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DB Funding & Investment Strategy Regulations welcomed but Funding Code must clarify unanswered questions

We welcome the Department for Work & Pensions’ (DWP) final Occupational Pension Schemes (Funding and Investment Strategy and Amendment) Regulations.

What’s the impact on trustees and sponsors?

The Regulations set out the legal requirement to consider covenant and now provide helpful clarity on its definition, which refers more clearly to the future ability to support a scheme. DWP has also sought to support the productive finance agenda introduced by the Mansion House speech, with some areas of modification within the Regulations to provide for more flexibility in investment strategy.

However, the Regulations represent only one piece of the regulatory puzzle and in focusing on principles, they provide little additional clarity on how things will work in practice. In isolation, the Regulations risk a number of unintended consequences which will need to be addressed by the detail within the upcoming Funding Code and Covenant Guidance.

It is positive to see that the requirement to consider covenant will be enshrined in legislation and the Consultation response makes clear that covenant should be the primary factor in determining the maximum level of funding risk. However, “paragraph 4” of the Draft Regulations, which set out that the maximum level of investment risk (as well as funding risk) should be dependent on the strength of the employer covenant has been removed, despite respondents’ “broad support for the principles”.

While this helpfully addresses concerns around the Regulations potentially restricting trustees’ investment powers, it would be unwise to see the removal of “paragraph 4” as a sign that covenant is not still a key factor in setting investment risk budgets. We continue to advocate for an integrated approach, with covenant strength driving both investment and funding decisions over the journey plan; an approach which many schemes will already be following as a matter of “best practice”.

Risk that covenant is not considered at low dependency or after significant maturity

An interesting amendment, likely linked to the Mansion House objectives is that, after the Relevant Date, there is flexibility as to how surplus on a low dependency basis is invested. We would argue that covenant remains relevant after the point of significant maturity (for example, schemes with stronger covenants could justifiably want flexibility beyond the surplus, and those with weaker covenants should focus on preserving their surplus) – the Relevant Date should not be a cliff-edge.

Different investment constraints for the assets representing a surplus (versus those covering the liabilities) could also create practical challenges. Firstly with establishing a holistic investment approach over all the assets, and secondly as the size of the surplus will change over time, potentially leading to frequent and ongoing rebalancing requirements.

We have previously observed that, as drafted, the point at which full funding on a low dependency basis is achieved could also be interpreted as the point at which covenant is no longer relevant. We hope the Funding Code provides further clarity to mitigate the risk of covenant complacency, noting that ‘low dependency does not equal no dependency’, whilst also providing flexibility for trustees to be proportionate in their assessment of covenant when a scheme is well funded.

What happens if a scheme can’t achieve low dependency by the Relevant Date?

The clarification that the sustainable growth of the employer will need to be considered alongside affordability when preparing recovery plans is helpful in addressing the risk that employers are levied with unaffordable contributions or pushed into stress or distress. This is positive clarity given some concerns in the industry that unaffordable recovery plans would be imposed on sponsors by trustees seeking to meet the requirements of the Regulations.

Nonetheless, there is still some ambiguity as to what happens if a scheme is unable to achieve full funding on a low dependency basis by the Relevant Date. Clarity on this point will be needed in the Funding Code.

What should sponsors be considering?

Three key takeaways:

  • The objective for a UK DB scheme remains broadly unchanged – to reach full funding on a low-risk basis by the time a scheme is ‘significantly mature’. The funding risk along that journey remains primarily determined by the Trustee’s assessment of the strength of the employer covenant.


  • Arguably the most significant change is the increased flexibility around how a scheme’s assets can be invested over the course of its journey plan, with even greater flexibility around how any surplus is invested. Whilst this flexibility is partly to allow for the detailed guidance that will follow via the Code of Practice, it is an important signal that the regulatory environment is evolving to help meet the UK government’s productive finance agenda.


  • For those schemes where deficit contributions are needed, the impact of a recovery plan on the sustainable growth of the employer needs to be considered alongside the affordability of contributions. This is helpful in addressing the risk that employers are levied with unaffordable contributions or pushed into stress or distress.


More clarity will follow via the Code of Practice, expected later this year, but these developments show the importance of corporate sponsors understanding how evolving pensions regulation could impact their scheme, and retesting the scheme strategy in collaboration with the scheme trustees.

Practical steps for trustees

The updated Funding Code and Covenant Guidance (both expected later this year) should provide helpful clarification, for example setting out the definition of significant maturity. We also urge TPR to be mindful of the risks of an overly prescriptive approach to concepts such as the period of covenant reliance. The same goes for the Statement of Strategy, the completion of which will be a legal requirement under the Regulations – this should be proportionate and allow trustees to focus their resources on value-add strategic advice rather than box-ticking and form-filling.

While we look forward to this additional guidance, the final Regulations represent a good opportunity for schemes and sponsors to engage with their advisers on getting a clear plan in place for understanding and meeting the new requirements well ahead of the first valuation post-September 2024.