Need for 'managed expectations' remains as USS revaluation proceeds

Out-Law News | 09 Jan 2019 | 10:46 am | 3 min. read

The trustee of the Universities Superannuation Scheme (USS) has begun consulting with institutions on proposed changes to employer and employee contributions based on the latest revaluation of the scheme.

The trustee is seeking the views of Universities UK (UUK) on ways in which contributions could be automatically increased to reflect lower than anticipated short-term investment returns, among other matters. It intends to conclude discussions by 28 February 2019, at which point UUK will consult with the scheme employers that it represents on how to proceed.

USS is currently carrying out an additional revaluation of the scheme's assets and liabilities as at 31 March 2018, after UUK and the Universities and Colleges Union (UCU) rejected funding proposals put forward by the trustee following the scheme's 2017 revaluation. Employers have backed an alternative funding proposal put forward by a joint expert panel (JEP) set up by the UUK and UCU, subject to a proper understanding of the additional financial risks involved.

It has been widely reported that employer contributions would be lower than proposed by the trustee under the joint negotiating committee's alternative proposal. However, public sector pensions expert Nick Stones of Pinsent Masons, the law firm behind, noted that regardless of the final conclusions of the consultation exercise, contributions for both employers and employees would still increase "because of the operation of the rules and the legislation".

"Active members are still going to have to pay more for their pension and the rules have an interesting risk-sharing mechanism. If more money is needed, then the UUK/UCU joint negotiating committee (JNC) has the opportunity to decide how the cost is shared between employer and employee, including the option to reduce future benefits," he said.

"If the JNC does not decide to reduce future benefits, then the extra costs to the employer are offset against the contributions the employers would otherwise make to the defined contribution (DC) part of the scheme. If that is not enough to cover the increase, then the excess costs are split between active members and employers on the ratio of 35:65. The original flaws of the JEP report remain - for example, why should the strong employers carry the weak? Does this create a moral hazard in employer decision-making?" he said.

"Expectations need to be managed. Unions and members need to be aware that the JEP report was not a panacea for their cause and that higher contributions will be necessary. The rate of increase may not be as great in the near-term but the risk of more drastic increases in the future increases. This raises questions of inter-generational fairness between the members: are the younger members at risk in the longer term, and subsidising their older colleagues?" he said.

The USS is the principal pension scheme for academic and senior administrative staff at UK universities and other higher education and research institutions. The scheme, which manages more than £60 billion worth of pension assets on behalf of around 350 employers, was operating at a deficit of around £7.5 billion according to its 2017 valuation exercise, making it 89% funded.

Following the 2017 valuation exercise, the USS proposed a new 35:65 'cost sharing' mechanism through which both member and employer contributions would increase on a staged basis between 1 April 2019 and 1 April 2020. It also proposed closing the defined benefit (DB) section of the scheme to future accrual. The proposals prompted a series of strikes by university staff and led to the setting up of the JEP, whose alternative proposals resulted in the latest, out of cycle, 2018 revaluation exercise, which has now been published in draft form.

In a statement, the USS trustee emphasised that its primary duty was "to ensure the defined pension benefits offered to members are secure and can be paid when due". The final contribution rate to emerge from the 2018 valuation and subsequent negotiations "will depend upon how much more optimistic the scheme's assumptions can be about the future returns from its investments, and how any more optimistic assumptions can be tangibly supported by the scheme's sponsors", it said.

USS intends to proceed with the first round of contribution increases on 1 April 2019, as set out in its original cost-sharing proposal. However, it is hoping that the current exercise "will result in an alternative way forward being agreed by the [JNC] before the significantly higher cost-sharing increases are planned to come into effect from 1 October 2019 onwards".

The final proposal agreed by the JNC and USS must be approved by The Pensions Regulator before it can take effect.

"The trustee's appetite for risk is yet to be revealed, but The Pensions Regulator will watch with interest," Stones said.