Companies continue to move away from defined benefit pension schemes

A new report has confirmed the continuing decline in the number of defined benefit (DB) pension schemes, and the resulting increase in defined contribution (DC) plans. Some 39% of companies which provide DB schemes have closed these plans to new members. Meanwhile, the number of companies offering only DC schemes has tripled from 8% to 24%. Hybrid pension plans, combining features of both kinds of scheme, may offer a useful compromise.

Greater risk for employees

A recent pension market survey (1Mb PDF), which was conducted on behalf of the Irish Association of Pension Funds (IAPF) by the UCD Michael Smurfit School of Business, found that 39% of companies which provide defined benefit (DB) pension schemes have closed these plans to new members (IE0703029I). This is up from 12% of companies five years ago.

In DB schemes, as traditionally operated in Ireland, the employer carries the long-term financial risk, whereas in defined contribution (DC) schemes this risk is carried by the employee. Essentially, DB plans provide members with benefits on retirement or death based on the members’ salary close to retirement and on their pensionable service. DC plans, on the other hand, provide benefits based on the value of the member’s individual retirement account at the time a benefit is purchased.

Speaking at a recent conference organised by the IAPF on pensions, its Chair, Patrick Burke, commented:

The findings emphasise that the responsibility and risk of securing an adequate income in retirement is increasingly moving to employees, but our study suggests that many are not fully aware of the extent of this major change in the pensions’ landscape or, at an individual level, of its implications for them personally.

The report shows that the number of companies offering only DC plans had tripled from 8% to 24% between 2002 and 2007. Mr Burke noted: ‘Because of the growth in the number of DC schemes, a major challenge moving forward will be to ensure pensions adequacy not just coverage.’ The IAPF Chair added that a positive trend identified by the UCD study was that 70% of employers now contributed more than 5% to DC schemes, compared with 46% of companies in 2002.

Employers highlight public sector pension costs

The Director of Industrial Relations and Human Resources at the Irish Business and Employers Confederation (IBEC), Brendan McGinty, told the conference that, given the scale of public sector pension liabilities – totalling €45 billion – these costs needed to be capped and more radical reforms introduced (IE0707049I). While the average employer contribution in the private sector is 11.5% of earnings, this average increases to 25% of earnings in the public sector.

Mr McGinty explained that the central issue is that public sector pensions are worth 13.5% of salary more than the average private sector pension; thus, the upcoming Public Service Benchmarking exercise must fully account for this premium in its deliberations on public sector pay (IE0608019I). The benchmarking exercise, which is carried out every four years, compares pay for all public servants – apart from a select number of higher ranking civil servants and others – against agreed private sector grades.

Referring to DB schemes, Mr McGinty observed that 40% of these were closed to new entrants and that this proportion would increase to 60% by mid 2009. The Director of IBEC stated: ‘The cost of providing DB plans has escalated due to strict funding standards, international accounting requirements, low long-term interest rates, higher pay, poorly performing equities, and a rise in life expectancy.’

Recommendation for hybrid schemes

Meanwhile, Jerry Shanahan, National Officer of the UK-based trade union, Unite – which has 100,000 members in Ireland – believes that there is a solution to the growing crisis in DB schemes in relation to the fact that many are now closed to new members. In his view: ‘The rush to close defined benefit schemes is throwing the baby out with the bathwater and is storing major problems for the future.’ Mr Shanahan conceded that employers have raised valid concerns about the impact of EU-wide accounting standards such as FRS17. He suggests that these standards distort company accounts, as enterprises must show current pensions liabilities even though these costs may not have to be paid for 30 years.

Mr Shanahan argues that employers and employees could ‘get the best of both worlds’ by implementing a hybrid scheme combining the most beneficial features of DB and DC schemes (IE0610059I, IE0611019I, IE0612029I). About 90% of new employees in the financial services sector were able to avail of a hybrid scheme, which provides a defined benefit up to a salary of €62,000 and a defined contribution system after that (IE0705049I). He added: ‘This provides employers with transparency and certainty in their accounts and employees with a level of security of a defined benefit scheme.’

Brian Sheehan, IRN Publishing