In the green paper, which only covers private sector defined benefit (DB) pension schemes, the government said it may review the system for cashing out of a DB pension scheme where the amount is under the £30,000 ($37,000, €35,000) limit over which investors must take advice.
Current rules allow DB pension entitlements under this threshold to be exchanged for a lump sum, with one quarter of the lump sum paid tax-free, rather than being paid as a pension.
‘Trivial amounts’
This is known as trivial commutation and is intended to avoid the costs of administering and receiving small entitlements. Payment of a lump sum in these circumstances can benefit both the member, for whom a small regular pension might make little difference, and the scheme’s owners for whom that client’s future pension liability would end.
The government paper said: “Some people have suggested that the trivial commutation rules are unduly burdensome and the government would be interested to receive views on how these could be relaxed to make them simpler to operate in practice.
“It has been suggested that allowing members to trivially commute earlier than age 55 might be beneficial in certain limited circumstances, and increasing the limits on the value of pensions that can be subject to trivial commutation would allow more members to cash-in small DB benefits and reduce the costs for schemes to administer small regular pension payments,” the paper stated.
Debate needed
Steve Webb, director of policy at Royal London, said: “People that have significant defined benefit rights need to understand what they are giving up.”
“But there is debate over what constitutes a significant amount and a trivial amount. Is advice cost-effective for those with smaller pots? These retirees could perhaps use Pensions Wise rather than get full-blown advice,” he said.
Webb also said he would have liked to see the government consulting on the issue of creating partial defined benefit transfers.
“There are a lot of people with DB rights, who would welcome being able to take a mix of income and cash. It would work for individuals and schemes.”
However, the green paper made no mention of proposals to scrap the ‘advice safeguard’ for expats, originally mentioned in a consultation paper published in October of last year. This requires individuals to consult an FCA-regulated adviser before they can transfer their defined benefit (DB) pension savings into an overseas pension scheme.
Range of changes considered
The new consultation paper looks at a number of challenges facing DB pension schemes and highlights a range of options the government is willing to consider to improve confidence in the system.
The suggestions have been greeted variously as ‘a sensible start to what is a complex conversation’, ‘encouraging’ and ‘too timid’ by pension providers and consultants.
The paper is designed to ensure defined benefit (DB) pension schemes are robust in the face of corporate failures such as BHS. It concluded that there was “not a significant structural problem with the regulatory and legislative framework”. It said there was no affordability crisis and most schemes could meet their obligations.
In terms of helping to reduce the burden of DB schemes on those employers that are struggling, the government made a controversial suggestion that it could either allow all schemes to reduce inflation indexation to the statutory minimum, or to allow those schemes (around 75%) which have RPI written into their scheme rules to move to the currently lower CPI measure.
Under-funded scheme may be forced to suspend indexation, while other schemes may be allowed to move from RPI to CPI-related increases.
Estimates from Hymans Robertson show this would reduce aggregate scheme liabilities by around 5-10%, but take away around £20,000 in benefits over an average DB scheme member’s life. Moving to statutory indexation would increase the loss to members further.
Complex conversation
Neil Carberry, CBI director of people and skills said the green paper was ‘a sensible start to what is a complex conversation’.
He added: “Firms will welcome proposals to offer schemes greater flexibility, as well as proportionate changes to the powers of the Pensions Regulator, as businesses carry the bulk of the costs of failure through the PPF levy.
“What we need to avoid are any measures that risk damaging the health of the sponsoring employer, and therefore the security of the scheme, like mandatory clearance on certain corporate transactions.”
Raj Mody, PwC’s global head of pensions, said it was encouraging that the government was willing to enter into a wide ranging debate on the issues.
“For many schemes, pension increases far outstrip modern inflation measures, due in part to the lottery of how they were set up and layer upon layer of subsequent legislation. Allowing these to be eased in cases of distress is sensible.
“Our Skyval index showed that UK pension deficits were around £470bn at the start of February. Depending on the extent of the easement allowed, this could be reduced significantly by the measures suggested.
“Other suggestions in the Green Paper, such as improving the efficiency of regular funding valuations are also timely, particularly as the ability to use technology to manage pensions risk has evolved significantly since current legislation was written.”
