Pension scheme consolidators or 'superfunds'

The DWP has recently consulted on so-called pensions 'superfunds'. What are they and what is the regulatory regime being considered?

20 March 2019

What is a 'superfund'?

A superfund is a commercial consolidation vehicle for individual defined benefit pension schemes. Employers can use them to sever links with their occupational DB scheme. They can deliver economies of scale, provide high standards of governance, and (arguably) reduce the risks faced by smaller, individual schemes which rely on the strength of their employer (covenant).

How do they work?

The assets and liabilities of an existing (closed) scheme would bulk transfer to the superfund. On transfer, the transferring scheme would sever its relationship with the sponsoring employer and existing trustees. The employer covenant is replaced by a financial covenant involving a capital buffer and on the basis of improved funding compared to the original scheme. The employer would pay an entrance fee to facilitate this. For example, the superfund might accept a transfer only on the basis of full funding on a prudent basis with a contribution from the ceding employer to a capital buffer fund.

The financial covenant would provide a buffer against worse than expected performance. Rewards from out-performance of the fund would depend on the consolidator's design but could be shared between capital investors and scheme members on a periodic basis or after members’ benefits had been secured with an insurer.

Superfunds will most likely be structured with a scheme employer of a defined benefit scheme, which would in turn be governed by a board of trustees. Employer covenant would be replaced by a capital buffer, comprising capital from investors and potentially entry fees from transferring employers. Actuarial and administration services could be provided in-house, or externally.

The DWP wants superfunds to be highly regulated.

Are there any superfunds already in the market?

Yes – two providers have entered the market so far: The Pension SuperFund, and Clara Pensions. They are structured, and are intended to operate, on different bases.

The Pension SuperFund is a non-sectionalised scheme, with fully pooled assets and liabilities to maximise risk dilution. Benefits would be administered on the basis of the original benefit structure for each of the ceding schemes. Schemes would be accepted on a 100 per cent prudent (above PPF and technical provisions) funded basis plus a 5 per cent contribution to a capital buffer. It is intended that The Pensions SuperFund would run on an ongoing, self-sufficiency basis.

Clara Pensions is a collectively administered sectionalised scheme, and is intended to operate as a 'bridge' to buy out. Sections would be managed in tandem, with economies of scale and lower investment risks meaning that buy-out would be achieved more quickly and at lower risk than a single scheme operating in isolation.

DWP Consultation

While transfers into superfunds could be made under existing bulk transfer legislation, the DWP has concerns over whether the existing regulatory regime is robust enough to protect member benefits, and therefore consulted on how providers should be regulated and authorised, and how superfunds might interact with existing de-risking solutions.

In particular, the DWP raised questions as to:

  • How should a 'superfund' be defined?
  • What would the risk profile be – whether it would be a different risk rather than a lower one (for example, would it give rise to 'concentration' risk in the event of a fund failure?)
  • What should the criteria for transferring schemes be?:
    • what if the transferring scheme is capable of buy-out?
    • what if the ceding employer is capable of ongoing support?
    • should a superfund provide better security for members (rather than just equal) before trustees can agree to transfer a scheme?
  • What would the impact be on the buy-out market and the FCA regulatory regime?

Broadly speaking, the DWP proposed that the regulatory regime for superfunds will parallel the equivalent framework for master trusts, in particular in relation to systems and processes, authorisation requirements, the 'fit and proper persons' test and significant events reporting. However, it sees a number of additional areas relating to fund structure and governance which it believes will need a regulatory framework and on which it invited responses in the consultation.

In particular, the DWP consultation posed questions on:

  • the potential for regulatory arbitrage within the insurance / buy-out market
  • whether superfunds should be permitted to use Scottish Limited Partnerships as part of their corporate structure
  • what standards of governance should be required
  • how members should best be represented
  • how the financial sustainability of the model can be assured
  • what, if any, triggering events should exist
  • whether superfunds should be required to operate on a sectionalised basis only
  • what the framework should be for access to the capital buffer
  • what the 'gateway' framework should be for transferring funds (e.g. should funds be permitted to transfer to a superfund if they are or are likely to become capable of achieving buy-out?).

What next?

The consultation closed on 1 February 2019 and it will be interesting to see what policy decisions the DWP makes. The large number of questions in the consultation reflects that this is a significant development in the market and that the DWP has not fully decided how superfunds should best be regulated. There is appetite in the industry for a more affordable alternative to buy-out (or a more affordable way of achieving buy-out), and it will be helpful for certain employers to have a means of securing members' pension benefits and bringing their obligations to their legacy schemes to an end.

Security of member benefits must remain central to any regulatory regime or superfund.

It is not clear when relevant legislation is likely to be passed, but in the meantime, providers in the market will work closely with the Pensions Regulator in developing their offerings, and sponsoring employers are expected to apply for clearance for all proposed transfers.

This article was written by Amy Davies (Associate).

Key contact

Alice Honeywill

Alice Honeywill Partner

  • Pensions Services
  • Pensions Regulatory
  • Public Sector Pension Schemes

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