Allowing struggling defined benefit (DB) schemes to temporarily stop
paying pension increases could help them get back on track while
avoiding huge cuts to members’ pensions.
It comes amid growing calls to allow schemes whose rules do not enable them to ditch the Retail Prices Index (RPI) as an inflation measure for annual increases to move to the generally lower Consumer Prices Index (CPI) measure through a statutory override.
However, this has sparked concern healthy sponsors that can afford to pay RPI-linked benefits could use it as an excuse for making large cuts to pensions. This could lead to many members seeing their pensions cut, irreversibly and potentially unnecessarily.
Whereas, conditional indexation would allow poorly-funded schemes with cash-strapped sponsors to completely drop any increases for a period of time until funding and business performance have improved.
Hymans Robertson head of corporate consulting Jon Hatchett believes conditional indexation is the "least worst option for members", but only if it has "watertight safeguards" to ensure it is reserved as a "release valve" for schemes needing it the most.
It comes with a "hefty risk
warning", and must not be used by unscrupulous employers to get out of
honouring their commitments to pensioners and employees.
He added: "Only allowing suspension of pension increases to be
temporary and with strict restrictions on employers (like dividend
freezes and substantial pension contributions) would help align the
interests of businesses and pensioners. Forcing schemes to reinstate
lost increases before a scheme could be wound up would also help."The consultancy's analysis shows the average member aged 55 with an accrued pension of £10,000 per annum (p/a) linked to RPI could see their total £460,000 pension cut by up to 30% under this move. This compares to a 13% loss if the member's pension increases were switched from RPI to CPI.
However, the 30% cut is the highest amount they could lose if all their in-payment increases were ditched forever, and does not take into account what they would get back once reverting to RPI when the sponsor's position improves. Indeed, members may lose indexation for a just a few years before getting it back.
Hatchett said for many that is a better outcome than going into the Pension Protection Fund (PPF) where the same member would see an irreversible 22% cut. Also, in reality, benefits would never go below PPF levels, and therefore the figures show an absolute "worst case scenario" for conditional indexation without taking into account the flexibility it could offer.
The firm's figures cover males aged 55 with a range of accrued pension levels, including £5,000 p/a, £10,000 p/a, £20,000 p/a, £30,000 p/a, £50,000 p/a, and £100,000 p/a.
It found switching from RPI to CPI affects all members in proportion. By year 25 all will have lost around 17% of their annual pension and will have lost around 12% in terms of total pension payments over their lifetime. Also, the impact of conditional indexation is around 30% across all members analysed. However, a member receiving £100,000 p/a would suffer a 66% cut through the PPF, compared to 29% through conditional indexation (which makes the unlikely assumption indexation would be lost forever).
If a member's increases were
suspended under conditional indexation, this could be for just a couple
of years to give the sponsor breathing space to recover.
"When that happens, increases can commence again and potentially
previously foregone increases can be reinstated, said Hatchett. "In such
a scenario members would actually lose very little indeed, putting the
results much closer to the ‘current' column (no loss). This is important
as in reality conditional indexation would never take benefits below
PPF levels."It is believed around 75%-80% of schemes have liabilities in payment linked to RPI, while deferred liabilities are more commonly linked to statutory minimum levels which typically include CPI.
No comments :
Post a Comment