Pensions: defined benefit superfunds

What is a pension superfund?

Pension superfunds are pension scheme consolidators which aim to make a profit. They are a relatively new development in the UK. The first pension scheme to transfer to a superfund was announced in November 2023.

How do pension superfunds work?

Pension superfunds consolidate defined benefit pension schemes. Defined benefit schemes pay a promised pension based on factors such as salary and length of service. A sponsor, which is usually the employer, guarantees that the promised pensions are paid.

When a scheme transfers to a superfund, the employer no longer guarantees the pension payments. Instead, the superfund takes over, using a capital buffer (assets held in reserve) to provide security. If the scheme struggles to pay pensions in the future, the capital buffer can be used.

The capital buffer might come from investors looking for profit, payments from the employer who wants to end their guarantee, or existing surplus funds within the pension scheme.

Alternatives to pension superfunds

Insurance

Sponsoring employers can buy insurance products to end their responsibility for guaranteeing the pensions promised in their defined benefit pension schemes. The insurer then guarantees payment of the scheme’s promised pensions. These products can be expensive and there are strict regulations to ensure that insurance providers can guarantee paying the pensions.

There have been concerns that pension superfunds might offer similar services as insurers but under weaker regulations, known as regulatory arbitrage. The Pensions Regulator has told superfunds that it does not expect them to consolidate schemes that can afford to guarantee its members’ pensions with an insurer.

Insolvency

If a sponsoring employer becomes insolvent its responsibility for guaranteeing pensions may end. Members of the scheme might receive compensation from the Pension Protection Fund. If the scheme has enough assets, it might secure pensions above the Pension Protection Fund’s compensation – for example through an insurer.

Public sector consolidator

While the Conservative government wanted to encourage schemes to consolidate, it did not believe that superfunds would be the best way for them to do so in all cases. In February 2024 it consulted on proposals for a public sector consolidator to target smaller schemes.

How are superfunds regulated?

There is currently no specific legislation for pension superfunds. The Pensions Regulator oversees them under the same legislation as other trust-based pension schemes.

The Pensions Regulator created an interim regulatory regime for superfunds using its existing powers. The regime includes an assessment process that superfunds are expected to complete before consolidating any pension schemes.

The King’s Speech 2024 announced that a regime for superfunds would be included in the upcoming Pension Schemes Bill.

What is the case for superfunds?

The Conservative government argued that superfunds could increase the likelihood that members of defined benefit schemes receive their full promised pensions. It said superfunds can replace the uncertain guarantee offered by a sponsoring employer with a known capital buffer. For example, securing members’ pensions with an insurer is costly and unachievable for many schemes. In cases of insolvency, a superfund might secure all the promised pensions, while an insurer or the Pension Protection Fund might provide reduced payments.

For employers, superfunds would allow them to end the uncertainty of a long-term liability for guaranteeing pensions in a closed defined benefit scheme, which is no longer open to their current employees.

Superfunds would achieve larger scales than the individual schemes they consolidate, potentially allowing them to invest in “a more productive way”.