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SOS for SSO in sex wars

Last week we looked at the way in which final-salary scheme benefits structures worked in favour, or against, higher or lower-paid employees depending on whether they impose state scheme offset. We also briefly noted that the trade unions are keen to get state scheme offset outlawed, calling the principle the more emotive “clawback”.

This week we look closer at the trade unions&#39 argument, the case (Shillcock) which will shortly bring the dispute to a head and, finally, examine the implications of the case on pension planning.

First, though, it is worth mentioning that state scheme offset can be imposed in a number of different ways. Last week, we looked at the most common method adopted by final-salary schemes – deducting the value of the basic state pension from the calculated total pension.

Thus, if we assume the basic state pension to be £4,000 a year, this would reduce typical 1/60th scheme benefits from £60,000 to £56,000 for an employee retiring with final pensionable earnings of £90,000.

An alternative method of applying SSO is to deduct a proportion or multiple of the value of the basic state pension – usually only the single person&#39s pension – not from the pension payable to the employee but from that emp loyee&#39s calculated final pensionable salary

In our ongoing example of Michelle and again using an assumed basic state pension of £4,000 a year, this would give the following revised benefit calculations where, as is commonly the case (source: NAPF survey 1999) a deduction of 1.5 times the basic state pension is made from the member&#39s final pensionable salary:

Michelle:

Final pensionable salary:

£90,000 per annum

Deduct 1.5 x £4,000 (£6,000 per annum)

£84,000

Pension = 40/60ths £56,000

You can see that we reach exactly the same number as if the scheme had simply ded ucted the value of the basic state pension (£4,000) from the pension payable (£60,000).

But on what basis are the trade unions fighting the schemes? The big issue is sex discrimination.

Well, it all comes back to sex again, doesn&#39t it? State scheme offset disproportionately works against the lower paid, including a very large proportion of part-timers.

We have already discussed in these articles over the last few weeks the established principle that, where the maj ority of part-timers in a company are women, or indeed where the majority are men, it is usually illegal to preclude these part-timers from membership of a company-wide pension scheme. This would amount to sex discrimination, it has been confirmed.

The Magorrian and Pres ton claims confirmed that most of these part-timers may claim 24 years&#39 of backdated rights (to the date of the Defrenne case, in 1976).

Now, the trade unions argue exactly the same point against clawback. The link between claw back and part-timers should be obvious to readers – most lower-paid workers in most companies are women. The trade unions are simply attempting to make the link and then quote the Preston (back-dating) judgment. This, in effect, is the Shillcock case.

State scheme offset detrimentally affects the lower paid more than the higher paid, proportionately. Offsetting £4,000 against an individual whose total benefits come to only £4,000 is much worse then offsetting £4,000 against a retiree who was expecting a total pension of, say, £60,000. Sure, the true cost to both of these people is exactly the same when measured in cash terms, but few people would deny that the impact on the lower-paid worker is much more severe.

There would be huge implications if SSO were outlawed though. Transfer values would increase from schemes which are no longer allowed to offset the value of the state pension. Pension transfer practitioners may tread warily with former employees of these schemes for the next few months.

BP, for example, abolished SSO retrospectively late last year at a cost to the scheme of around £800m (and, therefore, at a gain to scheme members – including those with deferred pensions of many thousands of pounds each). This did not hurt BP too much as it had a scheme surplus which could soak up the cost. Not all schemes are so fortunate. Perhaps this will be the final nail in the coffin of many final-salary schemes?

It is not disputed that pension legislation over the last couple of decades has inc reased the financial burden – largely borne by the employers – of final-salary pension schemes. Faced with inc reased funding levels, it is perhaps hardly surprising that some schemes have sought ways of containing the emp loyer&#39s ongoing funding to acceptable levels.

If funding for the continuation of the existing benefit structure appears likely to exceed the employer&#39s des ired budget, then a significant restructuring of the scheme may be prompted.

Many schemes have swit ched to a money-purchase benefit and funding structure but, as noted earlier, many of the remaining final-salary schemes have introduced some form of SSO.

Clearly, SSO is used by schemes to reduce or restrain funding levels. That observation might sound like a condemnation of those schemes but the plain and simple fact is that if schemes did not restrain funding levels by the use of SSO they would have to impose some other means of reducing scheme benefit levels to stay within the emp loyer&#39s funding budget or, as many schemes have done, switch to money purchase).

Trade unions and other opponents of SSO should tread warily in their campaign – if successful in bringing public and political pressure to bear on schemes to remove SSO they may well find that employers increasingly start to question whether the funding of an occupational pension scheme – certainly of a final-salary pension scheme – is really worth the hassle.

The eventual losers of a campaign to protect employee benefits could so easily be the employees themselves.

Nonetheless, the unions must be supported in their opposition of some particularly ludicrous anomalies.

I have been told of sch emes which operate SSO against pension benefits (the first methods outlined above) deducting full basic state pension even for part-timers (whereas many schemes ded uct a proportion of state pension according to the proportionally lower number of weekly hours worked) yet still levy employee contributions at the rate of, typically, 5 per cent of salary. These part-time workers, perhaps congratulating their representatives for “winning” them membership of a final-salary occupational pension scheme, are therefore paying part of their salary each week for membership of a pension scheme from which they are highly unlikely to derive any benefits.

You may want to refer to another of our briefing notes regarding the backdating of part-time workers&#39 entitlement to pension scheme membership (the Magorrian case, among others), such backdating rights should be claimed with care if the scheme operates SSO.

As we have already noted, an increasing number of final-salary schemes are introducing SSO. However, many finalsalary schemes are switching to money purchase. More over, pressure to abolish SSO is mounting from the trade unions and political support is increasing. This issue is very likely to rise to prominence over the next few months. Watch this space.

However, the Preston ruling and the subsequent ret reat of the solicitors rep resenting Wolverhampton (and, in effect, pension sch emes generally) has done Shillcock&#39s case no harm whatsoever.

Next week, we stay even longer on the subject of sex and pensions when we look at what very recent developments in the way assets in general, and pensions in particular, are dealt with when the sex comes to an end…..at divorce (or sooner usually, of course).

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