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Final conflict

The Conservatives want to try and turn back the clock on the closure of private sector final-salary schemes. Can we save occupational DB schemes?

Tom McPhail Head of pensions research, Hargreaves Lansdown
Tom McPhail Head of pensions research, Hargreaves Lansdown

Final-salary pension schemes are not just dead in the water, the stern is now lifting clear of the water and the bow is set to plummet down to the stygian depths where it will spend eternity with the fishes.

In the mid Sixties, 12 million people were active members of final-salary schemes – you started work and almost by accident when you got to retirement someone handed you a pension. But now the state pension is down to 14 per cent of average earnings and fewer than a million workers are part of an open final-salary scheme. Also, the impact of tax charges on pensions have yet to be felt by higher earners and we have yet to see auto-enrolment wash through the system, both of which will further undermine finalsalary provision.

I can see no aspect of fiscal, economic or social trends and policies that could redeem final-salary pension schemes from demise. Yes, I can see some scope for hybrid There is just no dynamic that would persuade employers and shareholders that it is in their best interests to offer guar-anteed pensionsschemes with a degree of risk sharing but the traditional model, where the employer carried the investment and longevity risk, is just not going to happen anymore.

There is just no dynamic that would persuade employers and shareholders that it is in their best interests to offer guaranteed pensions

Even risk-sharing is optimistic. The move to auto-enrolment could mark a widespread shift to a definedcontribution world. There is just no dynamic that would persuade employers and their shareholders that it is in their best interests to offer guaranteed pensions to their employees.

There might be people looking back on the benefits of finalsalary schemes in the future but a lot of things were always better in the past – summers were longer and we always got snow in winter. We may pine for the good old days when workers had guaranteed pensions but that is not going to bring them back. I think if you fast-forward 20 years, the majority of workers reaching retirement will not have any final-salary benefits at all.

It seems we are set on an inextricable path of personal responsibility, where your retirement provision is your personal challenge. You will look to your employer to help you with that challenge but what you get out is ultimately your problem. I think this approach can be successful – personal responsibility is not necessarily a problem but it requires individual engagement. It will be difficult but auto-enrolment will give us a platform to move forward with that.

People will look back in 30 years and will talk about how the Government paid for nursing homes and how people didn’t need to sell their homes to fund their long-term care. They will all wish it was like “the good old days” but it won’t be like the good old days – the world will have changed and wishing isn’t going to change that.

Steve Leake:  Chairman of PR communications, Association of Consulting Actuaries
Steve Leake: Chairman of PR communications, Association of Consulting Actuaries

There was nothing wrong with the original defined-benefit schemes. People got the benefit when there was an adequate pot of money to pay for it. But once all the legislative shackles had been laid on top of them, they became prohibitively expensive, so much so that employers cannot afford them and, even if they can, they are not valued and cherished by employees.

The Government’s original aim for personal accounts was for them to help the great number of people who have no scheme. It was never envisaged as a replacement for good quality occupational scheme. The concept was that people would still look for good final-salary schemes and if they couldn’t find one, then Nest would be there to fall back on.

It could even be that the whole process starts again. In time,we will see employers reassessing We need a core benefit scheme without the shackles of indexation and revaluation and all the things that legislation has put on money-purchase accounts and looking at what they are earning. This may lead to the employer topping them up and, if that becomes common practice, then there will be rules for this “top-up”. In a short space of time, you will find that defined-benefit final-salary schemes will be reinvented again.

We think there is a future for final-salary schemes but where employers and employees share the risk. We have reached a polarised position where 99.9 per cent of risk sits with the employer with defined benefit and 99.9 per cent of risk sits with the employee in defined contribution.

We need a core benefit scheme without the shackles of indexation and revaluation and all the things that legislation has put on

We need to get back to a middle ground – a core benefit scheme without the shackles of indexation and revaluation and all the things that legislation has put on. It would also have a control framework so if we get another recession and equities do tumble, you have not put companies in positions where they cannot meet their golden promises.

I think it could be 10 or 20 years before people realise what they have lost with final-salary schemes. It will be when half or threequarters of most people’s pensions have been in defined contributions and it is not returning much and you also have inequalities with others who were in defined contribution for longer. It is at this point when employers will have to face some of these issues.

Some employers will bring back schemes and when we do reviews with employers now, we are seeing consideration for risk sharing and these alternative schemes.

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