Pension Funds in the UK — Danger Ahead?
| Date | 01 January 1987 |
| Pages | 23-25 |
| Published date | 01 January 1987 |
| DOI | https://doi.org/10.1108/eb055093 |
| Author | Bernard Foley |
| Subject Matter | HR & organizational behaviour |
Pension Funds
in the UK —
Danger Ahead?
by Bernard Foley
Department of Continuing Education,
University of Liverpool
Introduction
Pension Funds are extremely big business. Close to £200
billion worth of assets are held in UK occupational pension
schemes on behalf of nearly eleven million members. In
addition,
they enjoy a cash flow in excess of £8 billion a
year, giving them enormous leverage in the equity and gilt-
edged markets. Most people, including trade unionists, pay
little or no attention to these giants of finance capital
because they feel that, in some obscure way, the full panoply
of the law is available to protect the prospective pensioner.
It is not fully appreciated how weak the law is in this area
and therefore how vulnerable occupational pension rights
may be.
There are three major sources of danger which may threaten
pension rights and/or expectations of scheme members.
These are:
(1) the taking of a "pension holiday" or an actual rebate
of contributions by the company which has
established the scheme;
(2) the winding-up of a pension scheme by the
sponsoring company, and
(3) the take-over of the sponsor company by a predator.
Each of these sources of danger arises because of the
growth and size of pension fund assets and the fact that
many funds are now enjoying considerable "actuarial
surpluses". It has been estimated that such surpluses may
be between £10-£50 billion[1]. The estimates are of such
variable magnitude because of the basic uncertainty
involved in estimating the future liabilities and income of
pension schemes. Thus most occupational pensions in the
UK are "final salary schemes", i.e. they promise to pay
benefits sometime in the future which are related to the
member's salary at or near retirement. The pension itself,
any lump sum arrangements, survivors' pensions, etc, are
all calculated on the basis of final salary. As the schemes
are "funded" rather than "pay as you go" arrangements[2],
they operate by saving money in advance.
Because it is impossible to be precise over a span of 20 or
30 years, no-one can know for certain how much will be
required.
For example, how large will salaries be in 2016?
How many people will leave the company prematurely, either
voluntarily or compulsorily? Who knows how well the
scheme's income will be invested? These factors are not
easily assessable, so pension funds employ actuaries to
make periodic reviews which examine a fund's current
financial status and incorporate their best forecasts. The
forecast of the scheme's likely future position then forms
the basis for recommendations about current contributions.
If the fund's prospective liabilities outweigh its prospective
income, there will be an actuarial deficit and the actuary
will recommend an increase in contributions. Practice varies
considerably, but many private schemes guarantee that, in
the event of a deficit, the company will put in sufficient
finance to meet the defined benefits. They do not, like many
schemes in the public sector, put in a fixed percentage of
the salary/wage
bill.
A Surprise Transformation
Given the inescapable uncertainty surrounding the actuarial
valuation it is obviously possible to have widely differing
estimates of a fund's viability. Professional caution therefore
tends to produce an inherent leaning toward the most
conservative of assumptions about, e.g. investment
performance/growth of real wages, etc. The financial
position of most schemes has, meanwhile, been
transformed in the last six or seven years — the rise in
unemployment has produced a wholly unexpected surge
in the number of "early leavers" from many funds. As
generally, until this year, early leavers have suffered by having
their benefits frozen at the time of departure[3], this has
been a very advantageous outcome for the funds
concerned.
In addition to this "windfall", the investment
performance of the pensions industry has been much
stronger than expected in the last five years. The massive
"bull market" which has characterised stock exchanges
throughout the Western economies has inflated the actuarial
surpluses further. The continuing growth of company profits
is expected to underpin the investment gains of the
immediate past. It is, of course, conceivable that this
investment performance, based as it is partly on capital
growth fed by speculation and take-over fever, could go
backward very quickly, but most analysts look to a
consolidation of recent gains and not a wholesale retreat.
In sum, the existence of massive actuarial surpluses is
reasonably well founded, even if the estimates range very
widely. Indeed, the very size of the actuarial surpluses has
encouraged the Chancellor of the Exchequer to introduce
a number of proposals to deal with them. In the 1986
Budget, he indicated that he may bring in a change in the
rules governing Pension Funds. The intention is to offer
companies running occupational pension schemes a three-
way choice of how to dispose of surpluses which are more
than five per cent above the fund's liabilities. They can
increase benefits to members, declare a contributions
holiday, for the employer, employees or
both,
or they can
make lump-sum payments back to the company.
Pension Holidays
There have already been several examples of companies
taking the opportunity to suspend contributions because of
an actuarial surplus — Lucas Industries and the Tl (Tube
Investments) group both suspended payments in 1985[4].
Other companies said to be in line to follow are Birmid
Qualcast, GKN, Babcock and Wilcox and Armstrong
Equipment[4]. One would have expected the surplus to be
used to improve the benefit profile of schemes or to
ER 9,1 • 1987 23
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