March, leading to a divergence between funding and accounting measures.
Once these are coupled with The Pensions Trust’s change in methodology for discount rate (increasing the discount rate, and thus reducing liabilities), and also an update in mortality assumptions, you could expect to see liability values that are in the region of 15% smaller than last year and net deficit figures which are similar or improved from 2019.
Giving employers the flexibility they need is not easy in a multi-employer scheme. If you are in SHPS (or LGPS) your investment strategy is the same as everyone else’s, but it might not be what you would choose were you to have your own. Recent falls in funding levels will cause housing associations to reflect on what investment strategy it would choose for itself, and take action to if you can in order to be prepared for future market shocks.
Outside of SHPS, it is also possible to make use of funding structures such as security and asset backed funding, as well as carry out member options exercises to bring down liabilities. This control of assets and liabilities can lead to significant value gain over and above the cost of implementation. A bespoke funding arrangement can also bring down the pace of contributions and act against the upward pressures from markets and the Pensions Regulator’s new funding code considered above.
The right strategy for an organisation will depend on your own profile and should be considered as part of an overall review of options and business objectives.