Screengrab from the Breakfast Club
Don’t you (forget about DB)
It is easy to overlook defined benefit (DB) pension schemes when so much of the talk in the pensions world is of cruises, conservatories and high-powered sports cars.
But their central role in the retirement savings of millions of people and as a crucial underpinning for the ongoing automatic enrolment reforms means that protecting and nurturing these schemes is of enormous importance.
DB schemes pay out an income in retirement based on length of service and the member’s salary. For several decades, they were the mainstay of retirement provision across the public and private sectors.
Today, defined benefit schemes are often criticised as a last perk of public sector workers. Those in the private sector have fallen victim to changing working patterns, government idiocy and corporate opportunism, and are now too easily dismissed as a legacy of a by-gone age, nothing more than a burden on the companies that sponsor them.
Yet, arguably, they play as important role in the retirement plans of today’s pensioners and today’s workers as the alternatives. Currently, more than 11 million people are receiving or will in time receive benefits from a private sector DB pension scheme.
Still around 29 per cent of employees aged over 16 are currently contributing to a private sector defined benefit scheme, according to ONS figures, albeit well down on 46 per cent in 1997. But this means occupational DB schemes represent 49 per cent of total workplace pension membership, compared to 51 per cent in various forms of defined contribution (DC) schemes whose pay-outs rely on a combination of contributions and investment returns.
More than two thirds of private sector schemes are still open to future accrual although new employees are often offered an inferior DC arrangement. Open DB schemes are particularly concentrated in certain sectors like manufacturing that feature large companies looking after stable workforces backed by a strong trade union presence to ensure workers’ interests remain to the fore. The importance of pensions to these members has been demonstrated recently when workers in the steel industry took action to defend their DB pension benefits.
But the future of DB is still rarely discussed. Companies do not want to remind new employees of the benefits that their predecessors receive. Government does not want highlight the policy errors that led to the closure of many schemes. Many in the pensions industry want to pretend that the products that are currently offer are the best imaginable. When DB does get it talked about, too often it is purely as a problem, something companies have to manage away.
Despite recent scheme closures, there are nearly two million active members of DB schemes. Another nine million people have built up DB savings or are receiving pension payments. This is why the Pensions Commission, whose proposals led to the introduction of auto-enrolment, predicted a rise in non-state pension income as a percentage of GDP until 2035. These substantial DB pensions savings mean that auto-enrolment has time to bed in and for savings to build up to meaningful levels.
An acceleration in DB’s decline, whether by inertia or an overt attempt to relieve business of an apparent burden, runs a high risk of sending the system out of balance and could mean more people suffering reduced standards of living in old age. The ending of contracting-out (which has been used to justify an increase in National Insurance rates) from next year has already been unhelpful in this regard.
We must also be wary of anything that undermines a scarce commodity in pensions – that of “trust”. Whether it is as dramatic as allowing DB rights to be converted en masse to another form of pension , the more subtle but still enormously damaging approach of allowing the removal of inflation-uprating, or even tinkering with retirement ages, any attempt to water down accrued benefits risks undermining faith in the wider pensions system at the very time we are trying to bring millions more people into it.
Some reassurance should be taken from our new Pension Minister’s firm stance on financial advice for those who are considering transfers from DB to DC pensions. Baroness Altmann was adamant that the £30,000 minimum pot size for advice should be lowered to minimise the chances of people giving up valuable rights without fully comprehending the consequences. This suggests that protection of consumer rights in DB is central to her pensions philosophy.
But there are things we can do to help schemes and their sponsors. Under the Coalition government, the trade union movement and business groups united successfully to support common sense reform such as placing a statutory objective on the Pensions Regulator to minimise any adverse impact on the sustainable growth of a scheme’s sponsoring employer when setting its funding requirements.
We could do more to ensure that unreasonable burdens are not placed on schemes, and by extension sponsoring employers, to meet funding demands in the short-term that in fact only emerge over many decades. This is of particular importance at a time of record low gilt yields that have the effect of inflating deficits – another issue Baroness Altmann has been vocal on in the recent past.
As she told the Pensions Regulator in 2013: “Because pensions are long-term liabilities, it seems unwise to force firms to adjust to short-term exceptional circumstances in the way that has been happening. Once the emergency policy measures are unwound, and real (and nominal) interest rates return to more normal levels, the long-term nature of the liabilities should allow deficits to be repaired over time.”
Trade unions, business and government working together can ensure that DB pensions play their intended role over the next few decades in the retirement savings of millions and in the transition to an auto-enrolment world.