How do you solve a problem like a pension deficit? David McHattie tackles the issue.

Charity Finance contained an excellent series of articles on pension liabilities this month which I read with interest. The articles focused on a couple of areas in particular; the accounting issues surrounding FRS 17 quantifying the size of any deficit and Section 75 issues regarding exit from existing defined benefit schemes.

The conclusion of one article recognising that the true size of any shortfall is an important first step to being able to manage and deal with it is undeniable logic, but really what is the solution here?

Of course, if this were an easy answer then it would have been covered many times over, and charities would have dealt with the deficits by now and moved on, but it isn’t.
If we look at the corporate world, there is a ready solution to pension deficits. It may not be entirely palatable, but corporates do have the ability to set aside a proportion of their profits to invest additional contributions in the pension scheme, whether as a large one-off lump sum, or frequently a much higher contribution rate for a few years. It’s not easy, but most finance directors are able to balance the needs of the business, shareholders and staff to come up with a solution which is acceptable to all parties, including the trustees and the pensions’ regulator.

However, in the charity and not-for-profit world, where can such contributions come from? It is not acceptable to stand on a street corner with a collection tin raising money to pay into a deficit pension fund and, typically, there are no large, annual surpluses which can be used to plug the gap.

A recent survey from the Charity Finance Group and Institute of Fundraising found that 47 per cent of charities say they will have to dip into their reserves to support their usual activities over the next year. Within each affected charity there will be a level of additional contribution that can be managed without really affecting the ratio of overheads as a percentage of donations, but this will be limited. It will also divert cash donations from good causes at a time when demand for charitable services is as high as ever. This will put even more strain on charities to operate as efficiently as possible to maintain charitable services despite the double whammy of reducing income and increasing overheads for the pension scheme.

The need to maintain the overheads ratio will also drive many to reduce overheads in other directions and we may see more staff redundancies. Far from providing a benefit to all staff, the pension schemes may actually be responsible for some staff losing their jobs to pay for others to enjoy their pensions.

Assets to spare?

So how else can this be addressed? If not from income, then the only other source I see is from sale of assets, with either the sale proceeds themselves invested in whole or part in the pension scheme deficits, or just the surplus from the sale. This is not a great solution and I’m sure this was not the intention when such assets were originally donated or acquired, but it may be a necessary step. Of course, this can only apply to unrestricted assets. Such a solution takes assets out of charitable ownership, and can of course only be done once. It also worth remembering that that once money is put into a pension scheme it is near impossible to get it back out. The family silver, or part of it, can only be sold once, so if this route is to be taken it is important that it deals with the deficit.

For those charities that still operate defined benefit schemes, the potential liabilities of these schemes are, I am confident, at the forefront of trustees’ minds, and the demise of those schemes is surely not far away. Where charities were once able to offer final salary scheme pensions to attract staff to compensate for lower pay scales, they will now have to find new alternatives. For some staff, the price of the pension deficits will be that they lose their jobs, putting even more pressure on those who remain to deliver the vital services to those in need.

David McHattie is head of charities for corporate banking at Barclays.