Articles - Time to think about how we communicate risk to DB members?

The government’s green paper on security and sustainability raises a number of interesting questions about how we can improve the odds that a member of a defined benefit (DB) pension scheme will receive their full defined benefit at their retirement age. One of the most interesting for me is whether we should communicate the risks that they are exposed to in DB schemes.

 By Dale Critchley, Policy Manager, Aviva

 Many DB scheme members see their benefit as guaranteed. It’s a view that is reinforced by the pensions industry. In its definition of a ‘Defined Benefit Scheme’ the Pension Advisory Service says “your employer guarantees a certain amount of pension each year when you retire”. It is only recently that the term “safeguarded” benefits has come into use, a term few outside of the pension industry understand. Ask most people and I would guess that they equate DB schemes as having no risk at all.

 Industry articles will talk about a transfer of investment and longevity risk from the DB schemes to the individual on a DB to DC (Defined Contribution) transfer. This at least recognises that risk exists, but it may be helpful if members were made aware that there is risk regardless of whether they transfer. Ultimately it is their future income on the line if the risks in DB schemes cannot be managed and assets cannot match liabilities.

 Referring to Defined Benefits as “promised” might help. “Guaranteed“ could be reserved for that proportion of benefits secured under the Pension Protection Fund (PPF), although the term “guaranteed” is perhaps overstating matters here as well. Members should then be encouraged to focus on how much they trust their pension promise. The current funding position, the recovery plan, the strength of the employer covenant and the views of the Trustees assume far greater prominence if members realise that at least 10% of their pension income, and perhaps a lot more, could be at risk.

 Ideally some indication of where the risk is sitting would be useful. Reduced investment risk has led to a greater proportion of the risk sitting with the sponsoring employer. How many individuals in DB schemes realise that their future income, not just the income they receive today, is predicated on the continued profitability of their employer? If they did, would it incentivise employees to care more about the performance of the company they work for?

 We have to be careful of course that this spoonful of truth does not prompt knee jerk reactions and hasty decision making. We cannot present a binary position based on a Statutory Funding Objective creating the impression that everything in excess of PPF limits is at risk. The Trustees’ words around any numbers will be crucial in setting the scene and providing the guidance members need to make good decisions about their options, in possession of all of the facts.

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