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Freshfields Risk & Compliance

| 2 minutes read

Pensions overfunding: free money for members?

Trustees and sponsors of UK defined benefit (DB) pension plans are rightly focused on ensuring that those plans are appropriately funded and reducing their risk profile in relation to underfunding. Clearly, managing underfunding should be a priority to protect members’ interests.

Many sponsors have spent the last decade or more making significant contributions to their DB pension plans, so that we are now seeing a number of plans which are in surplus on the ongoing (technical provisions) basis. For those sponsors who may now be working with their plan trustees on achieving full funding on the insurance buyout basis as a long-term funding objective, it’s also important to be aware of the risk to the sponsor of trapped surplus as a result of pensions overfunding.

Pensions Expert reports that the Bristol Water section of the Water Companies Pension Scheme is being wound up, with an estimated surplus of £12.1 million following a full buyout of member benefits.

The Trustee of the Bristol Water section proposes to return this surplus to the plan’s sponsor. However, the members have challenged this, arguing that the Trustee:

  • should have consulted with members over its use of the surplus; and
  • should use its discretionary power under the plan rules to apply the surplus in augmenting members’ benefits.

The Trustee is now being asked to explain its proposal to return the surplus to Bristol Water to the House of Commons’ Work and Pensions Committee, which will review “whether the legislative protections available to members of pension schemes regarding rights over surpluses […] are effective and sufficient”. The Pensions Regulator is also reported to be discussing the matter with the Trustee.

Bristol Water is already under pressure from its workforce in relation to pensions, having faced a one-day strike over this issue in 2021. The Trustee cannot be compelled to change its proposal by law. However, in the face of the scrutiny now being applied by the Work and Pensions Committee and the Pensions Regulator, Bristol Water might also now, despite funding the section prudently over time, be required to accept the loss of the £12.1 million surplus if the Trustee decides to use it for the benefit of members.

The case highlights that sponsors who have prudently funded their DB pension plans over many years should be alive to the potential risks of pensions overfunding, for example, if their DB plan’s rules allow or require trustees to effectively return any surplus on a winding-up to members. If the Trustee changes its decision and the surplus is used to augment members’ benefits (which have already been fully secured with an insurer), Bristol Water will arguably have given away £12.1 million “for free” to the members.

This is the first blog post in a series and the blog posts that follow will consider some of the options available to plan sponsors to mitigate the risk of pensions overfunding. If you would like to discuss any of the issues discussed in this blog post, please get in touch with your usual Freshfields contact or any of the authors.


pensions, regulatory