Pensions are in the spotlight with employees putting up increasing
resistance to attempts to close final salary pension schemes. So where do
employers go from here? asks Simon Kent
With an estimated shortfall of £27bn in pension savings, it is clear that
something must be done to change the way the UK workforce saves for its old
age. Moreover, with an ageing population and a mobile workforce, the problem is
set to get worse before it gets better. At the time of writing, MPs had just
voted to improve their own pension plans, but are waiting for an Inland Revenue
report before addressing those of the rest of the population.
The Revenue’s report, due this month, is the third corner of a review
process which began with Ron Sandler’s review of the medium and long-term
retail savings market, and continued with the Pickering Report.
The latter document, from former chairman of the National Association of
Pension Funds Alan Pickering, gained a high profile for some of its more
unpopular suggestions – a fact which to some extent masked the full range of
recommendations and observations it made about occupational and private pension
schemes.
Broadly speaking, both Sandler and Pickering share a desire for the
simplification of financial products and the administration processes that
surround them. In this way, companies and individuals would be empowered to
select the most appropriate solution for providing for old age.
A complex issue?
"Pickering says that pensions are basically a very simple
concept," says David Warner, head of Employment Law at Morrison and
Foerster. "The problem is that they can be abused for tax purposes, so the
Inland Revenue has tried to block every loophole conceivable. It has become a
tax inspector’s dream."
NAPF’s spokesman, Andy Fleming, highlights another reason why occupational
pension schemes have become so complex. "Successive governments have
decided it’s a good idea to attach additional obligations to a pension,"
he says.
"While providing the pension in itself is voluntary, pension providers
must provide widow’s benefit and you must link it to the price index."
Many commentators have noted that while Pickering’s aims for simplification
are to be applauded, the lack of detail as to how this can be achieved is
frustrating. It may well be up to the Inland Revenue and ultimately the
Government, to design the legislation that will permit such simplification, but
there has already been industrial and legal action from employees who sense
their pension rights are eroding.
Steel workers at the Caparo Merchant Bar factory in Scunthorpe introduced an
overtime ban when their final salary scheme was closed, while Ernst & Young
and The Big Food Group – formerly Iceland – have had to review their original
proposals for switching from final salary to a money purchase-based defined
contribution scheme after their employees objected. Ernst & Young employees
brought in law firms Pinsent Curtis and Fox Williams to act on their behalf.
Handled incorrectly, changes to any benefits could constitute a breach of
employment contract, or at the very least a breach of the employer’s duty of
trust and confidence towards their employees.
"In the 1997 Pensions Act it was made clear that employers had to
provide pension increases," notes Penny Webster, a pensions consultant
with Hewitt Bacon & Woodrow, "Even if Pickering takes away that
requirement, employers could run into trouble when they try to take those
increases away. It is not clear whether you could by law stop paying those
increases to your existing pension scheme."
Underlying economics
Figures from the Pension Fund Partnership’s 2002 Survey of occupation
pension schemes found that 22 per cent of companies had closed their final
salary pension scheme to new members, while only 3 per cent had closed such
schemes to both new and existing members – a mark of fear of litigation, or
discontent from employees who wish to preserve their current entitlements,
perhaps.
Duncan Brown, assistant director of the CIPD, claims that this trend has
been apparent throughout the 1990s and is unlikely to be checked by initiatives
suggested by Pickering or the postponement of FRS17, the new accounting method
for pensions which can have a severely negative impact on a company’s overall
accounts.
"The underlying economics are the problem," says Brown.
"People want to retire earlier and there isn’t sufficient funding to
support them."
It is clear the changing face of the UK’s workforce must be taken into
consideration if an effective occupational pension scheme is to be introduced.
Pickering has argued that employees should be immediately entitled to pension
rights when they are employed by a company – a proposal that recognises the
increased mobility of the workforce, but which the CBI is not alone in greeting
with dismay because it believes this will increase administration costs
surrounding pension schemes.
"Pensions used to be a recruiting and retaining tool," says David
Wright, head of the Pensions and Incentives Group at DLA. "But with
increased mobility of the workforce the retention element is not as strong as
it was."
Flexible friends
What kind of incentive is a pension scheme when they are easily transferable
and therefore no longer have any part to play in inspiring employee loyalty?
While adapting to the flexible workforce at entrant level, it is clear that
measures need to be taken to introduce increased flexibility when workers exit
the workplace. Generation Flex, a report into current attitudes to flexible
retirement from consultants Penna Sanders and Sydney in association with the
Employer’s Forum on Age, found 93 per cent of employees would extend their
working lives if flexible working arrangements were made available.
"The research clearly shows that people are being more realistic about
their future," says Samantha Mercer, campaigns director of the EFA.
"There is the recognition that the golden age of retirement is over, and people
are concerned about how they will afford their old age."
While making this happen requires a shift in culture and employment
practices, it also requires the Inland Revenue to drop the rule that prevents
an individual from claiming their pension and drawing salary from the same
employer at the same time. This rule, known as the Sole Purpose Criteria, means
that pension schemes can only be used to provide retirement funds. But
ironically, there is nothing to stop employees taking a pension from one employer
and being remunerated for working with a different organisation.
Asda is one company keen to pursue flexible retirement policies and has a
specifically targeted recruitment campaign to encourage older people to join
their organisation.
"We think there should be flexibility in the retirement age,"
comments Asda’s Michelle Lewis. "People must still have the right to draw
their pension when they are entitled to it, but they should also have the
flexibility to go on working if they want to."
Even the Department of Work and Pension Secretary Andrew Smith believes the
shift between work and retirement should be made a gradual one rather than the
‘sheer cliff edge’ which currently exists, and according to Samantha Mercer,
the Labour Party has made a manifesto commitment to removing this barrier.
However, time remains a major disincentive for the introduction of
legislation. Any policies introduced now will not impact for another 20 years –
a time scale which falls way outside any administration’s considerations.
Criticisms
Current pension plans are inflexible in other ways. David Warner notes
schemes may not recognise the variety of relationships that exist today.
Shouldn’t a widow pension scheme apply to same sex relationships? And is it
really fair to provide schemes which will take care of children without
providing benefits of a similar worth to employees with no family?
Philip Skottowe, a senior consultant with Higham Nobbs, criticises pension
schemes for another anomaly.
"The Government is trying to promote a policy with the subliminal
message that this is your pot of money and you have a right to manage it and
use it," he says. "And then the Inland Revenue says you can only use
the money one way – to buy a pension that will give you an annuity."
In the current economic climate it is unsurprising that pensions are not
regarded as the best way to invest this hard-earned cash. Buying property to
rent and tax-free saving schemes are becoming far more attractive investments.
"The reason people used to save through pensions was that there was a
big tax differential," says Skottowe. "The introduction of ISAs,
TESSAs and PEPs have made those differentials much less attractive.
"People see the inflexibility of the capital," he continues,
"and they say they don’t want to be in a position where they give all
their money away to one insurance company. They want to use it for
themselves."
But while changes in the system may address effective provision for funding retirement
in the future, Skottowe is well aware that the Government faces a more
immediate problem.
"We have a generation issue whereby the number of pensioners to working
people is rising," he says. "That leads to strains on the system,
because there are fewer people paying for more people who have retired."
Skottowe’s solution – a complex combination of taxing funded pension
schemes, providing compensatory tax breaks and using the collected revenue to
create an adequate state pension scheme to cover the transitionary period – is
certainly a radical approach and one unlikely to be taken up any time soon by
the Government.
However, Pickering himself has hinted at ‘radical’ proposals to come from
the IR, throwing the possibilities wide open. The Government has promised a
Green Paper on pensions in the autumn, but while some commentators believe
there will be a new pensions act by 2003, others are sceptical, given the usual
pace of change in this area.
Spreading the risk
Whatever happens, the future holds the possibility of a more equitable share
of the risk of pensions investments – neither expecting the employer to meet
shortfalls when investments do not perform as well as expected, nor relying on
employees to give substantially more of their remuneration towards future life.
In the meantime, employers currently facing troubled times must address
those pension schemes as soon as possible. Any changes made to existing schemes
must be done in partnership or at least consultation with employees if
litigation and disputes are to be avoided.
There can be few people left unaware of the pension problem, and companies
which approach the issue realistically with the intention of finding a solution
that means employees will still receive some benefit, will do better than those
which simply claim the scheme is too expensive and must be terminated.
Find out more…
on Pickering review
www.dwp.gov.uk/publications/dwp/2002/pickering/report.pdf
Pickering’s proposals: ‘A simpler way to better pensions’
Theme 1: A proportionate
regulatory environment
– Future statutory requirements should include a statement of
policy aims, should focus on the objective rather than process, should be
proportionate to the policy aim and should be considered in relation to other
statutory requirements, rather than set up in isolation
– There should be a new kind of regulator (NKR), more proactive
than the Occupational Regulatory Authority and with a role as adviser as well
as regulator
– There should only be a small number of Codes of
Practice/Guidance notes governing all pension schemes
Theme 2: ‘A pension is a pension is a pension’
– The regulatory framework should treat small and large
employers’ occupational pension schemes exactly the same as commercial pension
providers
– Inland Revenue and Department of Work and Pensions
legislation should be streamlined to reduce the number of generic pension
products
Theme 3: More pension/less
prescription
– Employers can make membership of a pension scheme a condition
of employment if they wish
– Employees should have access to pension schemes as soon as
they are employed by an organisation with such a scheme
– Pensions should be made easily transferable between employers
– Pensions should no longer be linked to rises in prices
– The requirement for survivor’s benefits should be removed
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– Employers should be able to reshape pension schemes according
to economic or other circumstances, but this should not enable them to break
their pension promise. It is better that a scheme is altered and continued than
shut down
This article first appeared in the September 2002 edition of Employers
Law. To subscribe click here
