Pensioners in final salary schemes squeezed out of £18bn

Hundreds of thousands of retirees on final pay pensions may be missing out on increases in their monthly payments to help with the rising cost of living, experts warn.

According to Aon, a company of actuaries, these retirees are being refused payments worth around £18 billion.

About ten million people in the UK are members of final pay plans, also known as defined benefit plans. This is the most generous type as they pay out a guaranteed lifetime income based on your earnings.

However, the degree of protection they provide against inflation varies wildly. Most increase with inflation each year, but only to a maximum. Some plans also offer discretionary cost-of-living supplements when inflation exceeds the cap.

Pension administrators may choose to offer these supplements where they believe it is in the best interests of participants and the plan’s finances are in good health in order to be able to pay an additional benefit.

However, the problem arises when UK companies have transferred their pension plans to giant insurance companies in so-called buyout agreements. During these deals, retirees’ discretionary rights are often voted out behind closed doors.

Once a pension scheme is in the hands of an insurer, it is no longer managed by a group of pension administrators with a legal responsibility to act in the interests of the participants.

Instead, the insurance company is simply responsible for maintaining monthly retirement incomes and is under no obligation to provide additional assistance to participants in difficult financial times.

Richard Williams is director of strategy and communications at Clara, a consolidator of early stage pension funds where discretionary payments are still possible. About buyouts, he says: ‘Broadly speaking, insurers have to lay down all discretions when entering into a settlement and these will usually disappear.’

Henry Tapper, AgeWage chairman and pension expert, adds: “Once insurers have taken over the liabilities of a pension plan through a buyout, they are not required to pay a cent of the excess profit generated by the plan assets. to pay out to the participants.’ More and more companies are transferring their pension plans to insurers through buyouts. The deals are huge business for insurance giants such as Legal & General, Rothesay Life, PIC, Aviva and Scottish Widows.

Actuaries Hymans Robertson estimates that the value of these buyouts could reach a staggering trillion pounds by 2031.

Which pension participants receive a wage increase?

Most private sector defined benefit plans tie their annual pension increases to the retail price inflation index, but cap it at five percent or just 2.5 percent.

Arrangements that have not been bought out can then supplement them. For example, members of one of British Airways’ programs, the APS, recently received a discretionary benefit of 1.8 percent, bringing their total pension increase this year to 4.9 percent.

Some of the stingiest schemes offer no inflation protection at all and rely solely on discretionary top-ups. Many supervisory boards consider discretionary increases each year as part of their governance process. This year, about six out of ten boards have actively thought about it, but only a minority have granted them.

Bina Mistry, head of UK Corporate Pensions Consulting at Willis Towers Watson, said: “Of the 139 defined benefit plans, 89 managers have actively considered granting discretionary increases in 2022, of which only 15 allowed an increase.”

The value of discretionary top-ups has not been seen for nearly 30 years as inflation has remained subdued. But when RPI inflation reached 12.3 percent in August, retirees who can’t take advantage of supplemental insurance will see the value of their income quickly decline. Tom Selby, head of pension policy at investment platform AJ Bell, says: ‘If we had 5% inflation for five years, a pension income of £10,000 without inflation protection would be worth £7,738. If we had 5% inflation for ten years, it would only be worth £5,987.’

Among the refused supplements are the 277,000 pensioners whose pension fund has been taken over by the Pension Protection Fund. This organization acts as a lifeboat and takes over pension schemes from companies that go bankrupt and cannot meet their pension obligations.

It has no power to grant discretionary supplements, meaning retirees in the schemes it controls get a maximum increase of 2.5 percent each year — even if inflation far exceeds that level.

The PPF says: ‘We were established by the government to pay members of eligible defined benefit plans compensation for their lost pension if their employer defaults. Our remuneration levels – including indexation levels – are defined by law.’

How do I get a supplement for my pension?

It is often up to participants and unions to push for discretionary pension increases. William McGrath, chief executive of C-Suite Pension Strategies, encourages them to “be more active in asking questions about what is in their best interest.”

He adds: ‘Where a pension plan is well funded, they can ask trustees for more.’

Hilary Salt, a partner at First Actuarial LLP, advises participants to see if their pension plan has offered significant increases in the past – and then use this as a bargaining chip.