FTSE 100 pension schemes maintain IAS19 surplus but need to understand impact of inflation and potential new funding rules to avoid shocks and surprises

Latest analysis of Q3 FTSE 100 pension positions by LCP’s Pensions Explorer shows that the combined IAS19 surplus stands at £50bn at 30 September 2021, highlighting sustained recovery and improvement post pandemic. However, LCP are warning that higher levels of inflation and potentially stricter rules in the pension scheme funding regime mean more companies could need to provide even more financial support to pension schemes.

Sharp rises in inflation over recent months could soon flow through to higher increases granted to the majority of pensions. September's inflation figures (published later this month) will be very important for DB pension schemes, as many pension increases are based on those figures. If current trends persist, it could potentially increase FTSE 100 pension liabilities by up to £10bn, although most schemes will be protected to an extent by inflation linked assets.

The Pensions Regulator is due to consult on new funding rules later this year. This will mean that pension schemes will in future have to follow one of two funding routes, ether a one size fits all “Fast Track” regime or a “Bespoke” arrangement.

Under the new rules, deficits for companies with strong covenants would be expected to be met within a short period. Under a “Fast Track” approach, this could lead to additional annual deficit contributions of £5bn for the FTSE 100. For companies with an IAS19 surplus, careful messaging on why new contributions could be required will be needed for investors and shareholders.

The default in the new rules will mean that schemes would be expected to target low-reliance on the scheme’s sponsor and potentially fund on a more prudent basis. As a result, LCP predicts that many sponsors will investigate the Bespoke route, and this is likely to mean an increase in the use of contingent assets as companies seek to provide appropriate security to their pension schemes, whilst balancing the needs of all stakeholders.

Key points of analysis this quarter include:

• The latest figures show that 10 FTSE 100 companies currently have an IAS19 deficit.
• However when looked at through the lens of the possible new funding regime, 32 companies would be in deficit.
• In total this could mean an additional £5bn pa of deficit contributions would be required to plug the gap, including over £1bn pa of contributions for companies disclosing a surplus in their corporate accounts.
• Recent rises in inflation could increase FTSE100 pension liabilities by up to £10bn.

Jonathan Griffith, Partner at LCP, commented: “It’s good news that we are seeing sustained accounting surplus figures and the volatility of 2020 is now hopefully behind us. However, the upcoming changes to the funding regime mean that many schemes – even those with an IAS19 surplus - are more vulnerable to being asked to make additional cash to meet new funding deficits, unless they take a proactive approach and provide alternative forms of security.

“Analysis we did earlier this year showed that only 10% of schemes showed a surplus on the more prudent basis of the proposed fast-track approach. Whilst this position has improved to date, for many companies sponsoring larger pension schemes, the bespoke route will make sense and will ensure the appropriate level of protection is provided in a way that uses corporate resources efficiently.

“Our message is that scheme sponsors need to understand the proposals, work out how their scheme will be impacted, and not be misled by the rising IAS19 surplus figures. Doing this work now will save some potentially nasty shocks and surprises further down the line.”