Three million workers with final salary pensions have 50 per cent chance of losing up to fifth of their income because their employers have made unaffordable promises, a report has warned.
A growing number of employers who have offered staff so-called “final salary” pension schemes are coming under extreme pressure to meet their obligations, the Pensions and Lifetime Savings Association said.
This is down to a range of factors including people living longer than expected, making guaranteed pensions more expensive to provide.
Companies who find they cannot afford to pay the pensions they have promised staff will have their pension schemes rescued by a lifeboat service called the Pension Protection Fund.
Workers whose pensions are taken over by the fund are still paid a pension, however the amount they receive can be up to a fifth lower than what they were originally promised.
Different types of pension | How are “defined contribution” and “defined benefit” different?
“Defined benefit” or “final salary” pensions were the main way most people saved for retirement in the past.
You and your employer save, with the retirement income you receive based on your length of service, the accrual rate of the scheme, and your salary. The income is guaranteed and linked to inflation.
Commonly, the amount was based on the salary at the end of your career, hence “final salary”. Many schemes now use an average of your earnings, which normally reduces the income paid.
“Defined contribution” schemes now dominate pension savings after spiraling costs caused many employers to close “defined benefit” plans.
Under these rules you and your firm save into a pot, but there are no guarantees over the income it will produce.
At retirement, you simply have a pension value and it is up to you to decide what to do with it. You can buy an annuity, go into “income drawdown” or take a number of cash lump sums.
Recent high-profile cases of doomed pension schemes, such as the BHS collapse, have highlighted concerns over the future of workplace pensions in the UK.
The PLSA said one solution to the problem could be the pooling of resources into “superfunds”, to reduce costs and give pension schemes the best change of survival.
Its analysis showed the most vulnerable employers have a 50:50 chance of not having an insolvency event over the next thirty years.
Ashok Gupta of the PLSA, said: “More than 11 million people rely on defined benefit pension schemes for some or all of their retirement income but there is a real possibility that without change we will see more high profile company failures such as BHS or Tata Steel.
It is vital that action is taken to address covenant risk, underfunding and the current lack of scale in the majority of schemes.
“Our proposals have the potential to transform the industry – helping to ensure more members get their full benefits, reducing sector inefficiency, addressing the issue of stressed schemes and enabling sponsors to concentrate on growing their businesses.”
A spokesperson for The Pensions Regulator said: “While some pension schemes are facing significant challenges over the longer term, most will be able to pay members their promised benefits.
“However, we are clear that while the majority of DB schemes remain affordable, many should do more to tackle increased deficits and reduce risk to pensioners. We are prepared to use our powers where employers and trustees fail to tackle problems.”
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Courtesy of The Daily Telegraph