The defined benefit (DB) pensions landscape is often being consigned to the dustbin of history, but reports of its demise are rather premature.
For a sector whose time has passed, the UK’s DB pension landscape looks remarkably vibrant.
There are still almost 5,500 DB schemes in the UK with estimated liabilities of £1.6tn.
To put that into context, that’s approximately 80 per cent of the UK’s GDP and an average liability of £160,000 per member. That is an eye watering amount of money for an historic artefact.
Despite large recovery plan payments over the past 10 years, a significant number of schemes remain in deficit.
So, while some schemes may be doing well, others face a less certain future.
Deficits damage businesses
DB liabilities are having a negative impact on the businesses that run them.
The Pension Protection Fund – the safety net for DB schemes with insolvent sponsors – said in its annual report that recovery plans, or funding schedules to eliminate the deficit, remain “stubbornly high” at nearly 7.8 years.
That is all very well, but channelling money into reducing deficits starves a business of working capital which can stunt its growth.
A large, unwieldy deficit is extremely unattractive to potential investors, preventing deals that could secure the long-term future of the company – and therefore the DB scheme.
Potential suitors will view the DB scheme as a financial milestone they simply do not need to engage with.
Setting your DB house in order
Reducing costs is an option, but not without difficulty.
Trustees and sponsors must agree on a funding and investment strategy that aims to meet all of the scheme’s liabilities.
This also needs to balance business needs – to provide investment for the future and protect member benefits.
Reducing the deficit faster can allow a scheme to approach the endgame, whether buy-out or self-sufficiency, that bit quicker.
This, though, requires cash that probably is not available to the sponsor, or it would already have been paid in to reduce the deficit.
Not getting any easier
Even when these schemes are closed to future accrual, employers are not off the hook, nor are members’ benefits secured until a buy-out contract has been arranged with an insurance company. And with less than 2 per cent of aggregate UK pension scheme liabilities being secured through a buy-out every year, the problem is not going to go away overnight.
It remains a thorny issue exercising trustees, employers, politicians and regulators alike.
The collapse of a number of high-profile DB schemes, including BHS and Carillion, prompted politicians and the regulators to re-evaluate how the underlying systemic risks that might affect remaining schemes could be mitigated.
A raft of consultation papers, policies and white papers have been issued, designed to make the corporate pensions world a better, safer place and to boost the chances of being able to secure members’ benefits in full.