Final Salary Closure

amc1

Perhaps not surprisingly my company is jumping on the bandwagon on considering Final Salary scheme closure to existing members. It has been closed to new members for several years.

We are about to enter a 'consultation period' but I think the outcome is pretty much already decided.

My question is three-fold :-

1) What arguments (if there are any) can be put up in defence of FS schemes as a persuading factor to employers in keeping it open.
2) Is there any comparison method to show that what is being proposed as a replacement is not as good (or is as good) as the existing scheme.
3) What questions need to be asked/answered in relation to any prospective closure (eg. will resulting pensions be based on final salaries of individuals at scheme closure or on final salaries at retirement (or company departure)).

Thanks for your help.

exil

1) It's a perk and can be used to attract potential employees, in the same way as a good salary or a company car. Otherwise - it's hard to see what the employer gets out of FS schemes - hence the mass exodus.

2)

From KPMG

"Assuming salary at age 30 of £25,000, retirement at 60


Final salary scheme £21,217
Money purchase scheme £9,888

Source: KPMG Pensions
Figures adjusted to present values
Assumes 10% of salary paid into money purchase scheme
Assumes 5% salary growth and 7% investment growth
Annuity conversion rate linked to interest rate"

I think inflation is assumed to be 3% or so and the final pensions are therefore in "2005 money".

This is more or less what I expected. If investment growth is over 12% or so, then the money purchase scheme does better - but if it is less, the final salary scheme always wins. This seems to apply regardless of length of service, or the %age contribution (though eventually tax rules limit the pension you can get from final salary). In either case the employer may be putting in a further contribution. In theory the employer could put in the same contribution - but the end result is still a smaller pension with money purchase.

The difference is - in money purchase, the prospective pensioner bears the risk of poorly performing investments. In the case of final salary, the employer (and future employees) take the risk.

Why do I say future employees face a risk with FS schemes? If a scheme becomes "underfunded" ie there is not enough income from contributions or investments to pay out pensions, then either (a) pensions have to be cut (b) employer has to put in more (c) employees have to put in more. Being in an underfunded scheme myself I know about this! What am I saying? Don't think that being in an FS scheme is a cast-iron guarantee. Remember Maxwell.

3) Obviously, this is crucial. AFAIK people have not in general been thrown out of existing schemes (though I'd be interested to hear if this has happened to anyone), instead they've been barred to new members. In some cases "average salary" has been substituted for "final salary". In effect, EVEN IF THE EMPLOYER AND EMPLOYEE CONTRIBUTION STAYS THE SAME, the change to MP, as can be seen from the figures, equivalent to a pay cut of, say, 10% for someone contributing 10% to a pension fund - since to replace the lost pension you would have to start a private scheme and put in about 10% of salary.

Health warning - I'm not a pensions expert, this is just how it appears to me as someone with an interest in the subject.

dadrock

Answer to q1 would be that you consider the final salary pension to be a worthwhile perk - it separates the company from its competitors. If they close it then you and your colleagues will be looking for other jobs.

Also, have theyt considered all the options to keep it going? Ie: how much of an increase in monthly payments will it take? Are they making the most of salary sacrifice to get some more money in the pot? If they got tougher on early retirement deals then would that help? If they increased the payout age by another 2 years would that help?

I'll try and think of other ones that ours went through.

Lorian

amc1 wrote:

1)What Arrguments (if there are any) can be put up in defence of FS schemes as a persuading factor to employers in keeping it open.

Very little. I've been though this process recently.

amc1 wrote:

2) Is there any comparison method to show that what is being proposed as a replacement is not as good (or is as good) as the existing scheme.

The replacement scheme won't be as good, or it would cost the same. There are three possiblle things that could come out of the review:
A Money purchase scheme
An Average salary scheme.
Continue the Final Salary scheme but introduce/hike the employee contributions.
They may even offer you a choice.

amc1 wrote:

3) What questions need to be asked/answered in relation to any prospective closure (eg. will resulting pensions be based on final salaries of individuals at scheme closure or on final salaries at retirement (or company departure)).

It's likely to be based on the salary when the scheme ends (which might be now) and then some kind of index linking until you retire.
You need to find out about the deficit on the Final salary scheme, and understand how the company plan to make good the deficit.

Dora_the_Explorer_5

I had excellent advice and support from if I remember correctly the Pensions Ombudsman when my OH final salary scheme was being wound up. Hope this helps.

Debt_Free_Chick

Dora_the_Explorer wrote:

I had excellent advice and support from if I remember correctly the Pensions Ombudsman when my OH final salary scheme was being wound up. Hope this helps.

Do you think it could possibly have been the Pensions Advisory Service (used to be called OPAS)?

I only mention this as the Ombudsman really only deals with disputes - he rules "who is right". OPAS would generally be providing help & guidance

Pensions Ombudsman here

OPAS here

amc1

So if they give us all a 10% pay rise and this pay rise difference is invested in a Money Purchase scheme, then it would counteract the FS closure effects.

I'll suggest this one but I think I know what the response will be !

exil

Hmmm - two rather short words, I would imagine!

However - 10% is correct in the case of an employee contributing 10%.Exact amount will depend on the rules of the FS scheme, eg how much is contributed by employer and employee, accrual rate and so on. More likely 5-6%.

The irony is that IN THE SHORT TERM the employer doesn't save any money going from FS to MP. It's more about risk transfer. Under FS the employer is obliged to pay a certain amount in pension to you in the future. With MP there is no such obligation.

By the way - in case you might have thought this is happening only in Britain - no, it's happening in the US as well.

dunstonh

You could all agree to sacrifice 10% to keep the final salary scheme running.

Or perhaps get the employer to meet you half way.

EdInvestor

By the way - in case you might have thought this is happening only in Britain - no, it's happening in the US as well.

It's been happening in the US for many years, not at all new.Money purchase plans (401k schemes) overtook final salary schemes ages ago.

The UK is actually very old fashioned in pension matters."With profits" funds were phased out at life assurers 20 odd years ago in most other countries.

Compulsory annuities are unknown in other parts of the world.

exil

Since we all seem to agree FS schemes are better than MP - from the employees' point of view - (and the KPMG figures support that view) then being "old fashioned" isn't such a bad thing. I also happen to like "with profits" funds which have done very well for me!