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Walking the tightrope

When the Department for Work and Pensions published its Green Paper in December, the response from practitioners was muted if not critical.

Many issues in the Green Paper had already been covered previously in depth in the Pickering report so we expected more action, instead of which we got more consultation. Perhaps the criticism was unfounded, with unfair comparisons being made with the Inland Revenue/Treasury consultation on pension tax. The radical tax proposals grabbed the headlines.

However, after only three months from the closing date of the consultation, the DWP has published its action plan on occupational pensions, with some changes to take effect this year and others in 2005. The focus of the action plan is the security of members&#39 benefits with the setting up of a pensions protection fund.

There are other significant changes relating to occupational pensions but the main issue is the compensation scheme – the pensions protection fund that will guarantee the pensions of scheme members whose employers become ins-olvent and where their pension funds are in deficit.

The fund will pay 100 per cent of pensions in payment and 90 per cent of the benefits of those still working. There will be a cap on the maximum amount guaranteed by the fund equivalent to the pension exp-ected by those on a final salary of between £40,000 and £60,000. The new employer taskforce will consider what the cap should be. The cost of the fund will be met by lev-ies on private sector defined-benefit schemes (not public service schemes where the ultimate guarantor is the Government).

Some of the arguments against such a scheme are reminiscent of those made in the period leading up to the formation of the Policyholders&#39 Protection Board in 1975. (The PPB, replaced by the Financial Services Compensation Scheme in 2001, was formed to provide compensation for people whose insurance firms went bust).

The argument went along the lines of “Why should we, paragons of financial probity – the good guys – have to subsidise the bad guys?”

Well, the arguments did not win the day and the PPB was set up. Over the years, it has provided compensation or continuation of insurance cover when insurance firms have folded. The hardship to policy-holders and the negative publicity have reduced considerably.

There are similar worries about the levies to fund the pensions protection fund – how to ensure equity between well-funded and poorly funded schemes and minimise the inevitable moral hazard. The answer could be to split the premium into two parts, comprising a flat-rate charge, for example, based on the number of scheme members, plus an insurance premium based on the risk, which is greater where the fund is in deficit.

The UK Government can look at the experience of the US Pension Benefit Guaranty Corporation established in 1974, which has provided an effective safety net for US pensions fund members. However, it has experienced the very problems that UK practitioners have voiced, namely weak employers with pension fund deficits taking advantage of healthy pension funds sponsored by strong employers.

The problem in the UK is that poor investment returns over the past few years have wiped out many surpluses that accumulated in the past, employers no longer have the luxury of a contribution holiday and are having to pay big contributions to plug fund deficits. In addition, they will now have to pay a levy to the pensions protection fund.

Ideally, it would have been better to introduce the pensions protection fund when pension funds, and employers, were in a far healthier financial position but the need and the motivation would not have been present at the time. That is not the position today, scheme members have experienced the loss of pension rights as a result of their pension funds being unable to pay their pensions and the insolvency of employers. Will those scheme members and their friends and families ever commit their savings to a pension plan again?

The establishment of the pensions protection fund is a sensitive initiative – to restore confidence in defined-benefit schemes and provide greater security for scheme members without pushing employers so close to the brink that they close the scheme altogether.

Some employers might take advantage of the upheaval in their pension arrangement to reduce their overall contributions and scheme members will be worse off as a result.


Out of context

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Tax threat on annuity avoidance

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Newcastle Building Society – Portfolio Balanced Bond

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Cricket - thumbnail

England vs Australia: pensions

Well, the cricket season is here, and England and Australia are stepping up to the wicket. Although we compete with each other in the sporting world, when it comes to pensions, Australia’s pension programme is held up as a model for our auto-enrolment initiative. Auto-enrolment was introduced because people weren’t saving enough into their pensions, and it is still early days but signs are positive. However, in Australia, saving into a pension is compulsory, and in fact employers are the ones who have to pay in. Employees in Australia can make additional contributions into their pensions, but they don’t have to. Should the onus be on the employer or employee to save? Well in the UK we think it’s both, but to get ‘adequate’ savings for retirement it’s the employee who has to pay more in.


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