This articles was first published on 22nd June 2018
The rewards of being in a defined benefits pension scheme are considerable. The flip side is that they create great headaches for your employer.
A defined benefit pension scheme promises to pay you a pension for life linked to how much you have been paid and how long you have been employed. Most schemes linked the pension benefit to your final salary at the date of retirement – hence the name ‘Final Salary Scheme’. The issue for employers is that we are living so much longer than when these schemes were introduced after the Second World War and therefore pension liabilities have soared. In the private sector, the answer has been initially to close the schemes to new employees and then to close them completely. In the public sector e.g. the Teachers’ Pension Scheme, the answer has been to remove the link to final salary and replace it with a link to your ‘career average’ salary. This change was implemented on 1st April 2015.
There has been considerable press comment about private sector pension deficits – the amount by which promised pension payments exceed the cash and assets currently available. The Pension Protection Fund PPF 7800 Index for May 2018 shows that the aggregate funding position (5,588 private sector schemes) has fluctuated considerably in recent years but has been on a positive trend. The current aggregate deficit is £94 billion compared with the total assets held by these schemes of £1,611 billion.
The Teachers’ Pension Fund is not supported by a large pool of cash and assets – it is ‘unfunded’. Pensions are paid out of the Government’s annual expenditure. The figures are large:
The pension promise amounts to some £347 billion as of April 2017 – in actuarial terms this is a ‘deficit’ as there are no assets to back it. It is almost 4 times the size of the whole of the private sector pension deficit!
The promise has been made to 671,000 current teachers, 578,000 ex-teachers and 704,000 retired teachers already receiving a pension.
Almost 25% of the amount paid to teachers annually is paid by schools to the Government to help pay the pensions due. This comprises 16.4% paid by the schools and between 7.4% and 11.7% paid by teachers as a deduction from salary.
Other public sector unfunded defined benefit schemes include; the NHS, the Civil Service and the Armed Forces. The annual report for the Armed Forces Pension Scheme as at April 2014 showed total pension promises amounted to £130 billion. At the time of writing this bulletin, information for the NHS and Civil Service pension schemes were proving difficult to find!
However, a report published in June 2016 by the National Audit Office showed total public sector pension liabilities of £1,493 billion, not far short of the entire private sector!
If these schemes are not closed and replaced by defined contribution pension schemes as has occurred in the private sector, it is safe to assume that pressures will only increase on contribution levels or the age at which pensions are paid or both.