|
OPDU Report 24
- May 2008
Peter Askins, former DWP policy maker and now a Director of Independent Trustee Services Ltd, reflects on his experience of pensions’ policy When asked to contribute this article, I looked again at what I said in my address to the OPDU Annual Meeting in 2006. I had expressed concern about vested interest and the need for a consensus on pensions’ reform and the NPSS, as it was called then. I also called for greater deregulation and a review of the distribution of pensions’ tax relief; which I thought was quite bold for a civil servant.
I could, broadly, give the same address today. Things have moved on
but only at the margins, and we now know a bit more about the
government’s reform programme. With a few notable exceptions, there have been very few voices raised against the concept. The mood I detect is that Personal Accounts are better than nothing. The criticisms of Personal Accounts are well rehearsed, the level of proposed contributions is too low, it is unaffordable for the target group, an annuitised product is unsuitable, compliance and administration will be complex and that falling investment returns and increasing longevity will make it unsustainable. Finally, there is the issue of means testing. Is it right to encourage the low paid to enter into long term savings arrangements that do nothing more than reduce their entitlement to State benefits? Personal Accounts is a logical extension of the orthodoxy that Defined Benefits (DB) provision is unaffordable; that employers are no longer willing to bear all the risk attached to such schemes and that the future is one of a Defined Contribution (DC) world. That may well be the case but I think it is worthwhile spending a little time examining the wider pensions’ landscape. Assuming the government’s proposals become fact, the range of provision will be from Personal Accounts through various types of other DC arrangements that will have to provide a greater level of contributions than Personal Accounts to exempt employers from that scheme. The DB framework embraces the traditional half to two-thirds of salary with the associated inflation protection, spousal and death benefits. There are a number of factors that have driven the shift from DB to DC but I would like to concentrate on one – risk. It is, I think, a given that employers are reluctant to bear all the risks that go with providing a DB scheme. Principally, that means the increasing longevity risk that covers not just the scheme member but also the spouse or partner who may extend the pension liability by any-thing up to 20 years. This is set against the norm of most people in DC schemes opting for a single life, non-indexed annuity. The contrast could not be starker. One other significant point of note, is that we seem to have reached a plateau in terms of DB schemes closing to future accrual. There also seems to be a settled state of around one third of private sector DB schemes open to new membership. So there is still a case for flagship provision where some employers are concerned. The situation seems therefore to be one of extremes. From the very basic, better than nothing, Personal Account proposal via various types of DC provision delineated by level of contribution to the traditional flagship DB provision. Recently, there have been calls to introduce greater risk sharing into the system to encourage employers to reconsider their approach to DB and risk. The Association of Consulting Actuaries’ conditional Limited Price Indexation (LPI) approach for instance. Whilst there can be no doubt that allowing such arrangements would increase sponsoring employers’ ability to control and reduce cost over time, they do not reduce the overall longevity risk that is an integral element of DB provision. It did however set me thinking. What if the reduction in the rate of LPI, recently announced by the government, or going further its abolition, were linked to other cost and risk reducing strategies? This train of thought brought to mind Alan Pickering’s report for the Department for Work and Pensions in 2002, that neither government nor the industry seemed to fully appreciate. Pickering’s approach was radical and clearly years ahead of its time, but the need for fundamental change was not widely recognised and his recommendations were left to wither on the vine. How might a Pickering type solution look today? Remember, he advocated a no bells and whistles approach. So a traditional DB scheme less LPI, spousal benefit and death benefits. Set against the traditional model, cost and risk are reduced but the greatest risk, longevity, remains and with it the uncertainty that deters employers from DB. What if we take the Pickering proposals one step further and rather than apply them to a traditional DB model, we adapt that model to fit the prevailing economic and financial circumstances? For example, allowing employers to offer DB arrangements of one third or one quarter salary. There is still a longevity risk but in real terms greatly reduced. Such arrangements would be particularly valuable for the low paid because when linked to the Basic State Pension, an overall replacement rate of say 50% would require an occupational pension of around £5,000 per annum: this would lift the member well clear of the means testing trap and thus produce savings for the tax payer rather than the pro-jected increase to 75% of pensioners requiring state aid by mid-century. Another possible change in approach by government could enable the creation of such schemes. Additional tax relief at the lower end of the earnings spectrum would be an investment in reducing not just the government’s future programme expenditure, but also the huge administrative costs that go with such schemes. There is scope for a redistribution of pensions’ tax relief. Broadly 60% of total relief goes to 9% of the working population who are, by definition, higher rate tax payers, any reduction in relief for any group of people is bound to produce an adverse reaction, but there is a balance to be struck. One option would be to have a single rate of relief pitched between the higher and lower rates that would provide greater incentives for innov-ation in both scheme design and saving as well as further reducing costs to employers. That would be a cost neutral solution for government. There is of course no bar on government increasing funding to cover additional relief; on a “spend to save basis” there is a case. For the lower, paid the promised changes to the State Scheme are significant. Proportionally, State pro-vision forms the largest element of pension for the low paid, so restoring the link and improving the accrual rate for women is vital. The measure raising the number of women getting a full entitlement to Basic State Pension from 30% to 90%, over a relatively short time is particularly important. I am not convinced that auto enrolment for individuals and com-pulsion for employers sits well with a personal savings arrangement. Such measures would seem to sit more comfortably in a DB frame-work. The need, surely, is for a system that is demonstrably fair, equitable, sustain-able and worthwhile for the scheme member, that fits into the existing regulatory framework rather than a separate complex compliance system. So, could such schemes work? Would they do enough to reduce the levels of risk that significant numbers of employers would consider sponsoring them? I hope these reflections will give others food for thought. I didn’t have a magic bullet when I was at the Department for Work & Pensions and I certainly don’t have one now. I do believe that given the collective knowledge and wisdom spread across the pensions industry it should be possible to develop some form of middle way, that would enable employers greater choice. The alternative would seem to be Hobson’s choice.
Peter Askins |
 |
|
|||||||||
|
|||||||||||
