Pension reforms cause concern

Michael Millar reports on the main implications of the Government’s new
pensions proposals

The Government’s plans to improve staff pension protection may lead to a
greater number of schemes folding and members being forced to accept lower
pension benefits.

Pension and reward experts have expressed concerns that key elements of the
pension reforms outlined by Andrew Smith, the secretary for work and pensions,
could prove counter-productive.

The proposals are designed to prevent the continued erosion in the number of
firms offering defined benefit for final salary pensions, as well as to build
flagging staff confidence in pensions schemes generally.

Currently, about 10 million people save in defined benefit schemes, under
which employees are guaranteed a level of income in their retirement, usually
based on two-thirds of their salary. However, numerous employers have already
wound up their final salary pensions schemes, affecting thousands of employees.

The proposals

The Department for Work and Pensions’ (DWP) proposals include a new pension
protection fund (PPF), which guarantees people who have already retired 100 per
cent of their pension, and those in employment, 90 per cent of the savings they
have built up.

Also under the plans, which are due to be enforced by a new pensions’
regulator, solvent employers will have to provide for full pension benefits up
to the date they close a scheme. To reduce costs, the rate at which firms have
to increase their pensions in line with inflation is to be cut from 5 per cent
to 2.5 per cent.

According to David Yeandle, head of pensions at the Engineering and
Employers’ Federation (EEF), forcing companies to meet their pension promises
in full if they choose to wind-up schemes while the business is still solvent,
will create problems.

This provision is designed to stop companies following the example of
Maersk, the shipping giant. It closed its UK pension schemes last year, despite
being profitable, and staff lost 60 per cent of their pensions when their
schemes were finally wound up.

Yeandle claims this change will encourage companies to close pension schemes
to new members rather than risk the cost of future wind-ups.

There is a qualification to this rule: if trustees could agree that winding
up the scheme would leave the company insolvent, they could accept a lower

Concerns have been raised about the distinction between trustees and
employers, who can be one and the same. Consequently, employers may be making
decisions about offering lower payments to scheme members.

Furthermore, businesses might put pressure on trustees to put the interests
of the company first. The Work Foundation agrees this will put trustees in
"an impossible position".

No-one, including the new pensions regulator created by the proposals, has
the power to give independent verification of decisions regarding lower

Should trustees agree to a reduction in pension payouts to ensure a
company’s solvency, employees will then be in a situation where they have lower
payouts and no recourse to the proposed PPF.

To qualify for this fund, a company has to be declared bankrupt.

Malcolm McLean, head of the Office of the Pensions Advisory Service (OPAS),
believes staff could be left in a ‘lose-lose’ situation as a result. "This
is the worst of all worlds and there is no reference at all in the document to
this problem," he said.

However, pensions minister Smith claimed the new measure would end "the
scandal of workers being denied the pensions they have built up over the

And Glyn Jenkins, head of pensions for Unison, supports the plan, which he
said would protect scheme members from the greed of employers.

The financial cost

The cost of the proposal will come under very close scrutiny. The DWP
estimates this will be between £50m and £100m, but the Institute of Actuaries
claims the change will result in an expansion of the UK’s total pensions
deficit from £100m on the FRS accounting rules to £300bn.

Remuneration experts are also worried about the cost implications of the PPF.
The fund will be subsidised by levies on defined benefit schemes and is
expected to cost employers up to £340m annually. Companies will have to pay a
rate that reflects how well-funded their schemes are.

Elaine Wood, head of reward and HR projects at Bradford and Bingley, said
companies are already having to look very carefully at pension provision and
that the scheme could potentially be a vicious circle if costs on employers
prove too great.

"If all it does is put up costs, fewer companies will offer generous
pensions benefits and the Government will be shooting itself in the foot,"
she said.

Less protection?

The EEF’s Yeandle said the PPF could discourage companies from providing
defined benefit schemes and make them offer defined contribution schemes
instead, if they were to offer anything at all. This would mean less protection
for employees as businesses strive to avoid the PPF levy.

David Willetts, shadow secretary for work and pensions, agrees the PPF could
prove counterproductive. "The Government has looked at [the PPF] in the
past. For example, in the Myners report of March 2001. It ruled it out as
imposing an unacceptable burden on employers," he said.

However, Brendan Barber, TUC general secretary, welcomed the PPF, and said
it was something the union movement had been campaigning on for several years.

Union leaders claim the PPF scheme would have protected workers like the 150
employees at Blyth & Blyth, the Scottish engineering company, who lost
their pensions after the business went into receivership and, consequently,
wound up their scheme in December last year.

OPAS’s McLean also defended the ‘lifeboat fund’. He said that the present
situation is unacceptable and the whole image of pensions had been tainted.

He believes the DWP has realised the PPF could be ‘the straw that breaks the
camel’s back’, and has prepared for it with a proposal to halve the rate at
which firms have to increase their pensions in line with inflation.

The Government claims this measure will save pension funds up to £415m a

However, Tim Keogh, European partner at Mercer Human Resource Consulting,
said the lower cap is for future benefits only, so does nothing to reduce
current accrued liabilities that create most of the problems.

Announcing the reforms, Smith claimed the package of proposals would ensure
that "pension rights promised are rights delivered".

"All partners must now rise to the challenge and work together to build
pension provision in the UK," he said.

It remains to be seen whether the raft of proposals are enough to convince
employers to continue to provide final salary pension schemes to new employees.

The Government’s proposed safeguards

– Pensions protection fund: first ever protection scheme for
defined benefit pensions in the UK, protecting pension rights accrued when a
company goes bust

– Full buy-out: ensuring that where a solvent company chooses
to wind up its scheme, it should fully buy out members’ benefits

– New pensions regulator: with new activity targeted on
badly-run and high-risk schemes putting consumers first and ensuring secure
schemes continue without unnecessary regulatory burden

– Changes to the priority order: guarantees remaining assets of
a scheme in wind-up are distributed fairly among the workforce, reflecting
length of service

– Pension law simplified so that employers can change past
entitlements, so long as the change leaves members with broadly equivalent

– Normal retirement age for new public sector employees to be
raised from 60 to 65 by end of 2006 and eventually for existing staff

– Individuals will be allowed to draw part of their pension and
carry on working for the same company

– Early leavers from company schemes given more rights

– New, more active pension regulator concentrating on high-risk

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