You’ve saved for years into a defined benefit pension scheme in the expectation it will provide you with a secure and comfortable retirement. Then, without warning and through no fault of your own, the company supporting the scheme goes bust, plunging you into uncertainty. That’s the worry faced by members of many of today’s nearly 6,000 private sector defined benefit schemes.
After a number of high profile cases and much recent focus in Westminster, last week’s pensions Green Paper was expected to propose real solutions for these schemes which pledge to pay out an income based on how much you earn when you retire. But what did it actually say?
Firstly the good news. It is reassuring that, after more than a decade since pensions legislation was last examined fully, the government appears ready to listen. The Green Paper is extremely wide ranging, covering all aspects of legislation from how to value pension liabilities themselves, to the role of the regulator in protecting members. A lot of the ground work has clearly been done.
And the bad news? Well for all its analysis there are very few actual proposals. In fact, on first reading, you might be forgiven for thinking all was well in the world of pensions.
For example, the Pensions Regulator currently estimates that 90-95 per cent of schemes have a deficit (the gap between assets and liabilities). PwC‘s independent measure, the Skyval Index, estimates these deficits totalled around £470 billion at the start of February.
These deficits must be paid back by British companies. However, the Green Paper notes that the evidence ‘does not appear to support the view’ these are unaffordable. We also hear that despite not always operating ‘optimally’, there is ‘not a significant structural problem‘ in current pensions legislation and regulation.
So what is the problem? Here the government agrees that ‘the single biggest risk to members of these schemes is the collapse of the sponsoring employer’. If this happens when there is a deficit in the scheme, pension obligations can be taken on by a state body, the Pension Protection Fund (PPF). But this is a poor outcome for members who lose a portion of their benefits.
How to solve this problem is both difficult and emotive. For example, one possible approach set out is to limit future pension increases for schemes supported by stressed’ employers. In theory this would improve things by stopping schemes falling into the PPF (where benefits would otherwise be cut back by even more) and also save jobs. Nevertheless, a big problem here is moral hazard. How do we stop companies gaming the system to avoid liabilities they can actually afford? Pensioners understandably ask why they should be expected to suffer losses to protect other creditors.
With few easy answers, a more general theme to the Green Paper might be summarised as, ‘it’s not so bad really, but we’re happy to listen to your suggestions’. For me, this apparent optimism misses the opportunity to openly examine wide ranging options on how to proceed.
For example, of further concern is that the debate says nothing about today’s generations of savers in ‘defined contribution’ schemes, who largely have to tackle pension risks alone. While not the subject of the current week debate, in time, the comparatively much lower level of savings in these schemes may be viewed as the greater crisis.
As an industry I believe we have a responsibility to make constructive suggestions. For the government’s part, now that they have laid down a challenge to the pensions industry, the onus will be on it to find time in a packed legislative agenda to bring emerging proposals to fruition.
Jeremy May is UK head of pensions at PwC