Occupational Pension Schemes (Funding and Investment Strategy and Amendment) Regulations 2024

Viscount Younger of Leckie Excerpts

Tuesday 26th March 2024 Grand Committee

Moved by

[Viscount Younger of Leckie]

That the Grand Committee do consider the Occupational Pension Schemes (Funding and Investment Strategy and Amendment) Regulations 2024.

Relevant document: 17th Report from the Secondary Legislation Scrutiny Committee

[The Parliamentary Under-Secretary of State, Department for Work and Pensions (Viscount Younger of Leckie) (Con)]

My Lords, these regulations were relaid before the House on 26 February. They bring in new measures that will support trustees and sponsoring employers of defined benefit occupational pension schemes to plan and manage their scheme’s funding over the longer term. The aim of the regulations is to achieve a fair and long-lasting balance between providing security for members of defined benefit schemes and affordability for the sponsoring employer.

I start by giving a bit of background. The UK has the third-largest pension system in the world, with assets of around £2 trillion held in both defined contribution and defined benefit schemes. The pensions sector is an integral part of the UK economy. I will focus on defined benefit pensions and these regulations. Over the last decade, across the Organization for Economic Cooperation and Development, the UK has seen the greatest improvement in defined benefit funding.

There are around 5,000 defined benefit schemes in the UK, and around 9 million people who depend on these pensions when they retire. Defined benefit pension schemes, often referred to as DB schemes, are a promise that scheme members will receive a guaranteed income in retirement, usually paid monthly, for the rest of the member’s life. Between them, UK DB schemes have around £1.4 trillion of assets under management.

Most DB schemes are closed either to new members or to new accruals. This means that they have an increasing number of members who are retired or close to retirement, and either a decreasing number of members or no members at all who will make contributions to the scheme. This is referred to as “maturing” and will change the funding requirements of the scheme. It is therefore extremely important that employers and trustees work together to manage maturing schemes to ensure they can continue to pay members’ pensions.

DB funding levels have improved in recent years through a combination of employers supporting schemes and, more recently, changes to interest rates. The Work and Pensions Committee report on its DB schemes inquiry, published today, recognises the new opportunities and challenges this brings. But financial markets and economic conditions are changeable and funding positions can quickly deteriorate. The Government will respond to the Work and Pensions Committee report in due course, but I reassure noble Lords that these regulations are designed to provide a solid foundation across current and future economic and market environments. This is good news for schemes, members and sponsoring employers, and for the UK economy.

The majority of DB schemes are well managed and supported by their sponsoring employers, but some schemes are not as well run, or are taking an inappropriate level of risk in their approach to investment and funding. This can lead to funding problems developing. Over a quarter of all DB schemes are in deficit on a technical provisions basis. This means that they have a deficit which will need to be repaired to ensure that members get their promised pensions when they are due to be paid—hence the regulations we are debating today.

The regulations build on the current funding regime for DB schemes, embed good practice and provide clearer funding standards. This will help ensure that all DB members have the best possible prospect of getting the benefits they have worked so hard to build paid in full when they fall due.

The consultation attached to these regulations built on extensive discussion, engagement and consultation with the pensions industry going back as far as 2017. This joined-up working is ongoing, with the development of the Pensions Regulator’s draft code of practice through to its most recent consultation on the statement of strategy. We had good engagement with the consultation: 92 responses from a wide variety of organisations across the pensions industry. The industry broadly welcomed the draft regulations but expressed some concerns that they were too prescriptive and could be improved for schemes open to new accrual. We listened, and the regulations before us today take account of that.

A key aspect of this work was the importance of balancing, on the one hand, clear standards for both open and maturing schemes that reflect the best practices that most schemes already follow and, on the other, ensuring that individual schemes have the flexibility to make funding decisions that best suit their own unique circumstances. Also, schemes must continue to be affordable for their sponsoring employers and to pay out all pensions as they fall due. Importantly, we aim to promote better collaboration between sponsors and trustees in the formulation of an overall journey plan. This includes an investment approach that reflects the scheme’s circumstances.

The Pension Schemes Act 2021 introduced new scheme funding requirements for DB schemes and requires DB scheme trustees to prepare a statement setting out the scheme’s funding and investment strategy, which must be submitted to the Pensions Regulator. These regulations are principle-based and set out detailed requirements for the funding and investment strategy. Better information and clearer funding standards will help address the problems the Pensions Regulator has faced in the past and will enable it to be more effective, efficient and proactive in carrying out its statutory functions.

As part of this strategy, all DB schemes will be required to set out their plans for how pension benefits will be paid over the long term. For example, this could be through buyout with an insurer, by entering a superfund or by running on with continued employer support. The strength of this employer support is fundamental. For the first time, these regulations introduce key principles for assessing the strength of the employer covenant. This is an assessment of the financial ability of the employer in relation to its legal requirements to support the scheme.

Schemes are required to have a clear plan along their glide path to maturity and low dependency, so as not to need further employer support by the time they are significantly mature. Schemes are required to reach low employer dependency in reasonably foreseeable circumstances. This embeds existing good practice that funding risks taken by a scheme before they reach maturity must be supportable by the employer, while providing explicitly for open schemes to support more risk, because there is more time for them to address any funding shortfalls.

The best possible protection for a DB member is to be supported by a strong and profitable employer. That is why we have made it clear that recovery plans are to be put in place as soon as the employer can reasonably afford, but this does not mean that the employer must put every free penny into the scheme to the detriment of its growth and other commitments. We believe that this sets an appropriate and sustainable balance while ensuring that schemes get a fair share of available resources.

The funding and investment strategy must be reviewed and, if necessary, revised, alongside each scheme valuation, which is usually every three years. When submitted to the Pensions Regulator, these valuations will be accompanied by a statement of strategy. This will articulate the trustees’ approach to long-term planning and management, as well as their assessment of the implementation of the funding strategy, key risks and mitigations and any lessons learned. Depending on circumstances, the Pensions Regulator now has the flexibility to ask for less detailed information from the schemes to improve long-term planning and avoid unnecessary burdens.

These regulations help drive the Government’s vision to encourage schemes to invest in ways that are productive for the UK economy. They make it clear that schemes have significant flexibility to choose investments while meeting the low-dependency principle. This will help support trustees in reacting to changing circumstances while investing in the best interests of their members.

The pensions industry has welcomed these revised regulations, which are explicitly more accommodating of risk taking, where supported by the employer covenant. They increase the scope for scheme-specific flexibility, including allowing open schemes to take account of new entrants and future accrual when determining when the scheme will reach significant maturity. The Pensions and Lifetime Savings Association recently commented that this is

“a significant set of ‘win’”

for its members.

I move on to the timing of these regulations. They will come into force on 6 April 2024 and a scheme must have a funding and investment strategy within 15 months of the effective date of the first actuarial valuation obtained on or after 22 September 2024. We intend that the Pensions Regulator’s funding code will be laid before Parliament this summer. The regulations, the code and guidance will work in partnership. These regulations will encourage the widespread adoption of existing good practice and help the regulator to intervene more effectively to protect members’ benefits.

I am confident that the Occupational Pension Schemes (Funding and Investment Strategy and Amendment) Regulations 2024 will support schemes and employers to make long-term plans and enable the Pensions Regulator to take effective action when needed. This will help ensure that scheme members get the retirement they have contributed towards and rightly expect. In my view, the provisions in these regulations are compatible with the European Convention on Human Rights. I commend the regulations to the Committee and beg to move.

[Lord Palmer of Childs Hill (LD)]

My Lords, I thank the noble Viscount very much for his normal exposition. I am sure that we will hear a lot more detail from other participants. I will confine myself to some questions rather than go through this large document, which the noble Viscount did not go through in great detail.

First, is there a disproportionate governance burden for small firms? I was worried about how small firms will be able to cope with these new regulations. Secondly, the resolutions will add to the duties of defined benefit schemes. Can the noble Viscount elaborate on how these duties will be dealt with? Thirdly, will the regulations help set out long-term objectives? I was a bit worried about comments that these schemes are all coming to an end and that we are just relying on people sitting in place on the schemes and very few new people, if any, coming in.

Is there a conflict—I could not answer this myself—between the beneficiaries and the employers? The noble Viscount used the phrase “fair balance”. I am not sure that this conflict shows a fair balance. On the duty of trustees to protect the interests of the beneficiaries, can we rely on all these trustees to do so, especially when the schemes are, in effect, stationary and being wound up? Also, there is the impact of the fund being hived off to insurance companies. These funds are hived off so often; will the beneficiaries’ interests really be protected? I think that will be their worry.

Finally, the noble Viscount talked about actuarial valuations. So often they mean that funds keep moneys in reserve, probably more than a commercial firm would have to. Can he comment on that? It is very nice and careful that they do so, but sometimes that might have a negative impact on the beneficiaries. I hope he can give me some answers to those numerous questions.

--- Later in debate ---

[Baroness Sherlock (Lab)]

My Lords, I thank the Minister for his introduction to these regulations and all noble Lords who have spoken for their contributions. I should perhaps say that nothing in my speeches should ever be taken as actuarial advice or indeed advice of any kind, unless you have money to burn. As we have heard, these regulations implement significant changes to the DB scheme-specific funding requirements in association with the revised DB funding code. I will go through what I understand them to be doing—I invite the Minister to correct me if I have it wrong—and I have some questions.

The changes are driven by the recognition that most DB schemes are closed to future accruals and are maturing, which makes the longer-term strategic management of them important if members are to make sure they get their benefits in full when they fall due. The key principles underpinning the changes are a requirement for schemes to be in a state of low dependency on their sponsoring employer by the time they significantly mature, and better trustee engagement and better understanding and accountability between trustees and the regulator.

The regulations require trustees to agree a funding and investment strategy—an FIS—with the sponsoring employer, which will set out that longer-term funding objective and how it will be achieved over the lifespan of the scheme. Schedule 1 then sets out the matters and principles that trustees must have regard to in setting their FIS, and that they have to think about liquidity and unexpected requirements on the journey and after significant maturity, including the strength of the employer covenant, which I will come back to in a moment.

The trustees have to consult the employer on a statement of strategy on progress in achieving their FIS. In the absence of a Keeling schedule—I confess I am slightly obsessed with them—I went back to the Pensions Act 2004. Section 221B states that

“trustees or managers must, as soon as reasonably practicable after determining or revising the scheme’s funding and investment strategy, prepare a written statement of … the scheme’s funding and investment strategy, and … the supplementary matters set out in subsection (2)”.

Paragraphs (a) to (c) of Section 221B(2) say that the supplementary matters are: the extent to which trustees or managers think the funding and investment strategy is being successfully implemented, and if not, what they will do about it; the main risks faced by the scheme in implementing the funding investment strategy and what they are doing about the risks; and their reflections on past decisions and lessons learned. Paragraph (d) adds:

“such other matters as may be prescribed”.

These matters are now prescribed because they are defined by Schedule 2 to these regulations, which specifies the information to be covered in the strategy statement.

I assume this means that TPR will now have discretion on the level of detail it can request from a scheme in relation to the supplementary matters. Otherwise, without that discretion, it would have to rely on its existing powers and the setting of the clearer funding standards in these regulations. Is that a correct assumption? How will the DWP monitor whether the regulator is delivering that higher level of probability for which it is shooting? Are the Government leaving the door open to the prospect of increasing the regulator’s powers? That is an interesting one.

To return to the covenant, Regulation 7 puts the employer covenant assessment on a formal legal footing for the first time. The covenant now appears to be central to the new regulatory framework, rather than being left for the regulator to cover in the code. I presume the intention is for this to be an area of increased focus for trustees. This is welcome, given the increasing importance of covenant strength to the decisions made by trustees, although I suspect the law is catching up with trustee thinking as much as driving it.

However, getting access to enough information to assess the employer covenant is not always easy, and trustees and employers may not always align in their view of the strength of the covenant. The Minister mentioned that change can come quickly. We live in a world where changing markets and the impact of technology, mergers and acquisitions, leveraging and new creditors can all make a material difference to the strength of the covenant in pretty short order. The same forces can also reduce trustee confidence in the strength of the covenant in the longer term.

Regulation 7 requires trustees to assess the strength of the employer covenant, looking at current and future developments and the resilience of the business when they are setting or revising the FIS. As the Minister mentioned, funding deficits must be addressed

“as soon as the employer can reasonably afford”.

But we are also told that the impact on the sustainable growth of the business must be taken into account. Does that not put the trustee in the position of being faced with a push-me pull-you set of regulatory requirements, where the two are pulling in different directions?

Trustees will be required to seek more detailed information from the employer regarding its business. The regulator will provide updated guidance on the covenant, which will set out its expectations of both employers and trustees, and the regulations will clearly require trustees and employers to work more collaboratively in future. I have two questions about this, following the issue flagged up by my noble friend Lady Drake. Because placing the assessment of an employer covenant on a legal basis is novel, we need the Minister to make it clear how the regulator will resolve disagreements between trustees and employers on the current and future strength of the covenant, where that is inhibiting agreement on the FIS. If they cannot agree on the FIS because of different views on the strength of that, what will the regulator do about it? Secondly, will the regulator be able to impose its own view of the covenant on trustees?

Regulation 16 strengthens the requirements on the chair in respect of the strategy statement. It seems that the code has been drafted in a manner which assumes that chairs of trustees are appointed by the trustee board. I believe that there are still occupational schemes where the appointment of the chair is wholly the decision of the employer. Does this carry any implications for the requirements placed on chairs appointed in that way?

The costs incurred by trustees, which are funded by employers, will inevitably increase as a result of this. I am quite sure that the Minister will have read the 13th report of the Secondary Legislation Scrutiny Committee. I will not read it out in detail, but it points out the DWP’s assessment that about 16% of DB schemes had deficits in March 2023. It says:

“The Impact Assessment … claims that, as a result of these Regulations, DB schemes’ aggregate ‘deficit reduction contributions’ could be around £0.26 billion lower over the 10-year period compared to the current situation”.


It goes on to point out a range of issues around this, but what interests me is this:

“We note … that the IA states that it is based on data from March 2021, ‘therefore more recent market developments (particularly the rise in interest rates and gilt yields which impacted the estimated liabilities) are not captured in the modelling.’ In the light of market volatility, the House may wish to explore how robust DWP’s assumptions are about the potential benefits of these Regulations”.


I do not have a dog in this fight, but could the Minister put a response to that on the record? What assurances can he give the Committee in response to the concerns of the Secondary Legislation Scrutiny Committee?

Another point was made by that committee in its 17th report. I think the Minister indicated—or maybe he did not; I cannot remember—that this is a revised version of an instrument originally laid on 29 January. The DWP had to amend the content to amend the commencement date of one of the provisions to ensure that it aligned with the policy intention. Yet again, for the record I note a disappointment that once again we are having another instrument laid because of errors made in the original that needed to be corrected. It is becoming a bit of a pattern, I am afraid. But in this case, it provides us with an opportunity. In its 17th report, the SLSC said at paragraph 7:

“Our 13th Report of this session provided the House with extensive supplementary information on how the obligation is intended to work, and we are disappointed that DWP did not take this opportunity to improve its Explanatory Memorandum”.


Can the Minister explain to the Committee why the Government did not take that opportunity afforded to them by the need to reissue the instrument?

I have two quick points to make that were raised by other Members. First, on the Work and Pensions Select Committee report, the Minister said that the Government would respond to that in due course. I recognise that it has only just come out and they will not be able to. However, there is one point that would be helpful in particular—they will already have thought about this—which is that the committee raised the position of open schemes and relayed concerns that, despite some of the changes that had been made, some open schemes still thought that the new regime could require them to de-risk prematurely. Are the Government confident that they have landed in the right space on this?

Secondly, my noble friend Lady Drake asked a very important question about the regime governing investment by schemes that have reached significant maturity, essentially about whether they will no longer be required to balance cash from investments and liabilities going out. It would be very helpful if we could know about both of those.

I apologise to the Minister that I have, yet again, asked a number of questions, but I am grateful and look forward to his reply.

[Viscount Younger of Leckie (Con)]

My Lords, I thank all those who have spoken in this short debate. As usual, there were a number of specific and quite technical questions, notably from the noble Baroness, Lady Sherlock. I shall do my best to answer them. I think that some of them may be included in some of my rounding-up answers to other questions—but, as she will expect me to, I shall write a letter copying in all Peers if I fail to answer all of them.

Just on the question that the noble Baroness raised about the draft regulations, we outlined in the consultation response, as she alluded to, on 26 January 2024, that we would legislate for the regulations to come into force from April 2024, applying to scheme valuations from September 2024. That recognised feedback through the consultation about the need to give the pensions industry sufficient time to prepare before the requirements took effect. The regulations as drafted meant that one component of the reforms, the recovery plans, would come into effect on 6 April 2024 and not 22 September 2024. Since laying the regulations, we have recognised that this has the potential to cause confusion and additional administrative requirements for schemes. That is why we withdrew the regulations and relaid a revised version.

For clarity, we made two changes to the regulations. The first amendment was to ensure that the changes to recovery plans took effect only when the effective date of the actuarial valuation to which the recovery plan relates is on or after 22 September 2024. The second, in light of the first, is to clarify that changes which relate to actuarial valuations and reports also apply only on or after 22 September 2024. I reassure the noble Baroness that no other changes were made. These changes restate our intention to give sponsoring employers, scheme trustees and managers the same amount of time to prepare for the new requirements in the recovery plan.

I do not believe that I have an answer to the Explanatory Memorandum question, but I shall see whether I can address that before my remarks have concluded.

--- Later in debate ---

[Viscount Younger of Leckie (Con)]

Yes, I will do my best to do so. Regarding the Explanatory Memorandum, as outlined, because the changes here were focused on clarifying the date on which the regulations came into effect, the changes to the Explanatory Memorandum were limited to reflect the change. We shall note the feedback for future SIs. That is my answer but let me reflect on it; I might well be able to enhance it in the letter that I am clearly going to have to write.

[Baroness Sherlock (Lab)]

I will not interrupt further but, just to clarify the question, the point the committee was making was not that the Explanatory Memorandum needed to be changed to reflect the changes in the instrument itself. It was that, since the department was having to relay the whole thing, why not take the opportunity to do a better job of the EM? That is all.

[Viscount Younger of Leckie (Con)]

Absolutely. I think I have already indicated that lessons have been learned. From my point of view, I regret that we fell down on the Explanatory Memorandum and that we had to relay the regulations. Just for the record, I wanted to say that.

With that, I hope that we can take these regulations forward.

Motion agreed.