Pensions not tontines please!

 

If there is one word that we could do without right now – it is Tontine.

The idea has become associated with greed on the one hand.

And of profiting from other’s death on the other

Yet it is inextricably associated with pensions and not necessarily in a good way.

But if there is one concept we could do with right now – it’s what is described in this video as the Modern Tontine

Tontines are probably illegal in this country. That’s because they were used as a way for the last surviving person in a tontine community, to clean up . They created a moral hazard which tempted the community to put harm in each other’s way. In other words they mortally dangerous.

We shouldn’t think about pensions as we think of inheritance, as profit from other’s demise. Instead we should think of our pension as payable as a result of the natural order of people arriving at retirement replacing those retiring from life.

This is a simple concept that depends on a pension plan being open to those prepared to pay in their retirement savings (pots) and prepared to accept that the value they get for their money depends on something they have relatively little control of – how long you live. The key to this is an understanding that because you can’t take it with you go, you are best spending your money while you can.

The idea of non-inheritable wealth isn’t properly considered or discussed in the UK. But it is at the heart of what we think of as a pension –  it is the wage in later age that gets paid for as long as we need it and for most of us, that is as long as we live. But a pension is only inheritable in a limited way, perhaps as a residual pension to a partner.

But while a pension is finite, a pension fund/plan/scheme need not be. Which is why “tontine” is the wrong word to use in association with pensions.

A tontine is a legal agreement where people make an investment into a trust in return for the right to receive a regular income for as long as they live. When a member passes away, their income is shared with the remaining members causing the surviving members income to rise.

There is no use for this rising income for people approaching the end of their lives. What is needed is an arrangement that anticipates the death of people participaing and sets a rate of income on the assumption that the assumed rate of attrition is correct. If the pool survives collectively longer than is expected, the pay-outs have to be reduced and of course the opposite is true.

But the maintenance of an open scheme ensures that there is a balance which means that the drag or enhancement from the experience the pool has of members dying (mortality) is relatively unimportant. And of course the larger number of people in the pool, the less likely the pool’s mortality is to deviate from the assumptions made by those setting the rate at which pensions are paid.

This kind of thinking has been lost to conversations about retirement planning for decades. But it is of course exactly the way that pension schemes operate. Nothing I have written here will be news to any pension actuary, so why does it seem so very radical?

I think we can blame tontines for that!

We have accepted the pooling of risks in all kinds of financial products, from pooled investment funds to life insurance policies. But we have set ourselves from profiting from other’s deaths in pensions , because we have a dread of the tontine (or at least the idea behind it).

It is only when the organisation of a pension scheme is put in the hands of an organisation such as the State or a large employer that we are distanced from the concept of the pension tontine (or its reverse concept- the Ponzi). That’s because we accept that there will always be young teachers entering the USS or people starting out paying national insurance. The smaller the employer, the more a pension scheme looks like a tontine and indeed as soon as you close a pension scheme to new entrants, you make it a potential tontine.

Insurance companies , when they buy-out a pension scheme are effectively stopping a tontine happening. The same can be said for superfunds (including the PPF). The conditions that make us comfortable with being in a pension scheme are associated with us not feeling our pension’s future is down to people we may know dying.

This is why tontines are to be avoided at all costs and should not be mentioned in the same breath as pensions – except where the statement is that when a pension scheme risks becoming a tontine it has failed and needs to be bought out.

So – much as I like the work being done by Nuavalo in the USA and the Tontine Trust in the UK, they are pursuing a concept that is emotionally charged to repel the public they are looking to for support.

You might say that I am being pedanic about semantics but my objection to “tontine” is more than semantic, it is based in our collective objection to profiting from the deaths of those we know.

 

About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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2 Responses to Pensions not tontines please!

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