Defined benefit schemes will see the levy paid to the Pension Protection Fund reduced by £420mn in two years, as the lifeboat fund confirms tweaks to its methodology and further work to make legislative changes.
In a policy statement, published on December 13, the PPF confirmed that the levy will be reduced to £200mn in 2023-24, down from £620mn in 2020-21 and £390mn for the current year, as first proposed in September.
The lifeboat predicts that 98 per cent of schemes will pay less levy in 2023-24, “with the majority of schemes paying a risk-based levy seeing it fall by more than half”, said PPF executive director and general counsel David Taylor.
To achieve these cuts, the PPF is making changes to the levy methodology. It will reduce the increments between levy bands to “significantly reduce volatility in levies”, and to cut the risk-based levy scaling factor by 23 per cent and the scheme-based levy multiplier by 10 per cent, it said.
As a result of our strong financial position, and the current level of perceived risk posed to the PPF, we can actively reduce the levy while still ensuring a positive and secure outcome for our current and future members
Oliver Morley, Pension Protection Fund
The lifeboat fund will also be updating its asset and liability stress factors, as the Pensions Regulator is planning to introduce the updated asset categorisation for the 2023 scheme return.
Contributing to the levy reduction was an improvement in the PPF’s funding, which entered a “new phase” in its funding journey, according to a review published in September.
The funding review found that investment performance was well ahead of targets. Combined with levy collection and risk-reduction strategies, it has seen the PPF build up reserves of £11.7bn as of March 31, providing “a high degree of confidence” in the lifeboat’s ability to pay compensation in future.
PPF chief executive Oliver Morley said: “We are pleased to announce that next year’s levy will be reduced by almost half. The industry has told us our proposals are sensible and welcome at a time when there are many financial pressures on employers.
“It is excellent news that as a result of our strong financial position, and the current level of perceived risk posed to the PPF, we can actively reduce the levy while still ensuring a positive and secure outcome for our current and future members.”
More levy changes in the pipeline
For the future, the PPF is planning to reduce the emphasis on insolvency risk and being able to adjust the levy for schemes of varying sizes.
Despite receiving strong support from the industry, “some respondents raised concerns that our proposals might mean larger and stronger schemes would be paying a proportionately greater share of the total levy bill”, Taylor noted.
Given that “levies for almost all schemes are now falling in absolute terms”, this is primarily a concern “in relation to a future scenario where the levy needs to increase substantially”, he explained.
“I want to reassure stakeholders that we see this as genuinely unlikely,” he added.
PPF’s own modelling showed there is only a one in 10 chance of its reserves being less than £10bn in five years’ time – with a similar probability of such a decline over 10 years.
Taylor said: “Our clear expectation is that levies will fall materially over time and the likelihood of our funding strategy requiring us to actively build funds is very low.
“We remain committed to the principle that those schemes that pose more risk, pay more levy. At the same time, it is right that the levy evolves to reflect concerns about volatility and complexity.”
In the consultation, the PPF disclosed it is working with the Department for Work and Pensions “to explore legislative change(s)” to the levy regulations.
The Pensions Act 2004 sets limits on how much levy the lifeboat fund can charge and limits the total increase year on year to 25 per cent.
This would prevent the PPF from charging a levy again if it “ever set a levy estimate of zero and constrains the speed with which the levy can be raised if reduced to a nominal level”, the consultation stated.
In its policy statement, the PPF noted it “received strong support for seeking legislative change to increase flexibility in relation to setting the levy estimate”.
What to do with excess reserves?
Two of the 17 respondents to the PPF’s full consultation highlighted the issue of the lifeboat’s reserves, and what should happen to them if they turned out not to be needed to meet compensation.
The Pensions Act 2004 is silent on what would happen to the reserves if this arose. Despite having “substantial reserves” at present, it “will be many years before it is certain whether they are required or not”, the PPF said.
Nevertheless, in a hypothetical scenario of excess funds, some stakeholders have suggested that the money should be paid back to schemes – “pointing to their contribution to the PPF’s reserves and indeed that they remain on risk if PPF funding falls”, it noted.
PPF: Funding worsened for some schemes due to market turmoil
The Pension Protection Fund is expecting some schemes to have a deterioration in funding due to the forced selling of assets in response to market turmoil, despite the overall improvement in the defined benefit sector, its chief finance officer and chief actuary has said.
Other stakeholders “argued reserves should be used to improve members’ compensation, and indeed that the levy should be maintained at current levels to fund it”, it added.
Taylor said: “Ultimately, what happens is a matter for parliament, as our governing legislation is silent on this issue.
“We will share the feedback from all our stakeholders (both business and members) with our sponsoring department.”
