Asset backed contribution structures for defined benefit pension schemes: trends and developments

Asset backed contribution structures (ABCs)

It is now well over a decade since Marks & Spencer used a Scottish limited partnership (SLP) as part of a strategy to fund its defined benefit pension liabilities. Under that arrangement, the ownership of various real estate was transferred to the partnership, the rent from which provided an income stream for the pension scheme.

Since then the use of such arrangements has become increasingly common but the basic structure has remained relatively consistent: transfer an income producing asset to the SLP and grant the pension scheme rights over that asset in the event of the pension scheme sponsor’s insolvency.

SLPs have been the vehicle of choice, as opposed to English partnerships, in order to navigate the requirements of pensions legislation (particularly restrictions on employer-related investments) and financial services legislation (particularly to avoid the SLP having to be authorised by the Financial Conduct Authority).

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Old dog, new tricks

Recently, however the PwC Legal team has been working with colleagues from our pensions actuarial, corporate tax and corporate accounting teams to develop a new way to use SLPs to assist with pension scheme funding. Under this new approach, the SLP is used as a co-investment vehicle, sitting alongside the pension scheme and providing assets to the pension scheme on an “as and when needed basis”.

This typically involves the sponsor of the pension scheme transferring cash and/ or investments to the SLP. The SLP continues to invest these assets and, depending on the situation, the income from the assets can be paid to the sponsor or to the pension scheme or split between them in whatever proportion is agreed.

There is likely to be a longstop date at which time the funding level of the pension scheme is assessed on a basis agreed between the sponsor and the pension scheme trustee. Following that assessment of the funding level, the SLP’s assets could then be transferred to the pension scheme to the extent needed for the pension scheme to be fully funded on the agreed funding basis. However, there is a lot of flexibility here and the arrangement can be designed to meet the needs of each sponsor/ pension scheme.

How does this help?

Using SLPs in this way can be a very efficient method of funding a defined benefit pension scheme to the extent needed to secure the pension liabilities with an insurance company (thereby removing the liabilities from the sponsor’s balance sheet), while avoiding the risk of over-funding the pension scheme. The over-funding risk arises because, once money is paid into a pension scheme, it can only be returned to the sponsor in very limited circumstances and, even then, the money will be subject to a tax charge which is likely to be higher than any tax relief the sponsor might have obtained when it paid the money into the pension scheme.

Taking this co-investment concept further, in addition to the sponsor transferring money to the SLP, it would be possible for the pension scheme to transfer some or all of its assets into the SLP as well. This could help to open up a wider range of investment options for the SLP as it would have more assets to invest.

We are already implementing co-investment structures using SLPs for our clients and, while some are being used for multi-billion pound pension schemes, they can also be used very efficiently for much smaller pension schemes.

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