Information which would enable members to make an informed decision
a) Information required on structure
1. Examples should be given or a calculator provided. Members should be able to see or calculate their lump sums and rates of return based on their age at entry, expectation of salary increase, inflation and length of service. This would give the results shown above and in the attached table and An Uncertain Future. It would not be a difficult calculator to set up and would enable members to understand the fund.
2. The current example in the latest explanatory brochure, of two members aged 45, should be changed. Currently the example is for two 45 year olds with salary growth of 5% and using the old averaging formula. The only decision that can be made is to stay or move to accumulation and it is unlikely that the members making this decision would be 45 so examples of a 25 year old and 35 year old with salary growth of 3.5% as well as 5% and under the new formulae would be more suitable.
Some dramatically different results from this single example are as follows:
Current example shows 45 year old 2% better off in DBD than Accumulation.
However under new averaging with 3.5% salary growth rather than 5%, the 45 year old member would be 13 % worse off.
For a 25 year old under the new averaging and with 3.5% salary growth, the member would have been 29 % worse off in DBD than in Accumulation
Surely other examples should have been given. It is up to you to judge whether the example in the brochure is trying to manage the risk that only those advantaged by the fund structure will stay in the DBD or by using only an example of an advantaged member is misleading. It is acknowledged that the small print states that other ages and salary rates would give different answers.
b) Information required on risks
As the fund is NOT guaranteed the member must make a judgment as to the likelihood of further benefit reductions. Currently, only information on the VBI and Accrued Benefit Index (ABI) are supplied but no details on why the changes in these have taken place.
Detailed below is the information not currently provided but required to make an informed judgment.
- What investment return would be required to maintain the DBD fund at 100% vested based on the current actuarial assumptions? How has the DBD fund performed on a 5 year moving average basis over the last 10 years?
This is to enable a member to make a judgement about the investment risk
- What are the actuarial assumptions for
- Salary growth
- Death and disability benefits?
- What has been the result of the 5 year moving average of actual experience over the last 10 years in each of these areas? What is the impact on the VBI of a 15% change in these assumptions, all other things being equal?
- This to enable the member to make a judgement on how realistic are the assumptions and what would be the problem if the assumptions are not correct.
- What is the number of members eligible to take out indexed pensions, how many are assumed to take them out in the next 10 years, how many actually took them out in each of the last 10 years?
- What is the number of members who joined the fund each year in the last five years and how many stayed in the DBD? What is the assumed number joining and staying according to actuarial assumption?
- What would be required investment return over the next 10 years to remain at 100% vested if no members stayed in the DBD division? This is important to know, for if the fund was at some stage closed to new members, would it increase the risk of further benefit reductions?
- What is the cost structure of the DBD? Any increase in costs in the management of the funds comes off the DBD balances to pay benefits, so the costs as a % of funds being managed for DBD alone and the profitability of the Management Company, should be disclosed to the member. This data should be disclosed over the last five years and the assumptions over the next 5 years.
It is important for the members to judge if the management are doing a cost effective job in ensuring benefits can be met.
Just providing the members with a VBI and ABI is treating them as if the fund is guaranteed and the commentary tends to infer that the risks are all being managed without any supporting data.
Until this information is provided the members should be given the opportunity to transfer to the accumulation fund.
Continue on to read Part 4 of this report – actions that can be taken
The material in this paper is of the nature of general comment only and does not represent professional advice. It is not intended to provide specific guidance for particular circumstances and it should not be relied on as the basis for any decision to take action or not take action on any matter that it covers. Members especially older members close to retirement who need to preserve their benefits for retirement and should not be taking significant risks with those funds, should obtain appropriate professional advice before making any such decision. To the maximum extent permitted by law, the author disclaims all responsibility and liability to any person, arising directly or indirectly from any person taking or not taking action based on the information in this paper.