The Government redefines its ambition

Introduction

On 7 November 2013, the DWP unveiled its plans for “Reshaping workplace pensions for future generations”. The consultation, which follows the DWP’s November 2012 paper on Reinvigorating workplace pensions (see our Alert of 26 November 2012), sets out the Government’s proposals for alternatives to the traditional DB and DC models of pension provision, in the form of “defined ambition” arrangements.

Key points

Despite previous lack of appetite for change, the Government now has evidence of real support for alternative pension models, from both employers and individuals.
The main options on the table are flexible DB and an ability to provide greater certainty for employers through DC.
The consultation addresses various aspects of existing legislation that will need to be tackled to cater for DA.

Drivers for reform

The principal drivers for reform are the need to provide for the UK’s increasingly ageing population and the fact that the level of pension saving in the UK is currently too low to provide sufficient levels of replacement income for individuals in retirement.

Since the DWP’s initial call for evidence, a team of pensions industry experts has been working on the shape of DA pensions. Designed to slot into the gap between DB and DC, DA is intended to provide employers with pension options which allow for greater sharing of risk, whilst providing more certainty than the traditional DC model for individual pension savers. Evidence collated by the DWP indicates that employers are generally supportive of good quality pensions, not least as an important tool for the recruitment and retention of staff.

The DWP is looking at various options within the DA sphere, including flexible DB and an ability to provide greater certainty for employees through DC.

DB – your flexible friend?

Options under consideration as part of a flexible DB model include the ability to pay fluctuating benefits, and to adjust pension age in line with longevity. Another possibility on the table is a benefit which is DB whilst an individual is an active member, but which automatically converts to DC if the member leaves service before retirement. All of these options would go some way towards limiting volatility for employers.

The key to the success of these options will be to create a simplified DB structure within which they can operate. The cessation of DB contracting-out is a step in this direction. Other aspects of DB legislation now under review therefore include preservation, revaluation, scheme funding, employer debt and the PPF levy, with a view to introducing more flexibility in the existing legal framework.

Achieving certainty in DC models

In terms of DC, the main aims of the present review are to provide greater certainty (and less volatility) for members without creating any funding liability on the employer’s balance sheet. The option seen by the DWP as most favourable to members is to introduce some form of guarantee, eg a money-back, investment or retirement income guarantee.

In addition, the consultation puts forward a “Pension Income Builder” option, inspired by the Dutch and Danish systems. Contributions under this model would be used for two different purposes:

a proportion would be used to purchase a deferred nominal annuity for each year of contributions; and
the remaining contributions would then be invested in a collective pool of risk-seeking assets alongside the residual proportions of other scheme members.

Having first been considered (and rejected) by the DWP back in 2008, “collective DC” arrangements have also come back to the fore as part of the present consultation.

A new legislative approach?

To help “enable innovation” in the DA market, the DWP is looking at the legislative changes needed to accommodate its suggested DA models. Whilst it is not proposing a total rethink of the legislation, it does intend that there should be a clear distinction in the legal framework between the various types of pension model, using new definitions of DA and DB as its starting point. This also ties in with the current work on reclassifying DC benefits in the wake of the Bridge Trustees case (for more on this, please see our recent Alert).

With the rapid expansion of workplace pensions, both employers and individuals need certainty over ongoing costs and the future rewards. As the evidence collated by the DWP to date suggests that there is appetite for new models of pension provision amongst employers, the current consultation is to be welcomed for looking afresh at options that share risk and affordability. But with parliamentary time under pressure before the next election in May 2015, time will tell as to whether Steve Webb’s ambitions defined in this consultation paper will be realised.