Pension schemes: clear as mud

A large part of the age discrimination regulations coming into force on 1
October relates to pension schemes or, more specifically, to the exemptions that
pension arrangements enjoy. Thankfully, final salary pension schemes can pretty
much carry on as they were.

The position is not that simple for defined contribution (DC or money
purchase) arrangements, however. True, they also have some exemptions, but the
main one, that of allowing the payment of different contributions at different
ages, is far from clear.

Now because of the wonders of compound interest, tempered by the rigours of
inflation, the payment of a pension contribution for a 20-year-old could buy a
benefit, at age 65, worth, in present-day terms, more than six times that of the
payment of the same amount for a 64-year-old. Therefore, the regulations allow
higher contributions by older employees to offset this difference.

But the regulations require any age-related contributions to ‘equalise’ the
eventual benefit. The only way to achieve this is to pay different levels of
contributions at every age, which would mean 49 tiers between age 16 and 65.
Since I can hear all payroll departments and pensions administrators gasp in
horror, I’ll confirm that I don’t believe this is practical.

The regulations do offer a second option. Age-related contributions are also
allowable if the eventual benefits for members of different ages are ‘more
nearly equal’. But what does this mean? Could it mean that two tiers are OK?
Possibly, but surely this was not what they intended. So how many tiers would be
acceptable? Five? Ten? 20?

The DTI has helpfully suggested that an arrangement of ten tiers should meet
the regulations – but this is far from definitive.

So what should DC schemes with age-related structures do to ensure that they
don’t fall foul of the regulations? The answer is that we can’t be absolutely

Now this is no academic exercise. Our recent DC survey showed that around 20%
of schemes have age-related contributions, and many of them are not likely to
have many more than five tiers.

In addition, many of these structures were put in place when DC schemes
replaced final salary schemes, so any further changes are likely to be

All of this hardly helps the government’s supposed drive to simplify the
running of pension schemes. Therefore, we are calling on them to urgently
clarify these regulations before they are introduced, to avoid further
uncertainty in the world of pensions.

Paul Macro is head of DC propositions at Aon Consulting

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