BBC Pension reform proposals draconian
by Dr. Ros Altmann
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The proposed BBC pension scheme changes are harsh. If they are introduced, staff need independent financial advice before deciding what to do, as the choice is not straightforward.
The latest BBC scheme valuation shows a £2billion deficit. Although it could be argued this was calculated at a most inopportune time, the BBC, like most companies, is desperate to find ways to control future costs – and risks – of its pension promises. In the past few years, almost all private sector final salary schemes have closed, at least to new members. Recently, Barclays, Dairy Crest and Trinity Mirror closed their schemes altogether. Public sector pensions will surely have to change too.
Workers at ITV and Marks and Spencer already face a 1% cap on pensionable salary increases, like the BBC proposals. RBS has capped increases at 2%, or the rate of inflation, whichever is lower. Axa and Railways propose increasing pensionable salary by the lesser of RPI [retail price index] inflation or the actual pay rise.
So it’s clear the BBC is not alone, but its proposals are draconian. Indeed, perhaps the BBC wants members to leave the scheme as soon as possible, to contain future liability increases, by leaving employees at risk of being worse off staying in than if they leave now.
Members face a difficult choice. Either they can continue contributing 7.5% of salary to the BBC scheme, accruing extra years of pension entitlement, but with annual salary increases on which their pension will be based limited to 1%. Or they can leave and join the alternative DC pension arrangement instead. By do this, they become ‘deferred members’ and their BBC pension at retirement will be based on the number of years they have contributed so far and their current salary.
The complication is that, by law, companies must revalue deferred pensions in line with inflation each year, to preserve pension benefits for employees who have left the scheme. Therefore, if inflation exceeds 1%, members’ pensions will increase by more than the 1% increase in pensionable salary each year, and they could, therefore, be better off leaving and letting their deferred pension increase by inflation.
In addition, they can contribute instead into the DC scheme to build up a separate extra pension.
I know this is all pretty complex, which is why members need independent advice before deciding what to do.
Maybe an example will help.
Let’s take someone earning £50,000 today who has been in the scheme for 30 years.
Their current pension entitlement is £25,000
(calculated as 30/60ths – i.e. half – their £50,000 salary).
Scenario 1. They stay in the scheme, contributing for 10 more years:
Pensionable pay will rise to £55,231 (£50,000 increasing by 1% a year = £55,231)
Their eventual pension will be £36,820
(40 years’ contributing, gives 40/60ths, or two thirds of £55,231 final salary).
The member’s contributions for those extra ten years at 7.5% of salary each year are around £40,000.
Scenario 2: They leave final salary scheme, inflation is 2.5% a year:
Their current £25,000 pension entitlement will be revalued by RPI (at least up to 5%) for the next ten years.
BBC final salary pension in ten years’ time would be around £32,000
(£25,000 increased by 2.5% annual inflation)
This is less than the £36,820 pension they would receive by continuing final salary scheme contributions for another ten years.
However, if they paid the £40,000 contributions into the DC scheme instead of the final salary scheme, they will have another pension. The value of that extra pension will depend on factors such as employer contributions, investment returns achieved, charges and any annuity purchased on retirement.
Scenario 3: Leave final salary scheme, inflation 4% a year
The current £25,000 deferred pension will be increased by 4% annually for ten years
BBC pension in ten years’ time will be around £37,000, similar to staying in the scheme as per Scenario 1.
However, they also have extra pension from £40,000 DC scheme contributions.
So, if inflation is 4% this member seems better off leaving the scheme.
Predicting inflation correctly is a crucial factor in deciding what to do!
The problems for final salary schemes are not new, but most people were in denial for years – in fact, there has been an air of unreality about pensions for far too long. Actuaries, policymakers and the public thought – to the extent they did think about it – that pensions would be paid somehow.
Employers were just expected to be able to continue underwriting huge open-ended commitments for many decades into the future. Stock market investments were supposed to keep up with rising longevity, salary inflation, price inflation, scheme costs and falling interest rates. But, as people are living longer and investment returns have disappointed, this has not worked. Even if markets improve, the longevity problem remains.
Final salary schemes don’t have the flexibility to deal with these issues and employers have realized they are far more expensive – and unpredictable – than they ever expected.
This is the context in which the BBC has acted. However, as these are only proposals, perhaps a different outcome can be negotiated. Top of my list would be requesting that pensionable pay should at least increase by inflation, reducing the risk that members will lose out by staying in.
Alternative ways of cutting costs could include increasing members’ contributions substantially, increasing pension age or better terms for the lowest paid. Such changes would reduce pension costs going forward, but we cannot predict how much and they cannot change past costs. So none of these options really ‘solve’ the problem.
If these proposals stand, staff must try to assess, probably with an independent financial advisor, whether they should leave the BBC final salary scheme and join the new DC scheme instead. This is a really hard decision.
At the end of the day, workers can probably no longer rely on employers to support them in retirement. They will increasingly have to make their own financial plans for their future.