It is a simple message: pay what you can into a pension scheme while you work and you will have a decent income in retirement. And we’ve bought it, between us saving more than a trillion pounds in pension funds. But it may be a lie. There is growing evidence that Britain’s pensions industry is in peril. Faced with a weak stock market and low interest rates many schemes could be unable to pay the pensions they have promised. And millions of people who have followed the advice of successive governments could find themselves hard up in retirement.
The best company schemes promise a pension every year which is a fixed proportion of your salary when you retire. Typically for each year you pay in you will get a pension of 1.25% of your pay. So after 40 years you will get a pension of half your salary, paid for life, guaranteed. When the stock market was rising strongly, many employers stopped paying into the schemes believing their fund was big enough already to pay out the promised pensions. But over the last 12 months the value of shares has fallen by nearly a fifth and that has left some pension funds perilously short of money. If the fund cannot pay the promised pensions, then the employer has to honour the guarantee. And that large and open-ended commitment could tip some companies into bankruptcy – end of guarantee.
People who pay into the other sort of company scheme are in an even worse position. They have no guarantees – the pension contributions are simply saved up in a fund and when they retire they have to turn those savings into a pension. They are being hit by a double whammy. First, the weak stock market means their pension fund is no longer growing as expected – if at all. Second, when they retire the government makes them use most of their fund to buy what is called an annuity – a guaranteed income for life. But they offer very poor value. For a fund of £100,000 even the best annuity will pay a man of 65 less than £6700 a year index-linked for life – twenty years ago the same fund would have bought him nearly twice that income. And with interest rates falling, annuities are likely to pay out even less to future pensioners.
Company pensions have been called the great welfare success of the twentieth century. That claim may ring hollow to the pensioners of the twenty-first. This week Radio 4 will ask why the promises we were made are turning to dust, who got it wrong, and what we can do about it.
Paul Lewis presents Pensions in Peril, a Money Box Special, Radio 4 Monday 26 November at 8pm.
24 November 2001
e-mail Paul Lewis on paul@paullewis.co.uk