Chapter 7 - Scheme Design - Specific Features

Question 1

What are the main features of scheme design?

Answer 1

Eligibility;
NRA;
Benefits at NRA;
Death benefits;
Pension increases;
Withdrawal;
Ill health;
Contracting out.

Question 2

What balance needs to be struck by eligibility criteria?

Answer 2

A balance between criteria:

• so wide they can expose the scheme to disproportionate administration costs associated with high numbers of early leavers;
• so restrictive that they do not meet the wider objectives of the employer.

Question 3

List four typical conditions for entry.

Answer 3

Minimum service;
Minimum age;
Maximum age;
Permanent or temporary employment status.

Question 4

Why do most employers now have minimal eligibility criteria?

Answer 4

To avoid the need to provide stakeholder schemes for non eligible employees and to meet the auto-enrolment requirements.

Question 5

What are the auto-enrolment eligibility criteria?

Answer 5

All job holders aged between 22 and SPA who earn over £9,440 p.a. must be automatically enrolled into a qualifying scheme.

Question 6

Why are minimum service periods common?

Answer 6

To avoid the costs associated with early leavers.

Question 7

What do minimum/maximum ages achieve?

Answer 7

Minimum - consistent with scheme’s target retirement benefit and to avoid early leaver costs;
Maximum - prevents older employees joining purely to take advantage of death / ill=health benefits.

Question 8

Employment law says scheme entry cannot discriminate between who?

Answer 8

Males and females;
Part time and full time employees;
Ages (with exceptions).

Question 9

When did age discrimination legislation come into force?

Answer 9

1 December 2006, applying to occupational pension schemes and employer contributions to personal pensions.

Question 10

What exceptions exist to age discrimination legislation?

Answer 10

New (younger) employees can be offered a different pension arrangement to older employees;
Age based contributions are allowed if they aim to produce equal benefits overall;
Minimum and maximum age limits can apply if they can be ‘objectively justified’.

Question 11

If age discrimination exists what options does the employer have?

Answer 11

Retain the rule and ‘objectively justify’ it;
Amend the rule;
Remove the rule.

Question 12

What is objective justification?

Answer 12

The rules pursues a legitimate aim and is a proportionate means of pursuing that aim.

Question 13

What are examples of legitimate aims?

Answer 13

Business needs, efficiency, reducing staff turnover, providing promotion opportunities to retain quality staff.

Question 14

What factors may be considered when setting the NRA?

Answer 14

SPA;
Employee contracts;
Other company terms;
Type of employment;
Type of member;
Manpower planning;
Employee aims;
Time to build up adequate provision;
Period of payment.

Question 15

What restrictions are placed on the NRA?

Answer 15

Can not differ for males and females;
Can not compel employees to retire at a predetermined age;
Minimum retirement age is 55 (with exceptions);
There are rules on how a pension must be provided after age 75.

Question 16

How are benefits from a DB scheme usually expressed?

Answer 16

Accrual x Pensionable Service x Final Pensionable Earnings.

Question 17

What is a common accrual rate and why?

Answer 17

60ths as it targets a pension of 2/3rds of FPE over a 40 year career (the maximum under the old regime).

Question 18

What factors need to be considered when determining PE?

Answer 18

Whether to include fluctuating elements of pay;
Whether to include benefits in kind;
What time period to use;
What averaging period to use;
Whether to restrict PE in some way;
Whether to incorporate deductibles e.g. to allow for the BSP.

Question 19

List the methods of integration with state benefits.

Answer 19

Contract out of the state benefit;
Knock off the state benefit from the total pension at retirement (difficult as very member specific!);
As above but deduct a proxy for the state benefit that accrues during membership of the scheme;
Apply a deduction to the PE definition;
Reduce the accrual rate;
Some combination of the above.

Question 20

What is the problem with integration with the state benefits?

Answer 20

The risk of changes to the state benefit or SPA.

Question 21

When might integration with the state benefits not work?

Answer 21

On other modes of exit than retirement.

Question 22

What are the considerations for a spouses pension on DAR?

Answer 22

Percentage of pension;
Pre or post commutation;
Young spouse reduction;
Children’s pensions that might be payable;
Guarantees that might apply (and how these will be paid - lump sum?).

Question 23

What need to be considered together when designing benefits on DIS?

Answer 23

The lump sum and the pension benefits..

Question 24

What is a common lump sum amount on DIS?

Answer 24

2 to 4 x salary plus a ROC with interest

Question 25

What salary is usually used for the DIS LS?

Answer 25

Offset free earnings, as there is no state lump sum payable on death and so nothing to integrate with.

Question 26

Who might receive a higher multiple of salary on DIS?

Answer 26

Executives, married members and members with children.

Question 27

What options are there for the DIS pension?

Answer 27

Percentage of prospective pension;
Percentage of salary;
Percentage of accrued pension.

Question 28

What is the problem with the DIS pension being a percentage of accrued pension?

Answer 28

It is very low for young members, when financial need is greatest.

Question 29

What is the problem with the DIS pension being a percentage of salary?

Answer 29

Smoothing either side of retirement.

Question 30

Which DIS pension is usually preferred and why?

Answer 30

Percentage of accrued pension - it is cheaper and for older members should be broadly equivalent to the other two methods.

Question 31

How is the state pension allowed for in DIS pensions?

Answer 31

Usually the integration used for the member’s retirement pension is taken as being appropriate.

Question 32

What link must exist between DIS and DAR benefits?

Answer 32

They should be consistent.

Question 33

For a DC scheme, what DIS pension is usually offered?

Answer 33

A DB benefit to provide more protection, e.g. a multiple of earnings lump sum, plus a ROC, plus a pension equal to a percentage of salary.

Question 34

What are the statutory pension increases for a DB scheme?

Answer 34

Post 05 pensions - LPI 2.5%
Post 97 pensions - LPI 5%
Pre 97 XS pensions - nil
Post 88 GMP - CPI 3%

Question 35

Are there any restrictions on the pension increases provided by a DC scheme?

Answer 35

No.

Question 36

What rights do early leavers have?

Answer 36

Less than 3 months, less than 2 years - ROC;
Over 3 months, less than 2 years - TV or ROC;
Over 2 years; deferred pension of TV.

Question 37

Why might the ROC be reduced?

Answer 37

To reflect the CEP payable to reinstate the employee back into the state scheme for the period of membership where they had previously been contracted out.

Question 38

For a leaver with a deferred pension, what principle must apply?

Answer 38

The principle of uniform accrual (only has an impact of accrual is not uniform).

Question 39

What are the current statutory pension increase requirements for early leavers of DB schemes?

Answer 39

Post 10 pensions - CPI 2.5%;
Pre 10 XS pensions - CPI 5%;
GMPs - fixed rates or earnings.

Question 40

What preferential terms may be given to individuals retiring early on grounds of ill health?

Answer 40

Allowance for potential service up to NRA;

No actuarial reduction.

Question 41

What might be provided as an alternative to ill health benefits?

Answer 41

Income protection via the company (usually insured with a life office).

Question 42

If income protection is provided, what happens to scheme membership?

Answer 42

It is not affected (so employers usually insure contributions payable during the period of illness).

Question 43

What are the employer advantages of contracting out?

Answer 43

Easier to target overall benefits;
When introduced most scheme benefits were already sufficient so there was immediate financial gain;
Reduction in NI contributions was independent of age until 1997 so VFM was achieved if the average age was low;
The decision could later be reversed if the average age increased or the NI reduction reduced;
Post 1997 the employer can choose a benefit level to its financial advantage (as long as it meets the RST).

Question 44

What are the employer disadvantages of contracting out?

Answer 44

NI rebates may reduce in the future;
Cost of providing the benefits may increase in the future;
Complicated administration;
Uncertainty surrounding S2P in the future.

Question 45

What are the employee advantages of contracting out?

Answer 45

Scheme contributions are subject to tax relief, NI contributions are not.

Question 46

What are the employee disadvantages of contracting out?

Answer 46

Benefits are compared against the LTA (S2P would not be);

Benefits may be lower than if individual contracted out via a personal arrangement.