Changes to make it easier for defined benefit (DB) surpluses to be put to use could help deliver on the government’s objectives around productive investment, a report from WTW has suggested.

WTW’s paper, Six changes to seize the DB pension surplus opportunity, said that while the government has been looking to get more pension savings invested in UK productive assets, this will only be possible if schemes adopt different objectives.

In particular, WTW suggested that schemes would invest differently if fewer were looking to transfer their liabilities to an insurer as soon as possible and if more were instead seeking to generate surpluses.

Given this, it argued that the government should make it easier for schemes to use surpluses to benefit pensioners, sponsoring employers and current employees, so that they see value in pursuing higher investment returns.

The firm noted that these changes would also allow surpluses that have emerged already to be utilised sooner, suggesting that the funds could be used to benefit employers, pensioners, and employees saving in defined contribution (DC) schemes.

The paper outlined six specific changes that the government could make to pensions legislation to encourage these changes, including providing a straightforward legal route by which DB surpluses can finance contributions to a DC scheme used by the same employer, provided that the DB scheme remains fully funded on a cautious ‘low dependency’ basis.

WTW also encouraged the government to allow schemes to make one-off lump sums paid to DB pensioners ‘authorised payments’, to create another way of sharing surplus with members without triggering tax penalties.

The firm also proposed changes to the draft funding and investment strategy regulations, arguing that these currently threaten to funnel schemes into excessive de-risking and to make it harder for open DB schemes to thrive.

In addition to this, it encouraged the government to reduce the 35 per cent tax rate on refunds of surpluses to an employer to match the main rate of corporation tax, currently 25 per cent.

WTW’s paper also argued that the government should amend legislation to more readily allow refunds of surplus when a scheme is not winding up, including permitting refunds where the scheme is fully funded on a “low dependency” basis, rather than only when it could buyout all benefits with an insurer.

It also backed calls for the government to revisit The Pensions Regulator’s statutory objectives, for instance, to take account of scheme members’ wider interests and/or the adequacy of workplace pension provision.

WTW head of UK retirement business, Rash Bhabra, stated: “With DB members getting older, and less time left until pensions need to be paid, there is no going back to the days when schemes routinely invested mostly in return-seeking assets. Proposals for change that are not realistic about this risk flying too close to the sun.

“But, with almost £1.5trn of assets in private sector DB schemes, it would only take a minority of schemes choosing to keep a small proportion of their portfolios in return-seeking assets for longer to have a big effect.

"The resources available for productive investment could be tens of billions of pounds higher than if schemes continued on their current path."

Key to creating this change, according to Bhabra, will be changing the environment schemes operate in, so that there is seen to be value in generating surpluses that can be used to benefit employers, pensioners and current employees saving through DC schemes.

"Employers will also be more comfortable supporting strategies that could see a scheme become over-funded if they can access some of the surplus sooner and without a tax penalty," Bhabra continued.

“Most schemes are already in surplus even on the cautious basis that they were supposed to be working towards over the coming years. So there is an opportunity to put some of this money to use now.

"By making clear that this is acceptable, which current draft regulations do not, the government could give employers and trustees an appetite for pursuing further surpluses.

“Employers, pensioners, employees saving in DC schemes, and the wider economy could all benefit if the government makes the right policy calls.”

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