Key Points
- Defined contribution (DC) schemes will become the predominant form of pension savings for most workers, boosted by the arrival of the national employee savings trust (Nest) in 2012
- Contract-based schemes can provide all the ‘good bits’ of a DC scheme without the obligations and costs associated with managing a trust-based scheme
- Comprehensive education is important to engage staff with their pensions
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There is much to consider as the shift from DB to DC plans gathers pace, says BT’s head of pensions, Kevin O’Boyle
Defined benefit (DB) schemes as a means of providing future accruals are in their death throes. This will accelerate in 2010 and beyond as most, if not all, employers give up the losing battle of trying to provide this type of retirement benefit against a backdrop of more regulation, greater longevity and low expected future investment returns. Although some may continue to offer a DB plan using some form of hybrid or career average revalued earnings (Care) scheme that reflects the particular characteristics of their workforce, defined contribution (DC) schemes will become the predominant form of pension savings for most workers, boosted by the introduction of the national employment savings trust (formerly personal accounts) from 2012.
To me, the most significant feature of DC schemes is members’ inertia. This is not generally an issue for DB schemes, but employers that continue to provide DC schemes will need to address this inertia in 2010 and beyond. Despite the improving quality of education and communication around many schemes, it is rare for more than 15%of DC members in a scheme to make either a positive election to pay increased contributions (often forgoing enhanced employer matching), or to make a positive investment selection. That is assuming they have even made the effort to join the DC scheme in the first place.
Increasing regulation of workplace pension schemes is driving employers to reconsider their role. While happy to provide contributions and support to encourage staff to save for their retirement, there is an increasing move towards contract-based schemes away from occupational pension trusts.
Contract-based schemes
Contract-based schemes can provide all the ‘good bits’ of a DC plan without the obligations and costs associated with managing a trustbased scheme. Contract-based schemes give members cost-effectiveness and a wide investment choice, plus access to technology and modelling tools. More importantly, †members can obtain up-to-date investment information and a comprehensive communication and education programme to help them understand and become engaged in retirement planning to a far greater extent.
With workers being increasingly mobile, a personal pension gives greater flexibility for those who want to continue to contribute to the same pension after they have left their employer. The administration burden for employers is reduced because they no longer need to take responsibility for former staff, many of whom may work for a competitor.
Tax changes
However, future pension provision has suffered another blow from proposed tax changes for high earners. Just as the introduction of the earnings cap in 1989, followed by the removal of certain tax relief on pensions, has led to both lower benefits and a lack of engagement with pensions in the boardroom, the restriction of higher-rate tax relief to those earning over £130,000 may see senior management finding it more beneficial to take cash in lieu of pension contributions and make their own retirement arrangements. This will lead to a ‘flowing down’ of change to the lower echelons of the workforce. Many will be resentful that they are forced to save for retirement (albeit in a tax-favoured way) when management are seen as being paid more with greater flexibility.
In the meantime, we will see an avalanche from DB to DC, higher employer contributions, probably on a matched basis (to encourage participation and engagement) and increasing use of contract-based schemes to give members the facilities and choices they need.
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