There’s more to this question than meets the eye. DB in run-off is likely to become less expensive to sponsors as inflation and interest rates increase.
This should feed through to lower funding which might feed through into more equitable DC funding – so that the gap between the “DB rich” and the “DC poor” narrows. But this will be likely opposed by the “de-risking” brigade.
Employers face a choice, do they take this chance to cleanse DB from the balance sheet (moving to buy – out by encouraging members to give up some or all of their guarantees)? Or do they breathe easier, recognise that their DB scheme is solvent and make choices on what to do with some excess pension cash.
Sadly, I suspect that choice won’t be much discussed. Such is the fervour of those demanding de-risking (including the Pension Regulator) that the DC scheme will not be improved and many employers will plough on with de-risking programs that benefit corporate pension consultants , fund managers , insurers and most of all shareholders. These programs are not of much benefit to DB members, who are already well protected and they are at the expense of those in auto-enrolment schemes who often get nothing more than
Indeed many don’t even get the £10 tax-relief – especially if they are in hybrid DB/DC schemes set up on a net-pay basis to protect employers from the impact of enforced wind-up.
Employees have few rights or entitlements but…
It does not seem good practice for an employer to run what are in practice two reward strategies within its organisation. But this is what many employers are running
Reward strategy one is for those employees and former employees who are accruing rights to or receiving or expecting benefits from DB schemes. Reward strategy two is for employees who were excluded from DB either because they joined too late or they never qualified as eligible. The strategy for group one is aligned with the Pension Regulator’s wishes to immunise the scheme from going into the PPF by making it self-sufficient of a sponsor and ultimately, part of an insurance company’s , rather than its trust’s liabilities.
Reward strategy two is to make the best of a meagre DC budget and get by with parsimonious top-up schemes such as “sidecar savings”.
Staff have no rights beyond the auto-enrolment minima but sound reward strategies and good governance should lead to improved parity between group of employees, fair’s fair
Creating parity between employees should now be on the agenda
After more than a decade of artificially low interest rates and austerity, we are moving into a new normal where monetary policy is tightened but pension austerity is maintained.
But this need not be the There is a new pension on the block, one that will require a higher rate of funding than the bare minimum required by auto-enrolment but one that can provide equivalent benefits to a DB scheme, though not guaranteed. I mean of course CDC.
There is now an opportunity for employers who want to level up, to do so by maintaining support for DB at minimum required levels, ceasing to pump money into further de-risking and adopting a CDC workplace pension that targets what the PLSA calls a “comfortable” retirement income.
This can best happen if CDC is allowed to develop with a regulatory light touch. The complaints of myself, Con Keating, Iain Clacher and many others is that the CDC code under consultation is anything but light touch and will close the door on CDC upgrades at many employers.
There is a danger that CDC may well end up as part of the “de-risking of DB” as employers negotiate “conditional indexation”, fixed contributions and ultimately swap guarantees for the prospect of “no further cuts in benefits”. This is what I see happening at USS and there are other multi-employer schemes which would like to follow. It would be a shame if the only sponsors interested in CDC were those who saw the costs of the CDC code as acceptable to rid themselves of DB guarantees.
I am not against de-risking DB to CDC if it means people get as good or better pensions as a result. USS for instance has a large number of employees in a DC scheme who could switch to CDC as Royal Mail is switching those in its DC scheme.
But for this to happen, there has to be an acceptance within a large DB scheme that it cannot continue to de-risk its investment strategy to the point where it is ready for buy-out. I can see strong arguments for smaller schemes to pursue such a strategy, where the fixed cost make the scheme itself unviable and I support Stoneport and others looking to bring some sanity to the provision of DB by small employers. But the very large DB schemes are typically too big for the insurers to swallow and are to all intents, acting as insurers. They do not need to lockdown strategies to the point that there is no excess cash from the employer to improve the workplace pension.
And trustees of these schemes must be mindful that they are only acting for one part of the sponsor’s workforce. The Pensions Regulator must be aware of that as well. Employers should consider their reward and wider governance strategies and decide whether the good news on DB is a shareholder windfall or an opportunity to provide pensions for those in DC workplace plans.
There are many things which have been detrimental to the funding costs of DB schemes over the years, such as contribution holidays for employers in the 80s and 90s when schemes were in “surplus”, the introduction of tax on dividends by Gordon Brown, the move away from equity investment into bonds to derisk, and the increased protection for deferred benefits for leavers. However in the many decades since many DB schemes were established, by far the two biggest influences that make DB scheme funding so prohibitive is the downward movement of long term interest rates and the great increase in life expectancy. It would appear that DB schemes are no longer sustainable in their present form. Guaranteed pension liabilities are not able to funded by matching guaranteed index linked assets and so the level of risk taken on by employers is no longer sensible. I look at the USS scheme debate, and the truth of the matter is that it just isn’t fair to have some members of staff with such gold plated pensions whilst the rest of society does not have such benefits. You simply cannot “level up” pensions so that everyone gets a guaranteed pension, because the vast majority of employers would go out of business trying to provide guarantees on their staffs’ future pension income. The argument about whether academics should get more pay to compensate them for the loss of gold plated pensions is a valid one, and not one to be glibly ignored. But I cannot see how as a society we should protect academia from the truth that DB pensions are not sustainable when people live so long these days. I also do not see how Civil Service pension schemes, firefighter pensions, police pensions, NHS pensions, and public sector employers in general can continue to offer guaranteed pensions when the cost to the taxpayer is so immense. The two tier system of pension benefits for employed people is really a 3 tier system, since self employed people have no pension provision at all, unless they pay in for themselves. Rather than holding on to ideal of a well funded DB scheme offering a guaranteed lifetime pension maybe the radical alternative is to look at doing away with all inequality by removing all future DB accrual. In doing this there would still be issues in protecting the existing defined benefits built up but I just do not see how further accrual is fair on all those who do not have such opportunities, since everyone else has to pay for the few. What would need to happen, and probably won’t is that employers would fund higher levels of employer pension contribution for all member of staff moved into DC schemes, and the exact same levels of contribution for those already enrolled in such DC schemes.