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The Actuary The magazine of the Institute & Faculty of Actuaries
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‘Action on occupational pensions’ – green paper follow-up

The government has published its reaction to the responses to the Pensions Green Paper consultation. This is not in itself a consultation document – instead it sets out high-level proposals which will be the subject of detailed consultation, mostly at the draft legislation stage. The key points are set out below.

State pension age
It is confirmed that this will remain at 65.

Compulsion
The government believes the case for additional compulsory provision has not been made. (It will not even be going ahead with the proposal to allow employers to make scheme membership a condition of employment.)

Pensions protection fund (PPF)
This compensation scheme will aim to guarantee members of private sector defined benefit schemes a specified minimum level of pension when the sponsoring employer becomes insolvent. It will be run by a statutory body. The document addresses the issue of moral hazard by stating that schemes which are underfunded will pay a higher premium to the compensation fund, compared with premiums payable by well-funded schemes. This risk-based premium will be on top of a flat-rate levy payable by all employers with defined benefit schemes other than those public service schemes where benefits are guaranteed by government. The risk-based premium aims to encourage good levels of funding.

The fund will pay a maximum of 100% of pensions in payment, and 90% of deferred benefits. Over and above this, there will be a cap on the maximum amount guaranteed by the PPF equivalent to the pension expected by those on a final eligible salary of between £40,000 and £60,000. (The actual level of the cap will be subject to consultation.)

Solvent wind-ups
The current statutory minimum entitlement for deferred members in a solvent defined benefit scheme wind up is lower than the real buy-out cost. The government believes that a solvent employer who chooses to wind up a scheme should ensure that there are sufficient funds in the scheme to meet the full costs of the rights accrued by scheme members unless doing so would put the company itself at risk, in which case the trustees, exercising their fiduciary duties, can agree a lower amount. The government will introduce a full buy-out provision through draft regulations on which it is consulting (issued at the same time as this document). The regulations apply to schemes that start to wind up on or after 11 June 2003.

Payments to employers
In line with the full buy-out proposal, the ability of companies to take money out of a scheme which is in surplus on its own funding basis will be restricted, unless the scheme can meet its pension promises in full – that is, it is funded to a level sufficient to allow full buy-out. Levels of contributions would continue to be subject to agreement between trustees and employers as at present.

Statutory priority order
The government will publish draft regulations to ensure that, where there are insufficient assets to meet all liabilities, they are shared out more fairly between actives and pensioners scheme members. It will be consulting on these over summer 2003, and expects them to come into force in autumn 2003. The main impact will be on scheme wind-ups, where the employer is insolvent, occurring before the PPF comes into being.

Transfer of Undertakings (Protection of Employment) regulations (TUPE)
Protection will be extended to cover private sector pension rights. This appears to be a compromise measure, rather than full like-for-like replication of the first employer’s pension provision. The government proposes a ‘flexible and worthwhile’ provision for a contribution to a stakeholder pension, consisting of an obligation to match employee contributions up to a level of 6%. Clearly, more detail is needed here.

Vesting
Currently, rights vest only after two years’ pensionable service. In future, employees who have been scheme members for at least three months and leave during the two-year vesting period must be offered the choice of a contribution refund or a cash equivalent transfer value.

Employer consultation
There will be a requirement on employers to consult before making changes to pension schemes to ensure changes are developed in partnership.

New pensions regulator
Opra will be revamped to operate on a more proactive basis, concentrating on rooting out fraud and bad practice. It will also be able to issue codes of practice having evidential value in legal proceedings.

Trusteeship standards
Legislation will provide that trustees be required to be familiar with the issues or have relevant knowledge across the full range of their responsibilities. Opra codes of practice will provide guidance on how this legal requirement could be satisfied.

Scheme-specific funding arrangements
The key elements of the scheme-specific funding requirements will be that:

  • trustees will be required to draw up a statement of funding principles;
  • trustees will be required to obtain a full actuarial valuation of their scheme at least every three years;
  • following the valuation, the trustees will be required to put a schedule of contributions in place, setting out how much the employer and employee will pay into the scheme;
  • where trustees and employers cannot reach agreement on issues fundamental to the funding of the scheme, the trustees will be given, as a last resort, powers to freeze or wind up the scheme;
  • trustees will be required to send regularly updated information to scheme members each year, containing key information about the funding position of their scheme, in line with the likely requirement of the EU Occupational Pensions Directive; and
  • the scheme actuary’s duty of care towards scheme members will be clarified.

Reduction of mandatory indexation (LPI)
LPI will be eased rather than abolished. Schemes will be required to index pensions in payment by the lesser of inflation, as measured by the September RPI, and 2.5% (rather than 5%, as at present).

Survivors’ benefits
No changes are proposed.

Relaxation of section 67 requirements
The green paper proposals have been rejected as too complex. Instead, schemes’ will be able to make rule changes affecting members’ accrued rights without members’ consent if:

  • there is a power in the scheme rules to make the change;
  • the change does not involve converting defined benefit rights into defined contribution rights;
  • the trustees approve the change;
  • the total actuarial value of members’ accrued rights at the point of any change is maintained;
  • pensions already in payment are not reduced; and
  • members are consulted before a change is made.

Member-nominated trustees
The legislation will be rewritten to focus on the outcome (one-third of trustees to be member-nominated), not the process by which they are elected. Minimum legislative requirements will be backed by guidance from Opra.

Additional voluntary contributions facility
Offering an AVC facility will become voluntary (since full personal pension/stakeholder concurrency will become available under the new tax regime).

Contracting out
Simplification measures will:

  • relax some restrictions commutation of contracted-out rights;
  • relax some restrictions preventing contracted-out rights being paid at the same time as other benefits;
  • increase the level at which trivial pensions derived from contracted-out rights can be commuted;
  • remove the requirement to obtain member consent for commutation of entitlements consisting solely of equivalent pension benefits (EPBs).

The government is still looking at options to simplify GMPs and the anti-franking requirements. It has decided not to abolish contracted-out mixed benefit schemes.

Other simplification
The government plans to:

  • rationalise the disclosure of information requirements;
  • streamline requirements for internal dispute resolution procedures;
  • clarify the existing jurisdiction of the pensions ombudsman; and
  • simplify the treatment of pensions on divorce: by abolishing safeguarded rights and by aligning normal benefit age as the earliest age from which a pension share may be payable.

Pension statements and forecasts
Defined benefit schemes will be required to issue annual benefit statements showing the amount of pension members have already built up in the scheme as well as the likely amount they will receive when they retire. Combined pension forecasting (ie both private and state pension rights) will be encouraged on a voluntary basis for the time being, with the possibility of legislation in the longer term.

Flexible retirement and age discrimination
Measures will encourage people to work for longer by outlawing age discrimination, providing back-to-work help for those aged 50 and over, and introducing changes to tax rules to allow people to work at the same time as drawing a pension. Normal pension age for public service schemes will be raised.

Taxation simplification
Commencement of the proposed new taxation regime will be in April 2005, rather than 2004 as originally suggested.