12 April 2012
Background to this Update
The funding standard for defined benefit pension schemes has been in abeyance for some time. On 28 October 2011, the Irish Government announced changes to the funding standard. Legislation to effect those changes has since been awaited. On 5 April 2012, the Bill was finally published incorporating some of the proposed changes to defined benefit pension schemes.
The Government plans to introduce a risk reserve requirement over an extended period of time from the re-introduction of the funding standard. The Department of Social Protection issued an accompanying press release to the Bill which states that the requirement to provide for a risk reserve will take effect from 1 January 2016. Some of the previously proposed changes have not been included in the Bill, the notable omissions being the proposed adjustments to the priority order on winding up in deficit and the proposed Pension Board powers to direct the winding up of schemes in certain circumstances. The long-term fate of these proposals is not yet entirely clear and they are not mentioned in the press release.
Sections 8 to 26 of the Bill provide for the amendment of the Pensions Act 1990 which will give effect to the changes with the intention of strengthening the regulatory structure of defined benefit pension schemes to protect scheme members.
Summary of Defined Benefit Pension Changes Proposed in the Bill
- In addition to maintaining sufficient assets to meet the liabilities of a pension scheme, the changes will require the trustees to hold a risk reserve.
The risk reserve will be the aggregate of two amounts:
- 15% (this percentage may be prescribed to be anywhere between 0% and up to 50%) of the amount of the funding standard liabilities less the value of EU bonds and cash (and any other prescribed assets) held and
- The amount by which the funding standard liabilities would increase on the effective date if there was a 0.5% fall in interest rates (interest rate fall may be prescribed to be anywhere between 0% and up to 5%) subject to an offset as prescribed.
- Trustees will be required to submit an actuarial funding reserve certificate to the Pensions Board in addition to an actuarial funding certificate.
- Subject to certain exceptions, a funding proposal must be submitted to the Pensions Board to restore funding by the next funding certificate date if either the actuarial funding certificate or the actuarial funding reserve certificate indicates that the scheme has failed to meet the funding requirements.
- Trustees will be required to report to the Pensions Board within a specified timeframe on the measures taken to restructure scheme benefits following the issue of a notice by the Board under Section 50 of the Pensions Act.
- Trustees will have to include a statement in their annual report indicating whether or not the scheme satisfies the funding standard reserve requirements. If not it must notify the Pensions Board within a time limit which may be specified by the Minister.
- On or after 1 January 2016, Trustee consent will be required to an early retirement application where the actuary is not satisfied that the scheme would satisfy the funding standard reserve requirements on the date retirement commences.
The proposed changes contained in the Bill, if enacted as currently drafted, will have quite profound consequences for sponsoring employers and trustees of defined benefit pension schemes, particularly in relation to pension scheme investments, the potential need for additional funding injections and/or the consideration and use of alternative funding methods (e.g. enforceable employer guarantees).
The risk reserve, which was widely flagged in advance, is similar in concept to the current stress test which is implemented on an application to the Pensions Board to reduce benefits under Section 50 of the Pensions Act. It is not, therefore, an entirely new idea. However, the impact of the risk reserve will be applicable to all defined benefit schemes on an on-going basis with all its implications, and not just in respect of a one-off Section 50 application. Trustees will need to plan for the additional administration requirements, e.g. in relation to the preparation of actuarial funding reserve certificates and their annual reports. While the proposals may lead to a strengthening of schemes which are in a position to comply, it seems inevitable that many other schemes will simply not survive the new funding reserve requirements either at all or without some creative thinking (e.g. in relation to enforceable alternative funding methods and pension scheme investments).
It is not clear why all of the Government-approved changes as announced in October 2011 have not been included in the Bill. The proposed change to the priority order was one change that could have led to more fairness and equity between members of defined benefit pension schemes winding up in deficit and its omission would appear to be a missed opportunity in that regard. We now await the passage of the Bill through the Houses of the Oireachtas and we will chart any changes which may creep in to the final Act. We will issue a further update when the Act is signed in to law.
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The content of this article is provided for information purposes only and does not constitute legal or other advice. Mason Hayes & Curran (www.mhc.ie) is a leading business law firm with offices in Dublin, London and New York. © Copyright Mason Hayes & Curran 2012. All rights reserved.