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A workable solution

Most people in the pension industry would, I think, agree that the role of the employer is crucial to private-sector pensions in the UK. Making it easier for employers to offer and operate pension arrangements for their employees was certainly high on the Pickering review&#39s agenda.

The difficulty in considering the role of the employer, as with so many other things in life, lies in getting the balance right.

At the risk of stating the obvious, we must remember that employers do not have to contribute to pension arrangements for their employees. It is true that, since April 2001, most employers have to offer their employees access to a stakeholder pension if they do nothing else. But there is a huge difference between just offering access by designating a stakeholder pension and actually operating and contributing to a pension arrangement for employees.

Yet, as soon as the employer takes that voluntary step into the world of private sector pensions, he takes on significant responsibilities and is subject to a variety of rules and regulations that will govern both the commitment to the pension scheme and the operation of the scheme itself.

It is, of course, absolutely right and proper that pension schemes should be appropriately governed to ensure that members are looked after. But the key word here is “appropriately”. It is in no one&#39s interests if the regulations governing pensions become so disproportionate that employers decide against offering schemes or abandon schemes that they are currently running.

In the laudable desire to look after scheme members, we must not forget that there are a great many people out there who do not enjoy the benefit of an employer scheme. We need a sensible balance between protecting the position of those who are already in schemes and raising the pensions entry barrier so high that those outside have no chance of getting in.

So what is there in the Pickering report that might make it easier for employers to offer and operate pension schemes? At the level of principle, there is the proposal for the new legislative and regulatory approach which I have outlined in an earlier article. Under this approach, legislation would only prescribe in detail where absolutely necessary. This would help employers get out from under the detail that is currently suffocating many in their attempts to offer pension schemes to their employees.

There are also a number of specific examples proposed by Pickering where changes in legislation could help. Consider the proposal that we should return to the position where an employer could, if he wished, make membership compulsory. Submissions to the Pickering review suggested that many employers would welcome this.

At the moment, the best an employer can do is make membership the default, that is, by automatically including employees unless they specifically opt out. This can be a very successful approach in pushing up take-up rates to in excess of 90 per cent. But, unfortunately, there are still some employees who do opt out and there is some evidence to suggest that it is younger employees who are more likely to do so. This is particularly unfortunate since the increased emphasis on personal saving means that younger people should be joining their employer&#39s scheme.

From the employer&#39s perspective, where the pension is a defined-benefit scheme, the lack of younger members joining can have funding implications. Quite apart from these considerations, it could be much easier to operate a compulsory membership approach than administer the details of an opt-out procedure.

Compulsory membership would also be an option for any employer sponsoring a defined-contribution pension arrangement, provided the employer made a reasonable contribution, suggested at 4 per cent in the report.

Other examples of changes which could help employers are the removal of the mandatory requirement to promote limited price indexation increases on pensions in payment and the removal of mandatory spouse&#39s pensions.

These particular proposals have created a lot of comment, much of it unfavourable. Let us be clear about what is being proposed here. The report suggests that employers should not be required to provide LPI or spouse&#39s pensions. If schemes wish to do so, there would be nothing to stop them. In fact, a recent NAPF survey suggested that 81 per cent of schemes would retain spouses&#39 pensions and 76 per cent would retain LPI.

The point is to allow defined-benefit schemes the freedom to structure benefits in a way which suits both the employer and the workforce and, very importantly, is affordable. In a defined-contribution context, the member would then be able to choose the benefit format which he or she wanted, appropriate to circumstances and needs. Single people, for example, might not want a spouse&#39s pension or some married people might not need this benefit where a spouse is adequately covered by his or her own pension arrangements.

Spouse&#39s pensions and LPI are, in fact, part of the much bigger issue of contracting out. It was clear from a very early stage of work on the report that contracting out was a crucial area. The very concept of contracting out does, it must be said, add some complexity which makes it all the more necessary to keep the actual process as simple as possible.

Pickering proposes a simpler reference scheme test for employers and also suggests that schemes should, if they wish, be able to convert guaranteed minimum pensions to the new RST. In the defined-contribution environment, the proposal is to abolish the distinction between protected rights and excess benefits.

These changes would simplify admin and member communication which would, from the evidence of submissions provided to the Pickering report, be much welcomed by employers. A key issue for employers is the sheer complexity of the explanations they have to give to members and prospective members about the benefits on offer. If the benefit structure were simpler, it would be easier to explain.

Employees might well be more enthusiastic about their benefits if they had a better understanding of just how valuable an employer-sponsored arrangement is.

However, a word of caution is needed here. The report was designed to work as a package and it could be downright dangerous to adopt some proposals and reject others. For example, the proposal is that there should be preservation from day one across all types of schemes. This will help more people, especially younger people, to build up more pension money.

But employers do not want to hold small benefits in schemes so the supporting proposal allowing compulsory transfer out of benefits below a minimum level would be absolutely necessary. If we got immediate preservation without compulsory transfers of small benefits, life would get worse for employers not better. Cherry picking can be dangerous.

The Pickering report is not the pension equivalent of a magic wand. It does not claim to solve all pension problems nor can it do anything about economic factors which are beyond the control of pension legislation. But it does contain some sensible, practical, workable suggestions. Many of these suggestions would help make it easier for employers to offer and operate schemes.

Employers have a key role to play in private-sector pensions. Legislation should do all it can to encourage them.

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