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A new age of provision

Later this year, the Government will enact new legislation to end age discrimination in the workplace.

The driving force behind these measures is the Department of Trade and Industry. Full implementation is scheduled for October 1.

Like so much modern UK legislation, the basis for the proposed changes is an EU directive. This particular one, dating back to December 2000, established a framework for equal treatment in employment, regardless of an individual’s age, disability, sexual orientation and religion or belief.

Most of the required legislation is already on our statute book. For example, the Employment Equality (Sexual Orientation) Regulations (SI 2003/ – 1661) came into effect on December 1, 2003. Now the age discrimination issue is to be addressed.

Overall, the legislation is to be applauded. Business productivity will depend increasingly on employers supporting the recruitment, training and retention of older workers, including offering more flexible opportunities for work and retirement. There are proven advantages in an age-diverse workforce, such as improved retention rates, higher staff morale, higher productivity and a better public image. But there are several issues for the employer to consider.

Pensions are an important issue for the older worker and understanding precisely how the boundaries between work and retirement will operate will be of critical importance.

How will the anti-age discrimination measures affect the pricing and design of life and health insurance products. including income protection, critical-illness cover and private medical insurance? They will pose challenges for providers.

Probably top of the list is the proposal that people will be able to work beyond 65, subject to agreement with their employer. They will be able to negotiate with their employer to stop work at any time up to the default retirement age of 70.

Out of a total UK population estimated at 60 million by the Government Actuary’s Department, 20 million are aged 50 or over. The numbers above state pension age are predicted to rise by more than 40 per cent from 11 million to 15.9 million by 2040 so the numbers staying on at work after 65 are likely to be noticeable.

The proposals create opportunities and risks for the insurance sector. The potential for selection against the insurer is obvious. An individual who is suffering pain and discomfort may choose to carry on working in the hope that if the underlying cause requires hospital treatment or is likely to be disabling, they can make a claim under their employer’s PMI, critical-illness or income protection cover.

If the condition is likely to be life threatening, it may be the life cover that is placed at risk from anti-selection. What can the insurer do to protect itself against this threat? One obvious answer is to build into the premium rates some form of provision for the anti-selection risk.

Historically, life and health insurance cover provided and paid for by employers has been based on employees’ salaries and arranged to end when they reach a specific retirement date. In future, workers will be free to start to draw their pension at any time between their 55th and 75th birthdays. They will also be able to make the transition between full-time employment and full-time retirement in a series of stages. The changed patterns of earnings-related cover with potentially no set end-date will cause major headaches for insurers’ product development and actuarial pricing teams.

But the proposed anti-age discrimination legislation will bring two key differences. First, employees may have greater control over the level of insurance risk that they present to insurers by being able to choose a retirement date after 65. Second, the ages at which they make their decisions will be much higher – probably above that at which they were expecting to retire. Where pricing is of the reviewable rather than the guaranteed kind, insurers should be able to respond by raising premiums for existing business as well as new.

This takes me on to the next major challenge. According to the morbidity and mortality statistics, the risk of illness and death increases with age at an ever-steepening rate. This means that the expense of providing one year’s life cover for a man in his late 60s is several times that for a male colleague who is still in his 20s.

It is already a commercial reality that employment costs tend to increase with age, which explains why it is that older workers who are so often the first to go, by way of redundancy or early retirement, when a business downsizes. Traditionally, the main reasons for the additional payroll burden have been the higher salaries and greater pension costs for defined-benefit schemes.

It appears that the expense of providing life and health insurance may soon be added to the list. The cost of employer-sponsored risk protection is clearly set to rise in the future unless the final regulations allow them to leave out cover over certain ages. The level of increase will depend on the proportion of the workforce who continue in employment beyond what used to be the normal retirement date and how much they earn.

These demographic changes will take a few years to work their way through.

The opportunity that will be created for insurers is for the expansion of flexible arrangements where employees will have a budget – probably expressed as a percentage of current salary – allocated to them by their employer each year to spend on a range of benefits covering pensions, life cover, PMI, income protection, extra holidays and so on.

There is also an opportunity for advisers to review the life cover terms offered by employers to employees.

Pension tax simplification means that pension scheme members can run separate concurrent pension term assurance policies of their own within a tax-advantaged environment. This could mean a migration away from non-pension to pension cover.

Take this simple example. A male policyholder has non-pension term life cover for which he pays a monthly premium of £40. The policy is arranged under a flexible power of appointment trust. In April 2006, the policy has been running for two years and there are a further 23 years remaining of the original 25-year term.

The adviser recommends that the policyholder cancels the contract and replaces it with one of the pension kind. The individual has no health problems and applies for a 23-year PTA for the same sum assured as before.

For illustrative purposes, let us assume that the gross premium cost is the same as before at £40 a month. However, the net cost for the policyholder, who is a higher-rate taxpayer, works out at just £24 – a saving of £16 a month or £192 a year. The new policy is arranged under trust so the sum assured should be paid promptly and free from inheritance tax following a claim.

The tax advantages may not be so great for basic-rate and non-taxpayers but the case for switching is clear-cut. The employer could set up a voluntary arrangement to allow staff to buy cover beyond their agreed retirement age.

The onus is on group risk insurers to find workable and affordable solutions. Those providers that are aware of the issues and already making plans are more likely to succeed in the new environment than those that are not.

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