PPF-proposed changes could lead to a large levy hike for some pension schemes

Out-Law News | 02 Jun 2014 | 12:27 pm | 3 min. read

Proposed changes to the way in which the risk of employer insolvency is calculated could result in some providers of defined benefit (DB) pension benefits contributing more to the national 'lifeboat' fund, according to a consultation on the plans.

However the Pension Protection Fund (PPF), which pays compensation to pension scheme members whose employers have gone insolvent and can no longer pay the pensions that they have promised, said that sponsoring employers would be given "ample time" to understand the changes before they are implemented. The consultation paper also sets out possible transitional measures for employers facing a substantial increase in their levy payments as a result of the new model, which was developed in conjunction with credit reference agency Experian.

"We believe the new insolvency model will ultimately provide more discriminative and robust insolvency risk scores, plus offering greater transparency and access to levy payers," said Martin Clarke, the PPF's executive director of financial risk. "But we are determined that levy payers should be an integral part of this change, which is why we are consulting and allowing levy payers time to understand the new model, to check the information held on them and familiarise themselves with their predicted levy."

"The PPF looks forward to engaging with levy payers and other stakeholders over the coming months to ensure the new model is fully integrated and delivering greater accuracy and transparency in assessing insolvency risks," he said.

The PPF is funded by an annual levy paid by eligible DB pension schemes. It provides a certain amount of compensation to members of those schemes when the employer suffers a qualifying insolvency event, and where there are insufficient assets in the pension scheme to cover the amount of compensation that the PPF would pay.

The proposed new system would use a PPF-specific method of calculating the risk of employer insolvency for the first time, recognising that those firms that are still operating DB pension schemes tend to be larger and older than UK companies more generally. It is not designed to change the total amount of levy raised but instead distribute the burden more fairly, with an estimated £230 million of the annual levy reallocated, according to the PPF.

According to the consultation paper, 24% employers contributing to the fund would face an average 150% rise in their share of the annual levy under the proposed new scoring system, while 34% of employers would end up paying less. The consultation also proposes one year's worth of transitional protection for the 1,200 worst affected employers, paid for by higher levies from the others.

Independent assessment of the proposed new model against nine success criteria found that it was superior to generic models in five of them, including the ability to predict insolvency, and just as effective in four, the PPF said.

"The model we have created offers a more accurate assessment of insolvency risk score as for the first time it has been created using historical insolvency data from the universe of PPF employers," said Paul Vescovi of Experian. "It uses variables demonstrated to be most predictive and appropriate for businesses that have eligible defined benefit pension schemes. We will be working closely with the PPF in the upcoming weeks to provide support for levy payers by helping them understand the new score and what it means for them."

The PPF expects to use the new method from October 2014 to calculate levy payments from 2015/16 onwards, it said. It will then be used for at least the next three years. The consultation also proposes new approaches for the treatment of asset-backed contributions, parental guarantees and associated last man standing schemes for levy purposes from this date.

"The new methodology will leave some employers paying more levy, others less, and employers will be keen to work out as soon as possible how the new methodology may affect them," said pensions expert Simon Tyler of Pinsent Masons, the law firm behind Out-Law.com.

"Those seeing an increase in their levy may be keener than ever before to explore with their advisers what steps can be taken to reduce the amount of levy they have to pay. This may take the form of offering the scheme trustees some form of contingent asset, such as a company guarantee; or taking a hard look at how scheme assets can be de-risked," he said.