The Board of the Pension Protection Fund (PPF) has published its final proposals for the calculation of the PPF levy. The levy comprises two elements, a scheme based levy, calculated as a percentage of the scheme’s liabilities on a basis prescribed by the PPF, and a risk based levy calculated by reference to the risk of insolvency of the scheme sponsor and the underfunding risk in the scheme. The risk based element makes up 80% of the levy and is based on failure scores provided by Dun & Bradstreet which reflect the likely risk of insolvency of a business in the next 12 months.
The D&B rating being used was an existing market based solution rather than an approach designed specifically for the purposes of calculating the levy and as such it is recognised that it may produce distortions in some cases although D&B have made every effort to minimise these.
D&B considers a huge number of factors in arriving at the failure score and companies would be well advised to get a feel for how they are being rated to ensure that their rating is consistent with the actual business position. The ratings for the 2006/7 levy will be calculated based upon the failure score at 31 March 2006 so clearly fluctuations in rating items around this time could be positive or negative to the final score derived.
So what can be done to control the levy payable? Firstly there are the actions which can be taken with the pension scheme such as:-
- Submitting more up to date information should the picture have changed materially since the scheme submission. This would also include ensuring the levy is based upon the correct scheme sponsor.
- Preparation of a S179 valuation. Should this not be undertaken the PPF will adjust the last MFR valuation which could result in higher liabilities and therefore levy.
- Payment of deficit reducing contributions.
- Application of contingent assets such as group company guarantees to the scheme, security over bank accounts, property or securities or letters of credit, and guarantees issued to the trustees by a financial institution.
- For group companies the employer with the largest number of members will be the default company whose failure score will be applied to the whole scheme. The alternative is to apply to have the scores of all group companies applied proportionately to their share of the liabilities. The best approach for a particular group needs to be identified.
Secondly, in terms of the D&B rating this takes account of numerous factors as follows;-
- Business demographics such as the age and size of the business, primary industry sector, mortgages and charges as well as negative information such as CCJ’s.
- The individuals controlling the business, their age and experience, associated business and the number of failed associations.
- Trade information such as payment experiences and volatility of payments.
- Financial information such as net worth, net sales, profit and loss and financial ratios.
It can be seen from this that the impact of business financials is only one part of the overall picture and the emphasis D&B have placed on the accounts snapshot has declined over time.
We are therefore beginning to witness companies beginning to review their corporate structure to minimise the levy payable. Measures being undertaken include removing directors with a history of failed ventures and recruiting older, more experienced directors, ensuring payment terms are observed and clearing outstanding court cases with suppliers. All these areas may have a positive impact on improving the failure score and thereby reducing the amount of the levy.
Companies need to understand the process and the areas which they can influence and potentially investigate with Dun & Bradstreet the accuracy and suitability of their assumptions.
David Davison is a Director at Spence & Partners, independent actuaries and consultants.