Date:

Abolition of contracting out for defined benefit schemes

The draft Finance Bill 2013 has confirmed that contracting out by defined benefit schemes will be abolished when the new single tier state pension is brought into effect (expected to be April 2016).

This will have an impact on defined benefit schemes that have been contracted out as they will lose the benefit of National Insurance rebates and be required to start paying standard National Insurance contributions in relation to each member. The White Paper introducing the single tier state pension states that this could amount to an increase in contributions required to a typical scheme of around 3.4% of relevant earnings in relation to each employee.

In order to “safeguard the ongoing viability of defined benefit pension schemes” it was decided that a power be introduced through legislation to allow employers to amend a scheme’s rules by reducing future benefits or increasing employee contribution rates in order to offset the impact of these increased costs. 

In respect of the fact that many schemes will require trustee consent in order to effect an amendment of this type the power will allow the employer to make this change without trustee consent regardless of what is set out in the amendment power of the scheme.

This power will be available for a limited period of time and will only allow an amendment to be made insofar as: 

  • It does not increase employee contributions in excess of the annual increase in the employer’s National Insurance contributions in respect of that member.
  • It does not reduce the amount by which a member’s benefits accrue on an annual basis by more than the annual increase in the employer’s National Insurance contributions in respect of that member.
  • The sum of any increase in employee contributions and reduction in benefits does not amount to more than the annual increase in the employer’s National Insurance contributions in respect of that member.

Although this is a long way in the future and draft regulations are expected to set out more detail on the use of the power it should be on the radar as it represents a departure from the usual method of amendment for many schemes and this will require to be carefully monitored to ensure that any amendment is carried out in compliance with the legislation in order to be effective.

This information is intended as a general discussion surrounding the topics covered and is for guidance purposes only. It does not constitute legal advice and should not be regarded as a substitute for taking legal advice. DWF is not responsible for any activity undertaken based on this information.