Pension Mistakes resulting from Tory legislation in 1990s

by Dr. Ros Altmann

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The Maxwell debacle in the early 1990's led the Tory Government to realise legislation was needed to enhance protection for pension scheme members.  There were two major pieces of pensions legislation after Maxwell.  1993 Pension Schemes Act and 1995 Pensions Act.  Most of the provisions of these Acts came into force from 1997 and, although designed with good intentions, have resulted in false sense of security and worrying lack of protection for members who are not yet retired.  They have also caused a significant increase in costs for UK final salary pension schemes. 

The extra burdens placed on schemes and extra regulations can be seen, with hindsight, to have been well-meaning in intent, but extremely damaging in practice.  Some of the major problems are listed below: 

1.       Introduction of transitional priority order for winding up 

1995 Pensions Act introduced a 'transitional priority order' for sharing out the assets of a pension scheme which winds up when an employer is insolvent.  The ASW and UEF cases were caught badly by this.  The provisions introduced in 1997 state that pensions in payment must have first call on all pension fund assets, and this will include all index linked increases for life.  In effect, this means that anyone who is already drawing a pension will have an index linked annuity bought for them (very expensive) to cover their entire pension promise, even up to huge amounts of pension.  Once these annuities are bought, if there is no money left in the pension fund, then all other scheme members who have not yet retired (even those 1 day away from retirement!) will get nothing at all.  This transitional order was to be in place for 10 years and then, in 2007, the order is due to change so that pensions in payment are met first, but without their inflation-linked increases.  This means that only non-indexed annuities will need to be bought, which is much cheaper and then other non-retired members will have next call on the assets, so that workers will be much more likely to receive something from the fund. 

This transitional priority order is grossly unfair and could be changed today.  Just bring forward the 2007 order to today and only protect level pensions, rather than full index linking, giving non-retired members much more chance to receive their pensions.  Of course, ultimately, the only way to really protect members is to have some kind of insurance scheme in place. 

2.       Introduction of LPI (limited price indexation) 

From 1997, all pensions accruing were required to be indexed up to 5% per year (i.e. must be increased in line with inflation up to a maximum of 5%).  This was meant to give better pensions to members, but has resulted in enormous extra costs for schemes.  It is estimated that the extra cost of providing index-linking adds 30% to scheme funding and has added to the unsustainability of our pension system.  Employers are being asked to bear all the inflation risk, which is proving too expensive. 

3.       MFR 

This has caused huge problems.  The MFR was billed and perceived as ensuring that pensions were protected, so they would be properly funded and prevent employers underfunding their schemes, (a la Maxwell).  In fact, it was misrepresented and misunderstood.  It does not guarantee proper funding, has added huge extra costs onto schemes because they need to comply with it and have actuarial calculations done to calculate it, and the assumptions used to calculate it are so outdated that even fully funded schemes now offer less than half the promised pension to members who are not yet retired.  The actuarial assumptions are out of date and the method of calculation is flawed.  It is used as the basis for calculating transfer values or to prescribe what a solvent employer must put in on winding-up the scheme, which is currently allowing employers to legally walk away from their pension promises even if they can afford to meet them in full (example Maersk). 

4.       Member Nominated Trustees 

The requirement for a third of trustees to be nominated by members was designed to increase member protection.  Unfortunately, just having member trustees does not help, because employers can choose to ignore the trustees' advice and the cost of nominating members can add to funding pressures.  This just adds to the illusion of protection, but in practice it is lulling members into a false sense of security, since employers retain the power to wind up the scheme if they want to, (the 'nuclear' option) or refuse to accept the recommendations, if they so choose. 

5.       Section 67 of the 1995 Act 

This provision prevents employers from making any changes to pension schemes which might diminish members' rights.   In theory, this sounds good, but, in practice, this has meant that employers are prohibited from making any changes at all, even ones which improve members' rights, for fear of diminishing someone's future rights in any way. If even one members' future rights were somehow worsened, this would render the changes to the scheme void, so the administration of the scheme would become impossible.  Another example of well-meaning legislation which was drafted in such a way as to impose impossible burdens on schemes. 

6.       OPRA 

The Pensions Regulator 'OPRA'(Occupational Pensions Regulatory Authority) was introduced, which was supposed to protect scheme members.  However, OPRA has operated at a very 'micro' level, focussing on whistleblowing for minor breaches of the rules (for example pursuing employers who remit pension contributions a few weeks late, or send letters out a few days late).  While it is looking after these minor breaches, members remain unprotected in the case of wind-up.  Huge chunks of their pension, or indeed all of it, can be lost at a stroke, making all the low level protections valueless.  This is a gaping hole in our pensions law and must be rectified. 

The Bottom Line 

At the end of the day, any and all changes made in the 1990's, designed to improve UK pension schemes for members, are unhelpful in the medium term, because the option of winding up the scheme remains and means that huge swathes of people's pension rights can disappear at a stroke, with no protection in law.  This makes a mockery of our thousands of pages of pensions law supposedly designed to protect people's pension rights.

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