Employers adapting defined benefit pensions to avoid scheme closure

Employers are increasingly having to adapt defined benefit pension schemes to avoid their total closure

Marks and Spencer’s (M&S) move to limit the cost of its defined benefit (DB) pension scheme has highlighted the pressures currently faced by many large employers. The retail giant, which closed its DB scheme to new members in 2002 and spends £300m annually on pension contributions, announced last month it will cap the percentage of pay rises that count towards its DB scheme at 1% or at the rate of inflation if this is lower. It will also adjust early retirement arrangements on the scheme to make these less generous.

The retailer’s announcement came at a time when the future for DB pension schemes is looking increasingly bleak. The Pension Protection Fund (PPF) estimated that the combined deficit of DB pension schemes worsened by 43% in December last year alone, rising to £194.5m. In addition, a quarter of private sector employers which responded to the National Association of Pension Funds (NAPF’s) Pension Provision and the Economic Crisis survey, expect to close their DB scheme to future accrual in the next few years.

Ian Bell, head of the pensions group at Baker Tilly, said that some employers are likely to close their DB schemes altogether, while others, like M&S, will take steps to make them more sustainable long term. “The changes will reduce the cost going forward,” he said.

Other employers are also considering taking action. For example, Legal & General has said it may consider placing a cap of 2% of annual pay rises going towards pensionable salary for its DB scheme.

BT is presently reviewing whether to raise its retirement age from 60 to 65 years, increase employee contributions and switch to a calculation based on career average, rather than final salary.

Simon Holt, head of marketing at Gissings Pensions, said more employers could follow suit. “A lot of employers are asking if they can keep the scheme open to future accrual,” he said. “M&S has not [closed to future accrual], so the door is open to change things again in the future when things get better.”

But while such changes are necessary, they may also devalue pensions as a benefit, said Stephen Delo, president of the Pensions Management Institute. “A cap on pensionable salary, even if [an employee] has lots of promotions and pay rises while they are at the company, is perhaps a little unfair.”

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However, Deborah Cooper, principal at Mercer, said such changes are a welcome compromise to prevent the complete closure of DB schemes. “The employer is prepared to carry some of the risk of providing for people’s pension but not to the extent that it could previously,” she said.

If changes are presented as an alternative to job cuts, resistance from employees, trade unions and trustees is also likely to be lower.