Members of defined contribution schemes should not be neglected

Pensions stereotypes place defined benefit schemes as king, but not all staff are members, so employers should address perceived fairness issues, says Vicki Taylor

If you read nothing else, read this …

  • Most employees are not perceived to know enough about pensions to worry about the difference between defined benefit (DB) and defined contribution pension schemes.
  • This could be set to change as more DB schemes close and heightened media coverage around pensions continues.
  • Putting pensions into a flexible benefits scheme can help to make the issue more transparent and appear fairer to staff.

Traditional stereotyping positions defined benefit (DB) schemes as the pinnacle of pensions provision, with defined contribution (DC) plans playing the poor relation.

So as more organisations close their DB schemes to new entrants and introduce a DC scheme for this group, some employers may be concerned that staff in a DC scheme feel they are getting a raw deal.

In some cases, they may not be wrong. According to Origen’s annual Employee benefits survey 2006, the average employer contribution to a DB scheme is 13.5%, while the average to a DC plan stands at just 7%. There are also other aspects that can make a DB scheme seem more attractive, such as generous death-in-service benefits.

However, Ken MacIntyre, policy adviser at the National Association of Pension Funds (NAPF), believes the majority of employees may lack sufficient understanding of pensions to worry about which is the best deal. Ralph Turner, director of benefits at ICI, which operates both types of scheme, agrees. “For most people, I think, pensions are not top of their agenda. They don’t think they are going to get old and therefore are happy just to go into the company plan without really thinking about the type of plan it is.”

Judith Codling, senior consultant at pensions consultancy Higham Dunnett Shaw, believes that this may be set to change due to heightened media coverage on pensions, which could potentially increase employees’ awareness of the differences between DB and DC and reinforce the idea that a DB scheme is always best, even though this is not always the case.

An organisation’s closure of a DB scheme is likely to generate particular interest, especially among employees who join at the time and are among the first to be placed in any new DC scheme which is offered. In these cases, employers may find that they will need to make generous contributions into the DC plan in order to overcome any questions around fairness. “[There] can be [problems] at the point of decision [to close the DB plan] but once you have done that it is not a problem if managed well. A lot of that is down to the generosity of the DC plan as well,” adds Turner.

Better under DC?
Younger, shorter-serving employees with a longer period until retirement may be better off under a DC scheme if assets are transportable, while staff who are enrolled in hybrid career average schemes could also benefit more than if they were in a DB plan should they expect their salary to increase significantly before reaching retirement. If employers do face grievances, however, open and honest communication is vital.

Putting pensions into a flexible benefits scheme can also help make the situation more transparent for staff, because members of a DB scheme who receive higher pension contributions will have less to spend on other perks. “If you have a defined benefit scheme you may well find that – depending on your age – you have eaten more of your flex pot up with that pension arrangement. If you are in a DC [scheme] you can maybe buy some other benefits that you wouldn’t [otherwise] have been able to,” Codling explains.

This issue of fairness is certainly one that employers will increasingly need to address. According to the NAPF’s Annual survey 2006, 67% of DB schemes are closed to new members and with this trend looking set to continue, the number of organisations facing the challenge of running both a DB and DC scheme is only going to increase.