Is DB vanishing more quickly than we think?

Figures show the decline of final salary is accelerating

Helen Morrissey
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The rate of DB decline in the FTSE100 appears to be accelerating according to a recent KPMG report. However, Helen Morrissey finds this trend leaves employers with important decisions to make.

At a glance
  • Only 54% of the FTSE 100 are still providing some kind of DB benefit.
  • Average employer contribution to a DC scheme in FTSE 100 is 10% but for those with a closed DB scheme it is more like 13%. 
  • We are likely to see increased use of wrappers such as ISAs as a wider benefits rethink.

The closure of defined benefit (DB) schemes has been a feature of the UK pension landscape for several years. However, recent research from KPMG shows the rate of decline is faster than many may think.

The future of defined benefit pension provision report analyses the FTSE 100 and shows that only five FTSE100 companies now have a DB scheme that is open to new entrants. Seventeen schemes have closed for all employees, including existing members since 2010. Only 54 of the FTSE 100 are still providing some form of DB benefit though several have announced their intentions to close in future.

Based on the rate of closures over the past five years KPMG believes that by 2018 only 38 companies in the FTSE100 will have open DB schemes.

"We believe we have been prudent in our assumptions on the rate of change but should the pace of change increase we could see less than one third of the FTSE100 offering any kind of DB provision within a relatively short period of time," says KPMG's director, head of pensions benefit change, Scott Kendrick. "As recently as 2010 71% of the FTSE100 offered DB so it is a big change. There are several drivers behind this such as increased costs due to low gilt yields and the end of contracting out has also had a big impact."

p16-ftse100-2010-2015-180615

What changes are being made?
Another interesting trend picked up in the report is the nature of changes that companies are choosing to make. Ten years ago companies were more likely to make changes to things like contributions and accrual rates. However, now companies are more likely to close the scheme.

Another popular approach is to introduce a cap to pensionable salary increases. According to Kendrick these are fairly simple to implement via contractual agreements so don't require changes to pension scheme rules. The report says it is unusual to see companies with low pensionable salary caps subsequently closing their schemes with only one example of this in the FTSE100.

"We looked at those companies who had made changes a few years ago and many of them have had to come back a second time and make further tweaks," says Kendrick.

p16-db-scheme-changes-180615

What is next?
So what impact does this increased shift towards DB closure have? According to Kendrick it has sparked a much wider debate around reward as a whole. One trend picked up by the survey is that employers could well look to increase their defined contribution (DC) rates when they have recently closed their DB scheme.

"If you look across the FTSE 100 the average employer contribution is 10% but for those with a closed DB scheme then the average is more like 13%," says Kendrick. "This could be because these employers feel they have solved the issue and want to be a bit more generous with their DC contributions."

We are also likely to see more companies looking to widen their benefit offering by introducing different savings vehicles such as ISAs according to People Powered Performance partner David Fairs: "As the end of contracting out approaches we are seeing more DB closures. Combined with the increasing complexity of pension taxation, this has resulted in more companies beginning to look at wider vehicles for retirement savings, such as ISAs , particularly after the most recent budget changes. Already we are seeing companies combine ISAs and pensions to create a more flexible savings structure for employees."

Kendrick also believes the recently introduced DC retirement income freedoms have done a lot to soften the blow of losing their DB scheme but this also brings new challenges for employers in terms of ensuring members understand the implications.

"There is a lot more discussion around the DC pension freedoms with the big issue being around how to help people manage their financial arrangements," he says. "The problem we have had in the past is with people not being engaged and these freedoms are going to do a lot to improve engagement and we will see companies look to provide more financial education as people really need to understand the options available to them."

KPMG head of DC Solutions Gurmukh Hayre agrees companies are increasingly looking to get value for money from their DC provision.

"The big focus in DC is on improving outcomes for employees. Companies have not gone through the pain of closing their DB scheme to reduce costs, just to throw money at their DC schemes. I am seeing a big increase in companies wanting to understand what they must do to provide a benefit that will be understood and valued by their employees."

So while the trend to DB closure appears to be accelerating it is clear that FTSE100 employers are not looking to wash their hands of their pension responsibilities. In return for the DC scheme employees are likely to benefit from increased contribution rates as well as access to more financial education which can only be a good thing.

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