Employer Covenant on TPR’s radar

Introduction

Back in June 2009, TPR issued a statement on scheme funding and employer covenant (the sponsoring employer’s legal obligations to its DB scheme and its ability to meet them). Since then, TPR has received requests for further guidance on how ongoing events, which may impact the pension scheme, should influence trustees’ assessment of an employer’s covenant. Guidance has also been sought on the steps that can or should be taken to improve scheme security after carrying out such assessments.

Although TPR’s research indicates that many schemes already have a “sound approach” towards monitoring the employer covenant, it believes that others need improvement. It will therefore be producing formal guidance for consultation.

In this Alert:

• Key points
• TPR’s expectations
• Future guidance
• Transfer incentives
• Impact on Your Scheme
• Timing

Key points

• TPR has published a statement on “Understanding employer support for DB schemes”.
• The statement outlines TPR’s main expectations of trustees of DB schemes regarding the employer covenant and flags that guidance on this issue will be published for consultation shortly.
• TPR also intends to produce revised guidance on “transfer incentives” to replace the current inducements guidance. This will also be subject to consultation.
• Each publication will be supported by “bite-sized” e-learning tools.

TPR’s expectations

Pending more formal guidance, TPR’s statement sets out its main expectations of trustees with regards to employer covenant. For example:

• Trustees should ask probing questions to properly understand the employer’s covenant and where they have any doubts about their ability to do this, “they should engage the right professional help”.
• All trustees should have a framework for assessing, reviewing and monitoring their employer’s covenant which is viewed by TPR as being just as important to “the security of the scheme as monitoring fund performance”.
• Trustees and employers should prepare plans for realising the employer support standing behind a scheme, should this become necessary. For example, where appropriate, this may involve the use of contingent assets or negative pledges (agreements not to grant new security).

Future guidance

The following documents are to be issued for consultation:

• Guidance for monitoring employer support – this is intended to provide more information on what trustees should do to measure and monitor the employer covenant. It will also outline action trustees should take to strengthen scheme security as a consequence and provide guidance on how certain arrangements, such as contingent assets, can be used as additional safeguards.
• Guidance for trustees of multi-employer schemes – this will explain the importance of understanding who is legally responsible for supporting the scheme’s liabilities and how to assess the strength of the covenant, as well as the options for mitigating the risk to the scheme when one of the participating employers leaves.

Transfer incentives

A particular area of concern to TPR, new guidance on transfer incentives is also in the pipeline. This will replace the current inducements guidance, and will follow a “principles-based” approach.

TPR intends to “call on trustees to play a more active role in guarding against transfers which may not be in members’ best interests”. In particular, trustees will be asked to take responsibility for ensuring that employers structure any transfer incentives or benefit modification exercises so that members have sufficient access to impartial advice to make a fully informed decision.

While this may sound ground-breaking, it does not go that much further than the current guidance. The main difference being that this time TPR is perhaps more clear that it wants trustees to get involved. However, all will be revealed once the full guidance is published.

Impact on Your Scheme

A detailed focus on the employer covenant by experienced heads is clearly an important part of managing pension scheme risk, as an employer covenant is an essential element in funding and investment strategy decisions. However, given the economic outlook remains uncertain, a key question is who is going to pay for such scrutiny?

Timing

TPR intends to publish all three documents for consultation this summer. We therefore seem set for a busy regulatory summer in Brighton and elsewhere..