7. Even though our pension fund is now closed, surely we needn't worry about our pensions provided the fund has met the Minimum Funding Requirement?
Unfortunately this was never the case. To understand why, one first has to examine the several different valuations of a pension fund undertaken by the actuaries:
1) Minimum Funding Requirement Valuation. This was a statutory basis prescribed by the 1995 Pensions Act to check that schemes have adequate assets to meet their fixed commitments at any point in time. It assumes a scheme will continue and hence the calculations are carried out using long-term assumptions. It does not usually include any discretionary benefits. However the Institute of Actuaries said: "there is a large and worrying gap between the level of security which the MFR test actually delivers and the public's perception of what it will deliver". Nevertheless the government actually decreased the MFR by up to 19% in June 1998 and again by a further 8% in March, 2002, apparently as a result of pressure from from the NAPF to provide some compensation for the loss of the tax credit income - the so-called £5 billion raid by the Chancellor on pension funds introduced in 1997. By 2004, the MFR funding requirement typically covered no more than ˜50% of the guaranteed liabilities.
Recent cases ( e g Allied Steel & Wire , United Steel Forgings, Sea-Land) have clearly demonstrated that the MFR was definitely not adequate to provide protection if the scheme was wound up. And it was not only insolvent companies that had their pension funds wound up as the recent case of the Maersk owned Sea-Land company illustrated.
2) The Inland Revenue Valuation. This too was a statutory basis aimed at ensuring companies don't use pension funds as tax havens by oversubscribing. The basis is very prudent as the regulators only want schemes to fail the test if they are grossly overfunded. Discretionary benefits can be included to avoid exceeding the 105% of the MFR rule. Even if this rule is broken, quite a long time is allowed to reverse the situation anyway. The Inland Revenue has revealed that out of over 100,000 pension schemes only 20 have ever been taxed on their surplus so employers who claim that they had to "use it or lose it" were clearly either deliberately misleading the fund members or just misinformed. (Remember that in the early '90s our employer dispersed £215M of "surplus" over the MFR mostly by awarding itself a "pensions' contribution holiday" without providing any additional benefits to pensioners.)
3) The Discontinuance Valuation. This assumes the wind up of the scheme with benefits secured by annuities from an insurance company which currently are very expensive. However, this valuation does show the 'bottom line'.
4) The Ongoing Valuation. Our actuarial advisor writes that a company can use any basis it chooses here so the details of any resulting figures need to be analysed quite carefully by someone with suitable expertise.
In the event of any pension scheme being wound up, after meeting the expenses of the process, the remaining assets were distributed as laid down in the Pensions Act 1995.
In simple terms, the order of priority is:
- pensions in payment,
- then contracted out liabilities and future increases to which the pensioners are entitled
- non contracted out accrued benefits for non pensioners, including entitlements to future increases
This priority order provided:
- full protection for pensions in payment and future non discretionary increases attaching to those pensions
- "reasonable expectations" for the benefits for non pensioners.
However, following the 2004 Pensions Act which replaced the MFR with a Scheme Specific Funding Requirement there is a change in the priorities on winding up (with effect from 6 April 2007). From that date, after meeting expenses, the order of priority is:
- firstly, level pensions in payment, with no future increases
- secondly, level amounts of accrued benefits, with no future increases
- thirdly, the increases on both pensions in payment and accrued benefits
After April 2007 this would then provide:
- 100% of level pensions in payment for pensioners, but with no future increases
- 100% of level amounts of accrued benefits for non pensioners, with no future increases
- a proportion, equal to less than 100%, of the future increases to which pensioners and non pensions are entitled.