Learning from BHS: Reforming Defined Benefit Pension Schemes

16 June, 2016
by: Cripps Pemberton Greenish

reitrement signpostThe Work and Pensions Committee is conducting an enquiry into the sustainability of defined benefit pension schemes with a view to future reform.

The issues

Employers who offer traditional defined benefit schemes are committed to paying employees a monthly benefit on retirement based on their earnings, regardless of the investment returns of the pension fund. This obligation continues for the rest of the employee’s life and that of their surviving spouse or civil partner thereafter and is sometimes funded exclusively by employer contributions. With increasing life expectancy and record low returns on capital, the cost of these is often unsustainable.

Of the 6,000 defined benefit schemes in the UK, 5,000 are currently in deficit, with a combined deficit of more than £800 billion. Frank Field MP, Chair of the Work and Pensions Committee, has described this as one of the ‘greatest problems of this age’.

The clearest example of the burden defined benefit schemes place on employers is that of BHS, whose mounting pension scheme deficit, now £571m, played a large part in its sale for £1 last year and consequently its filing for administration in March. Despite demands for previous owner Philip Green to contribute to this, it is expected that the large part of the burden of the scheme will fall on the Pension Protection Fund.

Similar problems are faced by British Steel, whose £485m pension deficit deters buyers and has made it very difficult to sell the business. It seems inevitable that other employers with defined benefit schemes will follow the same path unless these schemes are reformed.

The proposals

The committee will look to put a more sustainable model for pension schemes in place. This may involve reforming both regulation and governance of the defined benefit scheme and potentially the law surrounding pensions, in particular the Pensions Act 2004.

These schemes place a significant burden on employers and the risk to employees and pensioners needs to be reduced. Mr Field has said that the enquiry will consider radical solutions that could be more easily implemented if real returns on capital rise again. We await the Committee’s proposals on reform in due course.