- Helping members of occupational pension schemes to better understand their benefits.

21st May 2019
:: Scheme Member | My Personal Circumstances | Security and Risk | Active members of a DB scheme

Security and Risk – Active Members
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There is a degree of risk in all aspects of life and everything you do, and this is especially true of your pension benefits. There is no such thing as ‘no risk’ and no such thing as an absolute guarantee.
It is essential that you understand the main issues associated with security and risk, as they will affect YOU and your dependants, and your retirement planning. This Factsheet is designed to make you think about the various issues associated with security and risk, WHY these occur and HOW these could have a bearing upon your pension benefits.
Some of the points are more obvious than others, but they are all important.
If you are intending to get advice from a Financial Adviser these are some of the things you should be discussing with them.
Security of your employment (risk of tenure)
The suggestion of a ‘job for life’ now seems to be an unrealistic ideal. Businesses are constantly changing and most employment sectors, from manufacturing to finance, retail to transport have suffered large scale redundancies. Even with the same employer, change is now the norm and unless we as individuals are able to respond to these changes, we will have to move from one employer to another.
Job security has an important effect upon your retirement provision – particularly where you are currently an active member of a defined benefit scheme.
Your pension benefit will depend upon the length of your pensionable service that you are credited with as an active member of the scheme (which can be counted in the number of years, months or days). The more secure your job – the better your prospects of achieving your expected pension at retirement.
Security of your employer (covenant risk)
It is important that your employer can afford to pay its contribution to fund the cost of benefits. This commitment can last many years, to ensure all benefits are paid to members, and to their dependants.
There may be a number of reasons why an employer makes employees redundant. It may be part of a profit-driven exercise to improve efficiency. However, a redundancy program might be part of a steady downsizing of the business because of trading difficulties. Where the employer only pays the minimum redundancy payment, this could be an indication about the company’s financial situation and its continuing ability to support the pension scheme.
For members of Public Sector schemes (such as NHS, Teachers, Local Government etc.) whose pension benefits are paid in part by general taxation, the covenant risk is substituted for political risk and the reliance on Government to maintain pension benefits that have been earned and promised.
For more information, see our Quicknote The effect on the employer covenant.
Increasing life expectancy (mortality risk)
We’re living longer – and that’s a fact. But it’s not all good news. With longer life expectancy come greater costs:
  • Pension schemes are facing paying pensions out for much longer than they had originally planned.
  • Employers are being asked to pay extra contributions to fund these additional costs.
The longer this trend continues, the more expensive pensions will become in terms of providing the actual pension income at retirement. The implications of living longer are something employers, schemes, members, government and society must all face up to.
Greater life expectancy will also mean an increase in State Pension Age which has historically been 65 for males and 60 for females. From 6th April 2010 over a 10-year period, State Pension Age for women will gradually increase to age 65:
  • Women born before 6th April 1950 are not affected by the change.
  • Women born between 6th April 1950 and 5th April 1955 will have a State Pension Age which gradually rises from 60 to 65 (see Table of State Pension Age).
  • Women born after 5th April 1955 now have a State Pension Age of 65.
So, from 6th April 2020 both men and women will have a State Pension Age of 65.
Under the Pensions Act 2007, the State Pension Age for men and women is to rise gradually over a period of 22 years between 2024 and 2046:
  • The first rise from 65 to 66 will be phased in between 2024 and 2026,
  • The second rise from 66 to 67 will be phased in between 2034 and 2036, and
  • The third rise from 67 to 68 will be phased in between 2044 and 2046
From 6th April 2046 both men and women will have a State Pension Age of 68.
Find out how long your Life Expectancy is. 
Legislation, Regulation and Governments (political risk)
Current and future burdensome legislation and regulation will have an effect on your total pension provision. State Pensions will increase for many in the future but for others, particularly higher earners, they will reduce in real terms.
The increased costs and liabilities of this swathe of legislation and regulation to schemes, sponsoring employers (and taxpayers), particularly over the last 20 years, have had some unintentionally negative effects, including:
  • The closing of significant numbers of pension schemes to new members.
  • The winding up of thousands of occupational pension schemes.
  • The ‘levelling down’ of member benefits to prevent discrimination (where one member is discriminated against another - it is less costly to ‘level down’ to the weakest factor rather than ‘level up’ to the strongest factor).
The irony is that most legislation was intended to improve and protect scheme members’ benefits. This in practice means higher costs for both employees and employers. The impact of these changes has led to thousands of schemes closing or winding up – hardly what was intended.
The creation of The Pensions Regulator was welcomed in many quarters but the levies it imposes on occupational pension schemes are viewed by many as excessive and unfair. This presents still greater costs for employers and is further reason for them to review the benefits they can provide for employees in the scheme.
Political change also includes the risk associated with a change in Government, as political parties have different agendas and priorities. Pensions and security in retirement continue to be a political ‘hot potato’.  
Inflation and interest rates (economic risk)
Inflation and interest rates play an important role in pension provision, and there is a risk element involved with them both. Low inflation and interest rates have increased the value of the pensions payable to members and tended to make schemes less well funded, which reduces member security.
High inflation and interest rates will tend to have the opposite effect as it reduces the spending power of your pension during retirement. Most private sector pension schemes have a ‘cap’ on the pension increases they pay to pensioners, so over the longer term, high inflation would erode the value of your pension. High interest rates reduce the value of members’ benefits but the security to the benefit itself should improve. However, in such situations in the past, politicians have intervened to make schemes provide better inflation protection on benefits.
Market and exchange rates (investment risk)
The security of your pension benefits will rely on market conditions. Private sector pension schemes (and some Public Sector schemes) invest in a wide variety of assets with more schemes investing significant amounts on money in overseas markets. Pension benefits are paid from the employee and employer contributions and from the investment returns on these assets. The higher the return on the assets, the better the security is for members. The value of assets will go up and down along with the confidence that investors have in the world investment markets. Consequently, your security is influenced by market sentiment and exchange rates if some of your scheme’s assets are traded outside the United Kingdom.
In terms of your scheme’s solvency, the skill of the investment manager in dealing with the state of the economy and markets is important. A weak economy or stock market can lead to greater deficits. A strong economy and buoyant investment returns can reduce deficits and increase surpluses. The investment manager can add value in any situation but can only buck the market trends by taking bigger risks.
If the value of the assets exceeds the value of the pensions due to members, then the scheme has a surplus, which means that contributions can be reduced or benefits increased. If, however, the value of pensions is greater than the value of its assets, the scheme is said to be in deficit. The majority of pension schemes are currently in deficit.
Personal circumstances, age, health, income, assets (personal risk)
Your personal circumstances play an important part in your retirement planning:
Age: Your age is important. The closer you are to retirement, the more secure you are likely to want your pension benefits to be. This means that you require less exposure to risk. Conversely, the younger you are, the more speculative you are likely to be, and so not be as concerned about taking a risk.
Health: If you are in good health you will be able to work longer and therefore accumulate more pensionable service than if you are in poor health. The risk of poor health is therefore very important.
Income and assets: The greater your income and assets, the more options you have to plan for a comfortable retirement. The lower your income and assets, the more difficult it will be to secure the standard of living you would like to achieve for your retirement.
Dependants: If you have dependants (e.g. spouse, civil partner, children) your spendable income will probably be lower than a single person without dependants on the same income. This may affect your ability to fund for an adequate retirement or to fund for extra provisions over and above those which your scheme will provide.
These factors are important in a more subtle way. You cannot influence what happens within the scheme, but you may decide to take actions in relation to your scheme benefits to help protect you from some of the risks involved with your scheme membership. Before you take any action in relation to your scheme benefits, you should take financial advice as the benefits payable by your scheme can be very valuable. Your response to the advice will depend greatly on your attitude to risk, discussed in the following section.
Your attitude to risk (financial risk)
In dealing with any of your financial arrangements, you should consider your attitude to security, risk and reward. Each of your arrangements should be classed as a separate item (e.g. pensions, investments). Apart from any State Pension or Social Security benefits, your pension may be the only income you receive when you retire.
As we have mentioned earlier, keeping your pension in your existing occupational pension scheme involves some degree of risk. Likewise transferring your pension rights to another scheme involves risk too. Only a few years ago, being a member of a defined benefit scheme gave great comfort to scheme members. Unfortunately, tens of thousands of scheme members have lost considerable amounts of their retirement provision as a result of their employer ceasing trading, leading to the pension schemes being wound-up with a big deficit.
If you seek financial advice you should be asked what your attitude is to security, risk and reward. Pension and Financial Advisers will usually have standard forms to gather information about you, so that they may advise you according to your personal circumstances.
It is important therefore, that you make certain when discussing your attitude to risk, that you are specific about what this relates to. Your attitude to risk will probably differ when focusing upon your pension provision, compared to your attitude to risk when investing in stock and shares, property, etc. Make sure that the attitude to risk used in any advice process, relates specifically to your retirement provision and planning.
You may be asked to select your ‘risk profile’ from a list. An example would be to pick on a scale of 1 to 5, or 1 to 10 etc., or choosing a sentence such as “My attitude to risk is conservative” or “My attitude to risk is balanced/medium”. When selecting a risk profile from a scale of 1 to 10 for example, make sure you know which is the low risk end of the scale and which is the high risk end – obvious maybe – but important nevertheless.
Be sure to select the one that best fits you – not one you think will impress the adviser. If what you are presented with does not adequately reflect YOU, discuss this with the adviser, and make sure this is carefully noted in his records.
Your attitude to risk will probably change the closer you get to retirement age, as you seek to protect the benefits you have built up.
Re-assess your risk profile from time to time. You maintain your house and car: take time to maintain your retirement provision.
There is no such thing as ‘no risk’ – whatever pension benefit you have there will be some degree of risk attached to it.
Summary and Key Points
When making enquiries about your pension benefit it is very important that you make it clear that you are an active member, rather than a preserved member or a pensioner member. Active, preserved and pensioner are different classes of membership of a pension scheme and any definitions and paragraphs contained within your Scheme Rules or scheme literature relating to any benefit may differ considerably between these categories.
  • Risk comes in many forms – you should consider what risks YOU face in terms of your retirement provision.
  • Is your employment secure? Can you accumulate enough pensionable service to provide you with an adequate pension at the age you want to retire?
  • Do you keep abreast of changes – legislation and regulation may affect your pension benefits?
  • Are you affected by the increase in State Pension Age?
  • Have you considered how your personal circumstances may affect your retirement provision?
  • Keep informed. Your scheme may modify benefits and Rules. Legislation may change. Your circumstances may alter.
This is not an authoritative document. Seek professional advice from an appropriately experienced and qualified adviser.
Security and Risk v1.5 Active
Last reviewed 21/01/2009 
  346 v1.5

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Security and Risk - Active Members
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