Company pension schemes hit hard post-EU referendum
SAVERS and pensioners can breathe a sigh of relief, for now at any rate, after interest rates were held at 0.5 per cent last week despite predictions of a cut to 0.25 per cent.
But the UK’s company pension schemes have already been battered by the Brexit vote.
It’s all down to the continuing fall in gilt yields, which makes it more expensive for the schemes to meet their future pension promises. It could eventually put pressure on the benefits people can expect from their final salary scheme.
But it also means transferring a final salary pension, once a no-go area for most people, has become an even stronger option for those with an appetite to use the new pension freedoms.
Since the EU referendum, the total liabilities of UK schemes have climbed to a record high of £1.75 trillion. Their combined deficits have shot up by 30 per cent to £384 billion and the average scheme was only 78 per cent funded at the end of June, down from 81.5 per cent only a month earlier.
Tom McPhail, head of retirement policy at Hargreaves Lansdown, said the gulf between final salary and money purchase pension benefits was now huge. For those lucky enough to be in a defined benefit scheme, the average total contribution rate was 20.9 per cent of pensionable earnings, 5.2 per cent for members and 15.8 per cent for employers.
With the advent of auto-enrolment, where contribution rates start off very low, the average total contribution rate in defined contribution pensions last year was a frightening 4.7 per cent, with only 2.9 per cent from employers.
Mr McPhail said there was a “growing argument for the Government to look at finding a more balanced approach”.
He added: “Possible tradeoffs for the future could include allowing employers to water down their inflation-proofing commitments on pension benefits, for example replacing RPI indexation with CPI. The Government may be keen to strike a deal with employers, because a substantial portion of the tax relief granted on pension contributions every year is in respect of final salary scheme deficit reduction contributions.”
Graham McLean, head of pension scheme funding at Willis Towers Watson, said: “The Work and Pensions Secretary said this week there is a ‘very real systemic issue with DB pension schemes we need to look at’, but there are no easy answers. Allowing profitable companies to pare back the pension promises they have already made would be politically difficult, to say the least.”
He said Pensions Minister Baroness Altmann had recently suggested deficits might be measured differently. “But there is already plenty of flexibility within the current funding rules. Members may not be reassured if they hear ‘skinny mirrors’ are being used to make shortfalls look smaller than they are.”
But Tideway Wealth, a firm specialising in pension transfer, said this week falling gilt yields meant transfer values might be more generous.
It is now a legal requirement to take advice from a specialist on transferring any pension over £30,000 and James Baxter, who founded Tideway in 2009, said the firm has handled 200 transfers and 100,000 people have used the calculator on its website.
Advisers typically run the numbers through a semiautomated Transfer Value Analysis System, where the pension on offer is simply compared with the annuity that the transfer value could buy.
But Mr Baxter says: “These reports use a methodology and set of assumptions that ignore recent pensions rule changes and the preference by the vast majority to use flexible drawdown in retirement rather than buy an annuity.
“This is particularly perplexing given a final salary pension holder already has an annuity, such that if this is the form of retirement benefit they want, the best option in the vast majority of situations will be to stay in the scheme.”
He explains: “A generous transfer value means you can be relatively cautious about how you invest the created pension fund, and still end up with both more cash and all the flexibility that comes with the transfer route.”
The firm’s analysis puts more weight on whether people “want to do something different, can afford to give up guarantees, understand what they are doing, and are happy to take responsibility”.
Members of schemes can ask for a transfer value at any time, and it is guaranteed for three months.
Mr Baxter says: “With gilt yields at record low levels, there has never been a better time to get an offer secured with a three-month guarantee, during which you can take stock of the Brexit developments and gilt movements over the summer with the option to get a revaluation in three months’ time if yields keep falling.”
He cautions it cannot be assumed transfer offers will be more generous as it will depend on the health of the scheme.
Active members of schemes cannot get a guaranteed offer, but an indicative one, but in most cases it will not make sense to opt out of a scheme until it is clear you are going to leave employment within a period of months.
‘‘ With gilt yields at record low levels, there has never been a better time to get an offer secured with a three-month guarantee