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This first appeared in Professional Pensions
The Pension Protection Fund’s (PPF’s) triennial review of the levy rules has fallen at a delicate time for the PPF and the defined benefit (DB) pensions that it protects.
As the Government’s support for businesses unwinds, the consequence of the Covid-19 pandemic on UK companies will be laid bare. Unfortunately, there is little doubt that a raft of insolvencies is going to follow, some of which will inevitably involve underfunded DB pension schemes.
With this outlook, the PPF has a difficult balancing act to perform – setting an increased PPF levy now would help bolster the PPF’s funding position. However, an increase in cost would put additional cashflow strain on those companies already in a precarious position. For this year, at least, it would appear that the scales have been tipped in favour of businesses, with the PPF confident that it is resilient enough to weather the oncoming storm without an immediate increase in levy payments.
For the 2021/22 levy year, the PPF is therefore setting an overall levy estimate of £520m, a reduction of £100m compared to the amount expected for this year (2020/21). This reflects an improvement in the PPF’s pricing of pension liabilities (via a change in its s179 valuation basis), as well as specific concessions for smaller schemes and those paying a particularly large levy.
The PPF’s own analysis shows that, as a result of these changes, around 90% of schemes can expect to see a reduction in their levy (which will be invoiced in Autumn 2021) compared to this year. 43% of schemes might expect a reduction of more than half compared with this year’s invoice.
In recent years, the PPF has been paying closer attention to the levies paid by smaller schemes. There was concern that these schemes did not have the resources to take some of the mitigation actions available to larger schemes, and that the levy paid by these schemes has, in general, been more volatile and higher (as a proportion of liabilities) than the amount paid by larger schemes.
The upshot of these concerns is the “small scheme adjustment”, which will halve the levy paid for the smallest schemes, and provide a reduction of some sorts for any scheme with liabilities under £50 million. Our understanding is that this is intended to be a long-term change, rather than a specific Covid-19 relief measure, though this is clearly welcome news at a time when cashflow is constrained for many businesses.
The financial pressures of Covid-19 have prompted the PPF to introduce another relief measure - a reduction in the limit on the maximum levy a scheme can be charged.
Historically, the risk-based element of the PPF levy has been capped at 0.5% of unstressed liabilities for each scheme. The PPF is proposing to halve this cap to 0.25% to increase the number of schemes afforded protection and to help those companies and schemes in a particularly difficult position in the current climate. Around 1 in 25 schemes is expected to benefit from this easement.
In some sense, this year’s consultation is something of a stop-gap before the actual impact of Covid-19 on UK businesses becomes clearer. At this point, i.e. the start of a new levy triennium, the PPF would usually lay down the levy rules for the next three years which would then remain relatively fixed. But given the economic uncertainty caused by the pandemic, the PPF has sensibly decided to retain some flexibility in the way that it sets the levy rules, and will revisit the calculation on an annual basis for each year of this triennium.
Because the PPF’s insolvency risk model is based on companies’ published accounting data, it will take some time for the impact of the recent economic shock to flow through to the insolvency risk scores of individual employers. When it does though, the impact could be dramatic. Without any change to the levy calculation, levy payers may expect to see a significant increase in the amounts invoiced, with the 2022/23 levy year being the first pinch point.
The PPF’s adaptable approach to setting the levy could provide some mitigation against this, for example an adjustment could be made if the PPF’s funding position remains very strong over the next couple of years. But any flexibility will depend considerably on the claims the PPF actually experiences in the coming months as the number of insolvencies begins to rise.
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Levy-payers should pay close attention now to the metrics being used by the PPF to assess their insolvency risk, and how the events of 2020 are likely to affect their insolvency risk score in the future. Taking mitigation actions now could help to prevent unwelcome surprises with future levy invoices.
Webinar: The new PPF levy triennium – what’s changed?
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