Sunday 1 April 2007
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Pensions threat exaggerated by accounting standards rule

By Tom Stevenson
Last Updated: 12:17am BST 29/03/2007

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  • The controversial accounting standard used to calculate the size of Britain's pensions black hole has been pilloried by a leading investor group. The Association of British Insurers said the "incomplete" picture of final salary schemes presented by the FRS17 standard might mean "pensioners could lose out badly".

    Reception at the ABI; Pensions threat exaggerated by accounting rule
    Reception at the ABI. Their example scheme stayed in deficit for 20 years but was never at risk of failing to make payments

    The ABI's harsh assessment of a key entry in Britain's accountancy rule book is part of a hard-hitting study of the measurement of pension deficits. The publication of "Understanding Companies' Pension Deficits" comes as requirements to show pension shortfalls in corporate balance sheets accelerates the demise of generous occupational pensions.

    Under FRS17, companies are obliged to include a snapshot of the gap between pension fund assets and liabilities in their annual accounts. In an attempt to reduce their exposure to volatile deficits, many have closed pension schemes to new or existing members.

    The ABI study suggests that the threat to pension schemes may have been exaggerated by a focus on a balance sheet measurement with "no obvious relation" to a company's ongoing ability to meet its obligations to pensioners.

    Even where schemes remained open, Stephen Hadrill, ABI director-general, said companies "were prematurely rushing into bond investments to reduce pension deficit volatility. The question we faced was: were these rules distorting good investment strategies?"


    He added: "We need to understand deficits better to devise investment strategies which really deliver the best value for beneficiaries and sponsoring companies. If trustees and sponsors do not have a complete picture, pensioners could lose out badly."

    The ABI warned that by focusing on a snapshot of the shortfall between a pension scheme's assets and its future liabilities, companies may be over-reacting to apparent shortfalls. Peter Montagnon, investment affairs director at the ABI, said: "FRS17, while useful, doesn't give you all you need to know because it is a static snapshot. ".

    The ABI report used a representative defined-benefit scheme to show why only an assessment of the movements of cash into and out of a pension scheme, potentially over many decades, could provide a reliable estimate of its strength. It concluded: "There is no obvious relation between the size of the FRS17 deficit and the economic solvency of the scheme."

    The ABI's example scheme remained in deficit for 20 years but was never at risk of failing to make payments.

    The pensions regulator is pushing companies with deficits to plug the shortfall within 10 years. The ABI said its report would "help investors to make more informed decisions and benefit trustees and regulators by allowing them to identify schemes that are genuinely at risk".

    The ABI said a one-size-fits-all approach like FRS17 could not reflect companies' differing ability to take investment risks. It questioned whether a more flexible rule could be introduced.

    It also recommended the use of more sophisticated models that illustrate a range of outcomes rather than the false certainty of a pension deficit.

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