The Pensions Regulator has become involved in a dispute over a £12mn surplus cash payment within a retirement scheme for thousands of UK water sector workers, in a case that is being closely watched by the industry.

The regulator said on Monday it was in discussions with the trustees of the £710mn Water Companies Pension Scheme, which is the subject of concerns over its decision to hand a £12mn scheme surplus to an employer, Bristol Water, rather than boost members’ pensions.

Defined benefit pension plans build their asset base by contributions from employers and employees as well as investment performance. When the schemes are wound up, the trustees are legally obliged to follow a specific process before they can pay any surplus to the employer, which could use the cash for business investment, rather than give it to the members themselves.

At issue for the Water Companies Pension Scheme, a retirement plan for six water sector companies, is its decision to distribute the surplus to Bristol Water. The surplus was identified by the trustees in 2018, after a move to secure the section’s benefits with an insurer, which started the wind-up process.

The development comes as growing numbers of employers with defined benefit schemes are likely to face tensions with members over the distribution of surplus funds, as more employers look to offload plans with an insurer.

Ahead of the Bristol scheme being formally wound up at the end of this year, the work and pensions select committee has written to the trustees of the water companies scheme asking questions over its plans for the surplus.

“The Committee has been contacted by scheme members who say they are concerned that the trustees have taken the decision to transfer the remaining surplus . . . to the employer,” wrote committee chair Stephen Timms MP in a letter to David Sankey, chair of the Water Companies Pension Fund Trustee Company.

He said the members’ understanding was that the scheme rules allowed the trustee to use any surplus to boost their pensions, but that the trustee “decided to transfer the remaining funds to the employer without, in their view, adequate consultation or explanation”.

Timms added that his committee “rarely considers individual cases” except where these illuminate more general policy and operational matters.

A spokesperson for The Pensions Regulator said: “We are in discussions with the trustees of the Water Companies Bristol Water Section in our role to protect savers. We will not be commenting further at this time.”

The trustees of the Water Companies Pension Scheme and Pennon Group, which agreed to take over Bristol Water last year, did not respond to requests for comment.