Employer Folds: Defined Benefit Pension Schemes

Published / Last Updated on 08/09/2022

There are many businesses that are struggling with increased costs of materials, goods, services, wage demands and inflation in general.  During the coming recession, many businesses will fail.

We are tackling the question that sadly some of our clients will ask over the coming years:

“What happens to my defined benefit company pension if my employer goes ‘bust’ i.e., insolvent and is being liquidated i.e., closed down and wound up?”

Your employer is usually required to offer a workplace pension unless there are no qualifying employees.  There are two types of pensions and we have produced three videos this week to help you understand what happens to your pension if your employer fails:

1.  ER Folds DC Scheme Video 1 – Defined Contribution Pension Schemes

Video 2 – this video – Defined Benefit Schemes

3.  Er Folds DB Deficit Video 3 – Defined Benefit Schemes when the scheme is in deficit and there is not enough money in the business to cover the liabilities.

Defined Benefit Schemes

These are pension schemes usually with a guaranteed annuity income, lump sum, and inflation increases built into them such as:

  • Final Salary Scheme
  • Career Average Salary Scheme
  • Hybrid schemes that are investment linked but have an underpin guarantee of a guaranteed pension income
  • Guaranteed Minimum Pensions

Your guaranteed pension income and lump sum is usually linked to:

  • Your final salary.
  • Your career average salary.
  • A fraction of your salary e.g., 1/45th, 1/60th.  1/80th for each year that you have been a member of the pension scheme.
  • E.g., 1/60th final salary scheme.  You have been an employer and pension scheme member for 40 years, you will 40 X 1/60ths i.e., 40/60ths = 2/3rds of your final salary as a pension or you can reduce your guaranteed pension income to take a lump sum too.

Compensation and Protection

A defined benefit pension scheme is sponsored and guaranteed by your employer.  If you employer becomes insolvent, your defined benefits are the responsibility of your employer to cover your accrued pension benefits to date.

Unlike a defined contribution scheme, where the pension fund is with a separate firm, a defined benefit is usually in trust with the employer responsible and if they fail, your scheme fails too.  It is up to your employer to cover any liabilities.  If there is not enough money in the pension fund i.e., it is in deficit and if there is not enough money in the business to pay the liabilities, the Pension Protection Fund (PPF) will take over and protect you.

Priority on Wind-Up Defined Benefit Scheme

Who comes first?

  • Pension annuities that are already in payment for pre-April 1997 service.
  • All other pension benefits.
  • Additional Voluntary Contributions (AVCs) if they were used to buy ‘additional years’ (i.e., not investment linked defined contribution AVCs).
  • Any other benefits.

Pension Protection Fund (PPF) Compensation

If, there is not enough money in the business to cover pension liabilities, in priority order above, the PPF https://www.ppf.co.uk/ will take over and compensate you as follows:

If you are already passed the Normal Retirement Age (NRA) of the scheme e.g., age 65

  • 100% of your pension scheme will be protected for Pension annuity income in payment for you and pension annuity income in payment for your surviving spouse, civil partner or children (if they were due a survivor’s pension).
  • 100% is protected if you are below the NRA but you were forced to take ill health early retirement.

If you are below the Normal Retirement Age (NRA) of the scheme

  • 90% of your pension scheme benefits are protected until you reach normal retirement age.

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