A review of the options available to final salary pension scheme employers to reduce costs going forward

Liability reduction exercises are becoming increasingly popular among employers seeking to exert control over exposure to their final salary pension schemes.

Worsening deficits, and statutory intervention enabling trustees to apply more pressure on employers to support their final salary schemes, have focused attention. Such exercises seek to reduce pension scheme liabilities and the associated financial risks of supporting those.

However, before an employer embarks on any such exercise, there are a number of preliminary considerations that will require to be dealt with.

Employers should take appropriate independent legal, actuarial and financial advice to ensure that any strategy has a sound legal basis and will deliver the intended results. It is also highly advisable from the outset that they engage the scheme trustees in discussing such proposals.

Cost options

There are many different types of liability reduction measures which can be used as a stand-alone exercise or in conjunction with others. The most common are:

  • Cessation of accrual, i.e. the closure of the scheme, either just to new members or both to new members and accrual.
  • Move away from final salary basis. The most common moves are: (1) to benefits calculated by reference to revalued earnings, i.e. a Career Average Revalued Earnings (CARE) scheme. In calculating the pension, the earnings in each year of employment are taken into account and an average of all of them is calculated; or (2) to a money purchase or defined contribution scheme where a given percentage of “pay” is contributed.
  • Reduction of the rate at which deferred pensions arising from future accrual increase up to retirement, to the statutory minimum.
  • Reduction of the rate at which pensions in payment increase, to the statutory minimum.
  • Pension increase exchange – this would involve the swapping of future increases for a higher starting pension.
  • Enhanced transfer value exercise – this involves incentivising deferred members to transfer their benefits to another pension arrangement. This could take the form of a reminder that they have a statutory right to transfer, or extend as far as offering them a higher than normal transfer value and/or a cash incentive.

Legal advice should be taken to ensure that all relevant legislative and scheme provisions are complied with. Actuarial and financial advice is essential to ensure that any proposed reduction exercise would in fact result in significant cost savings to the scheme/employer.

In addition, cognisance should be taken of the Pension Regulator’s Guidance on Inducement Offers, particularly in relation to any enhanced transfer value exercises.

Necessary steps: Amendment powers

Several of the options outlined above are likely to require amendment of the scheme’s trust documentation.

Depending on the scheme’s amendment power, trustee consent may be required.

Section 67 of the Pensions Act 1995 effectively prevents amendments being made which would or might adversely affect any entitlement or accrued rights of members, unless prescribed requirements are met (including in certain cases member consent).

The section sets out various procedural steps that require to be taken and completed depending on the type of amendment.


Under the Pensions Act 2004 (as amended) and related legislation, there is a requirement to consult active and prospective members on proposals to make certain changes to the affected members’ pension arrangements. Relevant changes for those purposes include (a) closing the scheme to new members,

(b) increasing normal retirement ages, (c) reducing the rate of future accrual, and (d) changes to pensionable earnings in scheme rules.

Consultation must take place in a prescribed way before any decision (or series of decisions) to make changes is made.

Contractual considerations

Contracts for all scheme members should be reviewed in order to ascertain what pension provision they contain. Consideration will need to be given as to whether any of the changes could result in a breach of contract.

To conclude, a well thought-out liability reduction programme can reduce financial risks of employers to defined benefit pension schemes. However, before implementing such an exercise, employers should:

  • take legal/actuarial/financial advice to assess feasibility and the costs and benefits of such an action;
  • involve the scheme trustees to gain their support and to negotiate as appropriate;
  • consult with scheme members as appropriate; and
  • be aware and take cognisance of the Pension Regulator’s Guidance on Inducement Offers.

Mairi Black is an associate with Biggart Baillie LLP

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