Government plans to ramp up scrutiny of ‘final salary’ pension scheme funding could be a “straitjacket” for the industry and scupper hopes that retirees’ cash could be diverted into areas like tech and infrastructure, a pension expert has warned.
The Department for Work and Pensions is consulting on plans to increase scrutiny of final salary – or ‘defined benefit’ (DB) – schemes’ funding and investment strategies and require them to submit plans to The Pensions Regulator, amid concerns over mismanagement.
The plans are designed to safeguard pension savers’ cash in the long run and will look to embed “good practice already seen in the market”, DWP said last month.
But Raj Mody, global head of pensions consulting at big four firm PwC, warned that while the proposals will safeguard members they could restrict the type of asset that pension cash can flow into.
“This is a straitjacket for pension schemes – it is a one size fits all in terms of features of what the end target should look like,” he told City A.M..
“They want your assets to match the cash flows of your pension scheme. So broadly speaking, they want an asset strategy which is going to generate cash to cover the benefits as they need to be paid.”
Mody said that assets which don’t deliver short-term cash flows are “unlikely to fit the bill”.
“There will be limited scope to include assets which rely on a capital return in the long-term future, or where there’s an uncertain investment phase before you start seeing some yield back,” he added.
The plans could run counter to hopes from ministers that the $2.1tn stored up in DB pension schemes could begin to be channelled into non-cash generative areas like early-stage UK tech and infrastructure projects, which do not immediately provide a cash flow.
Mody warned that rather than unlock funding from the schemes, the increased scrutiny could lead to more cash being locked up in pensions.
“Pension schemes are likely to end up with funds surplus to requirements,” he said. “So it’s not just that we’re seeing the baseline bank of assets can’t really be invested freely, and what some might consider as optimally for the economy, but there will be excess assets tucked away in this regime. So the issue is larger because of the spare reserves required.”
In his foreword to the consultation, pensions minister Guy Opperman said however it is not DWP’s intention for schemes to undertake “inappropriate de-risking of their investment approaches”.
“The intention is to have better, and clearer, funding standards, but not to move away from the strengths of a flexible scheme specific approach,” he said.
The tech industry has been calling for ministers to loosen rules on pensions in a bid to unlock a wave of pension cash to fill a funding gap for growing start-ups in the UK.
Speaking to City A.M. earlier this year, Ron Kalifa, who masterminded the government-commissioned Kalifa Review of Fintech last year, said that a “small portion” of pension cash could be diverted to “high growth tech opportunities which would create jobs, help with levelling up and drive international trade.”
The Pensions Regulator told City A.M. the draft regulations embed the concepts of “concepts of supportable risk and liquidity into legislation” and will ensure schemes can take a “scheme specific” approach to their investment while ensuring member benefits are effectively protected.
“The principle that funding and investment risks taken along the journey to the funding and investment strategy should be supportable is already good practice and part of the integrated risk management framework set out in our existing code and guidance,” a spokesperson for the regulator said.