As higher education institutions in Wales start publishing their financial statements for 2018/19, David Blaney explains why many are reporting financial deficits.
The large deficits reported in the 2018/19 financial statements of many higher education (HE) institutions in Wales do not reflect a crisis in their operating performance. Rather, they are mainly due to one-off pension charges for costs to be paid in the future that have to be reflected as operating costs in HE institutions’ financial statements. These pension charges impact on many UK HE institutions in 2018/19 and are not unique to Welsh HE institutions.
There are variations in the type of pension benefits that retired HE staff receive, and the way the pension schemes are managed, funded and accounted for in the financial statements of the HE institutions. The way pension costs are presented in financial statements varies between schemes, making the financial implications of pensions less comparable between HE institutions.
Many have what are called ‘funded defined benefit’ schemes. Managed by trustees, these schemes are made up of investments from employees and employers, and the aim is to maximise the return on investment into the scheme in order to meet the costs of pension payments to retired employees.
These schemes are typically higher risk for employers because their financial sustainability relies on the scheme having enough income and assets to meet the current and forecast future liability for pension payments to retired employees. Accordingly, to make sure that such schemes are on track to earn sufficient income to meet these liabilities, the trustees must have a formal valuation, known as an actuarial valuation, of the scheme normally once every three years. Scheme valuations are very sensitive to changes in a range of assumptions including returns on investment, income from contributions and pension recipients’ life expectancy.
If this valuation results in a scheme being in deficit, with more liabilities than assets, a greater level of contribution is required in the future to meet the scheme’s liabilities. This is the case currently with the Universities Superannuation Scheme (USS).
The deficit in the USS scheme means that HE institutions will have to make additional contributions towards the scheme – to eliminate the scheme’s deficit, in addition to paying increased contributions in future years.
Although the cash payments for the deficit reduction contributions will be spread over at least the next 10 years, the way these deficit provision pension costs are required to be presented in financial statements (in HE institutions’ ‘income and expenditure’ accounts) means that the increase in the pension deficit provision is shown as a substantial operating cost in 2018/19.
These significant pension costs account for the majority of the operating losses being reported by Welsh HE institutions in 2018/19. As these pension costs will only become payable over future years, they do not reflect the underlying annual operating costs and performance of institutions – and therefore should not be interpreted as such.
If you would like to know more details about the variety of pension schemes that HE institutions have and their impact on their financial statements, we have prepared a longer briefing note.