Policy on Final Salary Schemes
No room for complacency as closed schemes will need better ways to manage liabilities: Britain’s Defined Benefit (DB) final-salary type pension schemes are under unprecedented pressure. So far, the Government has been rather complacent about the risks, but with the ongoing ultra-low interest rate environment and rising economic and political uncertainty, new thinking is urgently needed.
Millions of members at risk: The PPF estimates 3 million people have no more than a 50% chance of getting their promised benefits, while three quarters of sponsors are facing significant challenges in running their schemes.
Deficits have stuck at £400bn for past ten years, despite £120bn employer contributions: Despite ploughing £120billion into DB schemes to improve funding, the aggregate DB deficits have stayed around £400billion for the past ten years. Employers have been running to stand still and the hoped-for funding improvements have generally remained elusive.
As most schemes are closed, sponsors will soon be desperate to get rid of legacy liabilities: With the majority of schemes now closed, within the next 5-10 years, these sponsors will have no interest in or worker connection with the scheme. 90% of FTSE350 schemes are expected to become cash-flow negative in the next 5 years. Sponsors will look for ways to get rid of this legacy risk, or will go bust, especially if the economy weakens. The Government must plan ahead for this now.
Not enough flexibility – making the best the enemy of the good: Many companies would like to honour their obligations, but in an affordable way. However, the options for employers and members are binary. Employers who can continue in business, must purchase annuities for full benefits before severing links to the scheme. This is prohibitively expensive, especially in the current interest rate environment and it is questionable whether excessively expensive annuitisation is a sensible use of corporate resources.
Pensions can’t be reduced unless sponsor going bust: Quite rightly, employers cannot walk away from their schemes. But once employers are facing inevitable insolvency, benefits are reduced by around 10-20% in the PPF. There is no flexibility for companies which struggle on in business.