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A pension policy that has turned gold to dust

By: Nicholas Timmins
Financial Times, July 1, 2002

This is something of a golden age for pensions - although you would have trouble persuading most people of the fact.

Means-tested benefits for the poorest have rarely if ever been more generous. With the introduction of the pension credit next year they will become more so. Serps, the state earnings related pension scheme, is paying out the most generous second-tier pensions that the state will ever provide. And millions of pensioners are benefiting from the mighty growth in occupational pension schemes that happened in the 1950s and 1960s.

There are still plenty of troubling cases of poverty among pensioners - not least the failure of all those entitled to means-tested help to claim it. But average pensioner incomes have risen faster than those of the rest of society in recent years, and the average newly retired pensioner has never had it so good.

That growth in pensioner incomes has been driven largely by the maturing of occupational pension schemes. But as everybody knows, such schemes are now in trouble. And with the real value of both the basic state pension and Serps set to decline, the outlook for future pensioners is decidedly more worrying.

The number of final salary occupational schemes has been in slow decline for years, but the rate of change recently has been alarming. The latest figures from the Association of Consulting Actuaries, which surveyed almost 3,000 schemes with almost 7m members, showed that fewer than four in of ten are still open to new members. Ten per cent are winding up. Almost half are contemplating closure, and 14 per cent have already closed to new contributions from existing members.

These are startling figures. As final salary schemes have declined, the number of money purchase pensions - in which the employee rather than the employer takes the investment risk - has been growing. But it is doubtful whether it has done so fast enough to halt a decade-long increase in the number of workers with no occupational pension.

Pension saving is also being hit by the tendency of employers to contribute less when they switch employees from final salary to money purchase schemes. Typically only about 6 to 11 per cent of pay goes into such pensions, against the 15 to 20 per cent that has been put into many final salary schemes.

It is into this sea of shrinking coverage that Alan Pickering, the former chairman of the National Association of Pension Funds, has just delivered his government-commissioned report on how to simplify pension regulation to ministers.

It is due to be published shortly and the government will not be committed to its recommendations. But Mr Pickering has given enough public clues to its themes for its broad outline to be visible.

A key recommendation will be flexibility - that employers should in future be allowed far more freedom to design the way their pension scheme works and the benefits that it provides.

His aim seems to be two-fold. First, to provide a lifeline to the final salary schemes that are still open - lifting the burden of regulation and allowing companies to modify the benefits they offer, rather than going for the nuclear option of shut down.

Second, to make it easier for those employers who don't currently provide pensions to do so - thus encouraging more companies to provide at least some form of pension contribution to the millions of workers who currently lack any sort of occupational provision at all.

It remains to be seen whether the government will accept this approach. But if it does, it heralds a very different pension world.

It would in future be up to the employer whether the scheme offered an inflation-proofed pension, for example, or a lump sum for death in service, or dependents' benefits, or cover for early retirement due to ill health.

In other words the variety of what employers offer will grow. Whether that will lead to more coverage overall, or will carry the risk that existing schemes cut the scope of their cover, is a matter for debate.

But if if employers are to have more choices, they may also need to take on a new duty - to spell out to their staff exactly what they are getting and exactly what they are not. Without that, there is a real risk that individuals who are offered a pension by their employer will believe it provides far more than it does - creating a false sense of security.

To avoid that, the government may have to go further. Many of the "extras" that come with the gold-plated version of pension provision - such as death in service benefit, or cover for early retirement due to ill health - are expensive for individuals to buy. They are much cheaper when bought as a group policy. Already, in the switch from final salary to money purchase, significant numbers of employees are losing cover for ill-health retirement, many of them without being aware of the fact. More are thus likely to fall back on the far from generous state incapacity benefits - a shift that is in the interests of neither individuals nor the taxpayer, and one which the government actuary has repeatedly warned is a scandal in the making.

One way to avert such a scandal would be to require employers - even if they do not pay for the policies themselves - to set up access to them in much the same way they are now required to provide access to stakeholder pensions. Better still might be a default option - so that employees would be put automatically into such top-up schemes unless they opt out. Either way, as part of an insurance pool, people would be able to buy the cover that their employer does not provide more cheaply than they would as individuals.

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