Breaking finance and business news, tax information, jobs and more for finance directors and senior finance professionals.

Management

Will your pension boost be sufficient?

Written by Richard Northedge, 2007
Thursday, 19 July 2007
Attempts to close the deficits in company pension funds by increasing funding and closing the schemes to new members are being undermined by workers living longer. Actuaries had expected the improvement in longevity seen in the 1990s to level off, but new figures show mortality rates are continuing to fall rapidly. The actuaries’ professional bodies have sent an urgent warning to members telling them they should not automatically accept the rates used in published mortality tables. Pension fund deficits have been a major problem for employers since stock markets collapsed in 2000. The fall in investment values coincided with increased awareness that workers were living longer, so increasing the funds’ liabilities while asset values were falling. Although companies have sought to limit their funds liabilities by switching members from final-salary schemes to money-purchase plans, they have had to increase corporate contributions to schemes. Now it transpires that increasing longevity is again countering the higher contributions. More than 80 per cent of final salary schemes were in deficit at their last valuation but two-thirds of companies are increasing contributions to try to close the gap. Seven out of ten expect to eliminate their deficits within a decade, as requested by the Pensions Regulator. The number of final salary schemes closed to new members has increased from 68 per cent to 81 per cent over the past two years, according to the Association of Consulting Actuaries. The proportion that are closed to new accruals from existing members has jumped from 10 to 14 per cent and looks set to increase further. The average employer contribution to final-salary schemes has almost doubled over the past five years from 11.5 to 22.6 per cent, according to the actuaries’ survey of 330 employers with schemes valued at more than £127bn. Member contributions have also risen, but only by two-fifths, to 6.1 per cent of earnings. Many companies are increasing contributions to their workers’ money-purchase plans too, even though all risk and responsibility with such schemes rests with the employee rather than the employer. However workers and employers are contributing a combined 10 per cent of pay into money purchase plans – just a third of the sum paid in to final salary schemes. Although there were signs two years ago that companies switching from final salary schemes were making large increases in money purchase contributions, this upward trend has not continued say the actuaries. The continuing fall in mortality rates threatens money-purchase pensions, however, because members’ pension pots will buy smaller incomes. Stewart Ritchie, president of the Faculty of Actuaries, and Nick Dumbreck, president of the Institute of Actuaries, have written to members admitting, “All relevant recent experience confirms that mortality rates for the retired population in the UK have continued to fall rapidly with no real signs of slowing. Because of this, some projections which have been in common use may no longer be considered reasonable assumptions.” The actuaries produced new mortality takes in 2002 believing they reflected the increased healthiness of the population but expecting the improvement in longevity to slow. Their presidents now admit, “High rates of improvement have continued since that time.” They are now warning that actual death rates, as measured by the Office of National Statistics, are showing a different pattern even from the 2002 projections. The effect will be lower annuity rates, meaning a given sum saved in a pension plan buys a lower income for life. Unless workers or employers increase contributions, the only remedy for policyholders is to defer retirement by working longer. Companies may find themselves under pressure to continuing employing the staff who they have forced into money purchase plans long after their conventional retirement dates, even though the state pension age is being slowly increased. Companies may thus discover that they have not shed their liabilities to the expected extent when closing final salary schemes. This may account for more employers shunning group money-purchase plans and leaving workers to sort out their own pensions. Such a move would further distance the employer from future liabilities to former staff. The actuaries report an increase in the closure of occupational defined-contribution schemes with trustee-based arrangements being replaced by contract-based plans. The government is working on pension scheme reforms that are likely to be announced in the summer of 2007 and the Board of Actuarial Standards is planning technical standards to ensure actuarial firms are more conscious of the need to use realistic assumptions when calculating liabilities. The population’s increasing longevity suggests that the “pension crisis” is by no means over for either workers or employers.