02 December 2008
Lord McKenzie of Luton
Parliamentary Under Secretary of State (Lords)
Eversheds 3rd Annual pensions conference – The Pensions crunch?
Institute of Directors
Tuesday, 2 December 2008
[Check against delivery]
Introduction
It is my pleasure to join you all only days after the Pensions Bill became an Act, receiving Royal Assent just last week.
This is a significant milestone and marks the start of a new phase in pensions as we focus on delivering the Turner reforms in 2012.
The passage of the legislation was marked by a robust consensus for radical reform, with some powerful debates – not least around private pensions, revaluation changes, buy-outs and regulator powers, qualifying earnings and much more. Can I say, after two pensions Bills in two years, I am relieved to say I don’t expect to return to the House any time very soon with another one!
However, I am pleased that my involvement in pensions matters does not end with the Act – as our reforms don’t end with Royal Assent. There is a lot more to do and I am looking forward to working with the new Minister of State for Pensions, Rosie Winterton, and with you all, to make the promise of these reforms a reality.
The private pensions landscape has also changed remarkably over the past year with the series of challenges presented by the economic climate.
And one which will change even more so over the coming years, as we start to implement the radical reforms in the Pensions Act.
This afternoon I will offer our comments on how we are working to ease pressure on schemes, particularly DB schemes, such as the informal consultation on section 75; the protection system and the Regulator; and the reforms in the new Pensions Act including personal accounts.
But first, to the title of this conference, ‘Pensions Crunch?’ As I’ve said, there is no doubt that the global downturn is tough.
Markets have seen sharp falls in value with impacts both on defined benefit and defined contribution arrangements. And this at a time when many sponsoring employers will face a challenge of liquidity and possibly a heightened focus on risk – risk of all sorts, not least their pension obligations.
It is also likely to be a time when corporate rationalisation and restructuring will be on board agendas, together with consideration of pension buy-outs or buy-ins of one form or another. However, while markets fluctuate over the short term, we must remember that pensions are about the long term.
For many members of defined contribution schemes, “lifestyling” arrangements, which automatically reduce exposure to riskier assets such as equities as members approach retirement, will have offered some protection against short term fluctuations.
And those retiring in 20-30 years have decades for their pension pots to grow.
You may remember that recently there were calls to change our rules on the age of annuitisation, and we have resisted these.
Actuarial evidence suggests that age 75 remains a suitable age for securing an income for life, via annuitisation or another route such as an alternatively secured pension. In any case, only 1 in 20 people annuitise after the age of 70.
So far as Defined Benefit schemes are concerned, deficits are expected to increase. We must therefore take steps to relieve some of the financial strain on employers at this time, as well as enhancing consumers understanding of their pension.
And we must be consistent in our message, working together with trade unions, consumer groups and industry, that saving into a pension is still one of the best ways to provide for security in retirement.
And in doing so, we must promote confidence in the UK pensions system.
Relieving current pressures on schemes
We have taken a number of steps over recent weeks in an effort to relieve some of the added financial strain that pension providers and scheme sponsors face.
These steps firstly include deregulatory measures in the Pensions Act.
We have made arrangements in the Act to reduce the revaluation cap from 5% to 2.5% for future accruals. This has the potential to save employers around £250 million per year in the longer term.
Secondly we want to help occupational pension schemes with restrictive rules take advantage of the reduction to the revaluation cap.
So we will therefore introduce a statutory override to enable overly restrictive scheme rules to be amended where trustees agree.
This override will apply both to the revaluation cap change and also to the similar change we made to the indexation cap in the 2004 Act.
Thirdly, we made administrative easements for employers on the issue of qualifying earnings for the purposes of the employer duty under the 2008 Act. This was a particularly good example of a broad spectrum of pensions industry experts working together to reach a consensus.
Through these amendments, we will enable employers who are confident their workers are on course to receive the new minimum level of pension saving, to certify their arrangements meet the new quality standard, without the need for continuing individual reconciliation.
We will provide flexibility for employers and their schemes, while ensuring that all members of employer sponsored schemes regularly receive pension contributions, at least in line with the new minimum level of pension saving which they should get if in a personal account.
Fourthly, in agreement with their management, we have frozen the current rates for the administration levies that fund the running costs of the Regulator and the PPF, along with the Pensions Ombudsman and the Pensions Advisory Service.
And finally, we are carrying out a four week informal consultation on section 75 of the1995 Pensions Act - where any deficiency in the fund becomes a debt on the employer. We are seeking views on whether the rules should be modified where an employer withdraws from an associated multi-employer scheme, so as not to hinder corporate restructuring unnecessarily – so long as the employer covenant was strong before the restructuring and remains so afterwards.
This is a difficult area, and it may not be easy to find a way to address the issues without creating loopholes. But if we can, we will hold a full consultation in February, and, should changes be necessary, seek to introduce them in October 2009.
I will stress that this consultation is currently informal, and that it is not about weakening protection for anyone, but about listening to concerns, and consulting on the options… All the while with the clear principle that we are not undermining the employer covenant and we are still protecting employees.
These moves show responsible and flexible action in the face of the economic downturn.
Perhaps I should also say something briefly on the risk sharing consultation, as I know that many of you are looking forward to seeing our forthcoming response. We have received a range of responses to the various questions posed and some interesting suggestions. There was, not surprisingly, little consensus on the way forward and it is right that we have taken some time to look through the detail. We are in the final stages of this work now and hope to publish our response very shortly.
The Protection System
These times are exceptional. So we want to support the pensions industry and those employers who currently provide pensions – pushing down on costs and driving out unnecessary regulatory burdens.
But all the while, never losing sight of the underlying need to protect members’ benefits. Protection, confidence and security must be at the heart of what we do.
Already we have put in place some significant measures that allow us to give re-assurance to those worried about their occupational savings.
The Pension Protection Fund protects over 12 million members in over 7,000 eligible defined benefit occupational pension schemes.
It is designed to work both in a benign market environment and in a downturn. As I am sure you will know the PPF and the DWP are monitoring the current situation carefully.
Although we have not seen any significant increase in claims to date, the PPF is expecting an increase over the next 12 to 18 months as a result of the current down turn. But greater corporate insolvency does not change the PPF model – this is exactly what they have been set up to deal with.
There are no liquidity problems for the PPF, and compensation continues to be paid. The PPF currently has around £2billion in assets but is only paying £3.2 million a month in compensation.
And the Financial Assistance Scheme is now paying assistance to over 9000 members, affording them security in retirement.
The Pensions Regulator recently issued a statement to trustees on current market conditions. I hope this provided some measure of reassurance that the Regulator’s current guidance is still applicable in these market conditions.
Recovery plans typically seek to make deficits good within around 7 years, but given current financial pressures - emerging strains on company cash flows and affordability - this may result in some schemes having to undertake longer plans.
The Regulator has said that the current framework is sufficiently flexible, recognising that pension schemes are long-term undertakings.
The guiding principle is reasonable affordability.
They are working alongside scheme providers to ensure that recovery plans are both affordable and effective.
The Pensions Regulator has adopted a proactive approach and provides increased protection by focusing its resources on the greatest risk. I hope that ‘The Regulator’s Perspective’ will reassure you that the Regulator is taking appropriate measures at this time.
The PPF, the Regulator and the FAS, provide a solid framework for protection and support for pension schemes.
The Buy-Out Market
I’d like to talk for a few moments on the changes we have made to the anti-avoidance powers of the Regulator.
While the buy-out market is affected by the current market volatility, I understand trustees and their advisers may be deferring the decision to transfer all or a portion of a pension scheme to an insurer until markets are more settled.
Nonetheless, recent MetLife research found that more than half of trustees are still keen to buy out their pension scheme liabilities – with over half of trustees saying they were looking towards a buyout. And transactions in the first half of 2008 have exceeded the record business volumes for the whole of 2007.
As the pensions’ landscape evolves, so should the pensions industry’s response to it. However, there is concern that some models - particularly non-insured buy outs - may remove from the pension schemes the security provided by an employer – without putting adequate capital in place to replace that security. This could put members’ benefits at risk and place undue pressure on the PPF, and those responsible for paying its levy.
We have made proportionate changes to the anti avoidance powers of the Regulator in particular to deal with these risks. We originally introduced amendments to strengthen the Regulator’s anti-avoidance powers through secondary legislation.
However, this approach generated significant concerns about the degree of Parliamentary scrutiny, and the potential impact on business. The Government listened to these concerns and made a commitment to refine the legislation. Over the summer, the DWP, the Regulator, and stakeholders have worked diligently to develop what is now in the legislation.
We have worked with the CBI, British Venture Capital Association, and the Association of Pension Lawyers among others, to respond to concerns that the detailed proposals should be on the face of the legislation, and that the powers should not have an undue impact on business.
As a result we put the substantive proposals on to the face of the legislation together with important safeguards to ensure that the measures are targeted and do not have a disproportionate impact on routine corporate activity. The key provision is the introduction of a material detriment test for the trigger of a contribution notice. However, there are some important filters intended to target its use.
First, the Regulator has published draft content for a Code of Practice. This sets out the circumstances in which it expects to use the material detriment test. This is intended to provide the regulated community with a greater degree of certainty. The Regulator expects to consult formally on this draft now the legislation has received Royal Assent.
We have also introduced a statutory defence which will provide the market with a degree of self-regulation – the defence is designed to reflect the current due diligence process that should apply to a sponsor’s consideration of the impact of an act on the pension scheme. These powers will enable the Pensions Regulator to be able to deal with new risks that could be detrimental to scheme members’ benefits and the PPF.
But the safeguards are now in place to ensure that these powers are proportionate and appropriately targeted.
Brighton Rock
I and my Ministerial colleagues welcome the fact that a number of organisations are thinking creatively about the most effective way to manage pensions liabilities. We welcome innovation - but we do need to ensure that we understand and manage the risks of new approaches appropriately. For example, Brighton Rock have suggested that they could offer an alternative, insurance-based approach to the PPF.
As Mike O’Brien made clear earlier this year, we do not consider that it would be appropriate to open the PPF up to competition at this point.
The PPF is a young institution, and particularly under the current economic circumstances, we consider it is vital that we neither undermine the stability of the PPF, or of savers' confidence in the PPF.
However, we do continue to keep this issue under review, and should the Government's position change, I am able to confirm that the 2004 Act provides sufficiently wide regulation-making powers for us to be able to effect such a change in regulations, without the need for primary legislation.
And confidence will be the key to working toward a stable UK pensions environment.
The Pensions Act’s Reforms
Now I know that the reforms in the Pensions Act 2008 are a big step, and a huge challenge. And as with any change of this magnitude, naturally, it is causing much discussion.
But with the possibility of making pension saving the norm and not the exception, and of opening up saving into a pension to between six and nine million more people, and many of those for the first time. The prospects for the future are substantial.
And it requires us all to work together, to get it right.
The new Pensions Act presents us with some particular opportunities:
- A long term solution to undersaving and demographic challenges
- For workers – access to a private pension and clearer incentives
- And for industry – more savers and more pensions contributions
I think it’s reasonably safe to say that this Act has made some truly historic changes to the UK pensions system.
We will seize the three opportunities by the following measures:
- Employees will be automatically enrolled into a pension
- Employers will be duty bound to contribute a minimum of 3%
- And personal accounts> will enable those without access to a good quality workplace pension to save into a trust based savings scheme, many for the first time.
Auto-enrolment, a minimum level of contributions to a scheme, and personal accounts.
These will mark the beginning to realising a long term solution to under saving.
Adapting to the seismic shifts in the UK’s demography – that by 2050 will see only two workers for every person over 65.
And opening up access to a private pension for the vast majority of workers.
With the incentive of a guaranteed contribution from your employer and the benefit of tax relief.
So, whether you’re an executive working for a FTSE 100 company or an assistant at the local hair dresser, the option of a simple, low cost saving vehicle with employer contributions will be open to you.
And for the pensions industry, the potential for £10bn in additional pension contributions by 2015.
Personal Accounts
Of course there is concern that the introduction of personal accounts could result in a ‘levelling down’ of pensions saving. That those employers currently contributing more than 3%, will immediately switch to the minimum effort required.
But we have designed the reforms to minimise the risk of ‘levelling down’ to employers of existing schemes.
Reassuringly, a key finding of research which we will publish in mid December is that among employers already making contributions of 3% or more, a majority of 86% plan to maintain or even increase contributions for current members.
And it is worth bearing in mind that without the reforms in this Pensions Act, an employer would remain under no obligation to make any contributions whatsoever.
Nearly 9 million employees currently work for such an employer.
In any event, should an employer wish to make a significant change to their pension scheme- such as reducing the contributions that they make- they are subject to the Employer Consultation Requirements, which from April this year, apply to all employers with 50 or more workers.
Fundamentally, this ensures that affected scheme members are made fully aware of substantial changes to their scheme and the implications this will have for their future pension provision.
We still have several years to prepare for implementation of the new provisions.
But let me be very clear: none of this is to say that we are going to become complacent in our approach.
Quite the opposite, we will monitor it even more closely.
Now we’re providing the means, consumers need the incentive to save.
We live in an ageing society and despite the ever increasing time people are spending in retirement they are saving less. In fact, almost 60% of today’s working age population are currently making no pensions provision at all.
Which is why the measures we introduced in the Act last week are so important.
The reforms provide the means to save, and automatic enrolment should help address the historic problem of inertia.
That said, I’m aware that savings incentives are a complex issue and one we need to fully explore, particularly the interaction with the benefit system.
For the first time ever employers will be required to contribute to their workers’ pensions and tax relief will add to the benefit. Providing, what we believe, will be a clear incentive for most to save in a private pension.
Which is why we’ve been taking forward a programme of work with our stakeholders – including pensioners lobby groups, industry bodies, academics and opposition members.
We’ve now had a number of seminars and the results will be published in the New Year. We aim to build a shared understanding of the evidence on this issue, so that we can be clear about the way forward… and clear about the messages we deliver to the public. My colleague, Rosie Winterton a couple of weeks ago called for the industry and Government to work together to do more to promote understanding of pensions in our communications with the public.
A shared vision and a broad consensus has been a theme of our reforms; through the setting up of the Pensions Commission, to the national debate events, to the formulation of our policy, we’re strived to work together, in agreement, on the best way forward.
Conclusion
This united approach is also the best way forward in our current environment.
I understand that just before lunch, there was a debate entitled, ‘are decent pensions a thing of the past?’ Before I conclude, I would like to offer my own thoughts on this.
Simply that no, they are not.
As I’ve outlined, we’ve put in place measures to make decent pensions a thing of the future.
Despite difficult circumstances, the UK pensions system has a strong framework in place- through the protection system, through government, through industry, through trade groups and more- working to strengthen it in these challenging times and equip it for the changes ahead.
These are exceptional times.
But we are on the path of turning security in retirement into a reality for all.
So let’s not abandon the united approach and the broad consensus that has got us so far already - it clearly works. And it will serve to strengthen confidence in pensions.
Thank you for listening, I look forward to taking your questions.
