Easing the Pain

Screams of pain are not an everyday experience for those working in the pensions industry but they are becoming more prevalent. One pain in particular now indicates a terminal condition, as we providers find ourselves increasingly being called upon to ease the passing of workforces from defined benefit (DB) to defined contribution (DC) schemes. None of us can take any pleasure in seeing the demise of DB but we can, and do, take some comfort in making conversion easier for employers and employees.

Our skills are much in demand. BP has closed its final-salary scheme to anyone joining after 2010, Barclays has stopped the future accrual of benefits into its staff scheme, and Morrisons supermarket announced that it will in future be offering pensions based on average rather than final salary. That was just one week in this tale of company deficits, regulatory pressure and recessionary effects. According to Watson Wyatt, about 15% of the 160 final-salary schemes left are expected to close to future accrual by the end of 2010 and 40% in the next decade.

In fact many DB schemes have historical links to the public sector through privatisation or acquisition strategies. The loss of final-salary always raises emotions in scheme members ranging from confusion to anger. Trade unions, in particular, will often consider the preservation of DB schemes as a reason for industrial disputes and strike action.

One of the aims therefore for every provider called in should be to limit the impact of the ‘democratisation of risk’ – essentially meaning that employees are being forced to take on more responsibility for financial security in retirement. Good default funds and
enhanced communication go some way to protecting employees from being unnecessarily disadvantaged by the conversion.

To mitigate stress and maintain participation rates, for example, an employer closing a DB scheme should call on the communication expertise available from the new DC provider. Friends Provident typically adopts a two-stage approach, split between explaining the closure of DB before moving on to educating employees about the new arrangements. Separate seminars are offered to employees who have not been involved with the DB schemes. DB to DC conversion also throws a spotlight onto company finances, management and employee relationships and pensions: a subject which has hitherto not received too much attention. This is an opportunity to get all three in a good place and it shouldn’t be missed.

Key messages to staff in the conversion process are that:
· The company continues to provide an excellent pension package including death in service;
· Members now have greater flexibility about how much they save – and online tools to assist the calculation;
· Former DB members will now be eligible for the State Second Pension – although they will have to increase their NI contributions;
· They have greater control of their pension and the end result.

Experience indicates, however, that no matter how good the worksite education, the majority of new DC joiners will not make an active decision about investment funds. This is where employers can make a big difference by ensuring a good default fund is in place. Getting agreement to increase future contributions aligned to pay awards will have a significant effect on the final sum accrued by individuals.

DB to DC doesn’t need to be a disaster, but it does require careful handling, effective communication and a good deal of thought. Businesses and government organisations approaching the challenge would do well to involve a provider from the earliest possible
stage, if they are serious about easing the pain of the transition.