The consultation period on the Pension Protection Fund's (PPF's) plans for the levy over the three years from 2015/2016 ended on 9 July 2014.

Please see our alert, "PPF Levy - are you ready for the significant changes ahead?", for further details on the consultation paper.

The PPF has now published its response to the consultation and draft levy rules and appendices for 2015/16.The consultation on the draft levy rules is open until 5pm on 13 November 2014.

The PPF levy changes should be on trustees' and employers' agendas now. Everyone needs to be aware of what will be required of them and the steps that must be completed well in advance of 31 March 2015.

Key points

The PPF has confirmed that:

  • the levy estimate for 2015/16 has been set at £635 million, a reduction from 2014/15 of nearly 10%;
  • it will be using a PPF-specific model (rather than a generic model) for measuring insolvency risk;
  • no transitional protection will be available for entities for which the new model will have the most impact - this was consulted upon but will not be implemented due to a lack of stakeholder support for it;
  • there will be no override for entities with a credit rating - this was consulted upon but will not be implemented due to a lack of stakeholder support for it and concerns regarding the use of such an override, such as the additional complexity and uncertainty involved;
  • it will continue to use a 10 band system for insolvency risk, but the top band will have around 20% of employers and the bottom two bands will each contain around 5%;
  • it will recognise all types of asset backed contribution arrangement (ABC) underlying assets (i.e. not just UK property) for the purposes of the PPF levy. However, trustees will be required to obtain a valuation annually (on which the PPF can rely) on an "insolvency basis" i.e. what the investment might be worth where the employers and guarantors have suffered an insolvency event;
  • in relation to type A contingent assets (for example parent company guarantees) trustees will be required to certify a fixed amount which they are confident the guarantor could pay if called upon;
  • those wishing to obtain a levy discount on the basis of being a "last man standing scheme" will be required to get legal confirmation of the status of their scheme

Scorecard arbitrage

The PPF has made some changes so that employers cannot seek to "opt" for the scorecard that provides the best score. While some people argued that there should be sector specific scorecards, the PPF did not think this approach would be appropriate because the populations would become too small to provide a robust evidence base and companies might seek to reclassify themselves to their advantage.

The PPF says that there should be a separate scorecard for not for profit entities and that responses suggest that the PPF's proposed test for entry to the scorecard works well.

Use of credit ratings

The majority of respondents opposed using credit ratings to override model scores. They cited complexity, inconsistency of treatment and that mapping from a default risk to an insolvency risk would be subjective as reasons. The PPF has decided not to use credit ratings to replace model generated scores.

Levy bands and levy rates

Nearly 80% of responses favoured the 10 band system rather than a broad top band. The PPF is therefore sticking with 10 bands, the first of which contains the lowest 20% of risks, followed by the next seven bands each having 10%, and the last two bands having 5% each.

Transitional protection

The PPF offered stakeholders the opportunity to comment on an option for transitional protection, which would be paid for by increasing the scheme-based levy. A clear majority of those responding were opposed to transitional protection.

Reasons cited were that the Experian score is a more accurate prediction of risk, and therefore schemes seeing a large increase have generally been paying less than their share of the levy. Transitioning would simply extend this. It would also add complexity and costs. As the downsides outweigh the upsides, the PPF has decided not to implement transitional protection.

The PPF encourages schemes and advisers to access scores to ensure as few surprises as possible when levy invoices are received. It says that over 75% of schemes have accessed score information so far. The PPF says that if schemes hold illiquid assets and need time to pay, they will provide the opportunity to pay in instalments.

Asset backed contribution arrangements (ABCs)

The PPF says there was support for its broad proposition that the value of ABCs be reduced where necessary to reflect the insolvency value of the investment in the special purpose vehicle, but not to limiting recognition to ABCs in which the underlying asset is UK property.

The PPF says it has decided to allow potential recognition for all ABCs but that it sees them as high risk investments in the PPF context. The PPF aims to ensure the value recognised for levy purposes more closely reflects what the investment might be worth in the situation relevant to the PPF i.e. where the employers and guarantors have suffered an insolvency event.

Trustees will therefore be required to obtain a valuation annually (on which the Board can rely) on this "insolvency basis" and which complies with certain requirements and other principles set out in the levy rules and guidance.

We anticipate that valuers could conceivably require Trustees to commission covenant advice to assist in preparing the valuation. We say this as some of the examples the PPF gives of matters to be considered in determining the appropriate valuation basis stray into covenant advice rather than "pure" valuation advice.

Trustees will also be required to obtain legal advice which allows the valuer to assess the impact the contractual arrangements might have on value. This advice will cover issues around enforceability, contractual provisions and any restrictions on the trustees' ability to take control of and sell the asset.

If trustees wish to:

  • ensure that the amount deducted from the section 179 assets (before smoothing and stressing) is correct;
  • get credit for payments made to them under the ABC (as distinct from future promised payments)

they can do so without going through the valuation process by providing certain mandatory information to the PPF (for example, basic details about the partnership and confirmation of the value given to the ABC in the latest section 179 valuation). Only ABC payments made after the section 179 date up to the "as at" date of the scheme's most recent audited accounts will be recognised.

The PPF has confirmed that, where the special contribution that has been made to purchase the investment in an ABC has previously been certified as a deficit reduction contribution, this will not be carried forward for the 2015/2016 levy year (as it would usually). Schemes will therefore need to certify a new deficit reduction contribution (capturing only non-ABC contributions) for the 2015/2016 levy year.

Contingent assets

Trustees will be required to certify contingent assets with a fixed sum (the "realisable recovery") which they are confident the guarantor could pay if required. The wording of the certification requirement will be:

"The trustees, having made reasonable enquiry into the financial position of each certified guarantor, are reasonably satisfied that each certified guarantor, as at the date of the certificate, could meet in full the realisable recovery certified, having taken account of the likely impact of the immediate insolvency of all of the employers (other than the certified guarantor, where that certified guarantor is also an employer)."

There will be band movements determined by the extent to which an entity's gearing is increased by its guaranteed obligations.

The PPF says it is currently making minor amendments to its standard form contingent asset documentation, with the intention of publishing the amended versions with the final form 2015/16 Determination in December 2014. It is also considering adjustments required for the PPF to accept surety bonds provided they follow the standard form Type C(ii) contingent asset document.

Associated last man standing schemes

A last man standing scheme is a multi-employer arrangement which does not have an option or requirement to segregate assets on the cessation of any participating employer: the employers are jointly and severally responsible for meeting the scheme's liabilities.

Last man standing schemes currently benefit from a discount on the PPF levy payable relative to a comparable segregated arrangement, reflecting their lower level of risk to the PPF. The PPF is concerned that there is significant misreporting of scheme structure.

The Regulator will be writing to all schemes identifying themselves as last man standing schemes on Exchange to ask them to confirm that they have taken legal advice which supports that conclusion. A scheme will only be treated as a "last man standing scheme" if it has met these requirements and confirmed to the Regulator by 31 May 2015.

The PPF has confirmed that it only expects schemes to take legal advice once (rather than each time the proposed confirmation is given), unless scheme rules covering scheme structure have subsequently changed. They also say that the advice need not be obtained specifically for the purpose of certification, provided that it is clear and unambiguous as to the scheme's structure.

Changes are also being made so that the discount given for such schemes reflects the extent to which the arrangement is genuinely spreading the risk (i.e. takes account of the level of dispersal of members), rather than being a single standard discount.

What does this mean for employers and trustees?

Employers

  • Now that we have further clarity on the changes to the PPF levy, be aware of them and how they might impact you.
  • If you have an ABC, do you want to get recognition for it? If so, start planning for this well in advance of the 31 March 2015 deadline. There is a lot to do to get recognition and professional advice will be required.
  • Do you have a last man standing scheme? If so, do you have legal advice confirming this? If not, the PPF will not recognise the scheme's status as a last man standing scheme.

Trustees

  • Do you have an ABC or contingent assets in place? If so, will you be required to obtain recognition of them for PPF purposes?
  • The new requirements are more onerous and trustees should open dialogue with the scheme sponsors on this issue if they haven't already done so. Professional advice will be required.

Please note the consultation period ends on 13 November 2014 at 5pm