Warning Over Final Salary Safety Net

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Warning Over Final Salary Safety Net

By Alexander Jolliffe, The Financial Time

March 23, 2004

Final salary pensions could be endangered despite ministers' plans for a safety net to compensate those who lose their life savings when their employers collapse, experts have warned.

Andrew Smith, pensions secretary, has included plans for a compensation fund in the pensions bill now before parliament. The safety net would pay pensions worth up to £25,000 a year to former employees of companies that have gone under with insolvent final salary pension schemes.

The plans are important to restore confidence in occupational pensions after well-publicised cases in which thousands of people lost their life savings when companies such as ASW, the steel business, collapsed.

But in an exceptional open letter to Mr Smith, four leading actuaries have asked to meet the pensions secretary to discuss their "serious concerns" about the way the planned Pension Protection Fund would work.

The Department for Work and Pensions last night said it had received the actuaries' letter and was considering it.

The experts, who include the presidents of the Faculty and Institute of Actuaries, warn that the PPF "would be subject to the same risks of failure as those which have given rise to the need for the PPF in the first place".

They say that the pensions bill suggests the PPF would act like a pension fund. Michael Pomery, president-elect of the Institute of Actuaries, said that a PPF operating like a pension fund could invest in shares. But if equities fell, the safety net might be unable to pay expected pensions.

If that happened, Mr Pomery said: "It would have a very adverse effect on confidence in pensions and in the protection fund."

The actuaries urged Mr Smith that, if the PPF were to work like a pension fund, it was essential that consumers were told the government did not aim to provide "guaranteed" benefits.

Ministers have reserved the right to cut the benefits paid by the new fund if demand on the PPF proves overwhelming.

However, the actuaries noted that Mr Smith had described the safety net more than once as an "insurance fund" while the PPF had been spoken of as honouring pension promises at the second reading debate in the Commons.

If the PPF were run according to the pension fund model, there would be a "serious risk" that consumers' pensions would need to be cut, the actuaries warn. If these were the government's aims, the fund must be set up and run like an insurance company, under full supervision and solvency regulations. Mr Pomery said it would then buy bonds, whose interest payments could pay pensions.

The warning echoes developments in the US, where the Pension Benefit Guaranty Corporation, a safety net for defined benefit schemes, has announced plans to change its investment strategy radically. The corporation said it would cut its equity holdings and buy more bonds, which many actuaries believe are the best match for pension liabilities.

Steven Kandarian, the corporation's executive director, said in January that the safety net's liabilities were bond-like, so the corporation would buy more fixed income securities as a good asset to match these liabilities.