The Department for Work and Pensions (DWP) has outlined the general workings of its three favoured DB-lite defined ambition models to encourage risk sharing within the industry.

Speaking at a National Association of Pension Funds (NAPF) regulation conference, DWP head of private pension policy Bridget Micklem stated that the first option would be a ‘flexi-age DB’ model. This model would give the sponsoring employer the option to adjust its schemes normal pension age to take into account revised longevity assumptions. Micklem said: “This would allow employers to limit their exposure to longevity risk, so we are exploring having an objective life expectancy index prepared that schemes could use to amend their pension ages on all accruals made under the new defined ambition pension.”

The second model is ‘DB and fluctuating pensions’. Under this model employees would be able to provide a slimmed down DB pension where indexation for future accruals would be discretionary and they would no longer be required to provide spouse benefits. Employers could choose to provide additional benefits above the core level but these could fluctuate in payment depending on the financial health of the scheme at the time. This type of model would require legislative changes particularly to remove mandatory indexation.

The third option being explored by the DWP that Micklem stated could be the most “challenging” is the conversion model which starts off DB but converts to DC when the member leaves employment. Micklem commented: “Under this model pension rights accrue on cash balance or DB style methodology and the employer takes the investment risk of the employees working for them. But when the employee leaves, retires or dies the pension amount is crystallised, so for those leaving it converts into an equivalent DC fund and for those retiring the employer can convert the benefit to an equivalent cash amount that is then used to secure an annuity or can pay their members pension benefits directly from the scheme as per the current process.”

She added that the attraction for this conversion model is that it keeps employers exposure in line with the size of the current workforce. However Micklem did emphasise that there are conceptual issues surrounding this model such as “is it actually acceptable for those who reach retirement age working for the same firm all the way through to never actually receiving a defined benefit pension, and instead having their accrued amount transferred out of the scheme to buy an annuity.”

All three models are currently being looked at in more depth and also the legislative changes that would be needed to make them a reality. Micklem concluded by stating that the DWP is open to having a new regulatory regime for defined ambition that would provide a framework for greater risk sharing and flexibility to employers. A paper on the DA proposals will be published in the summer.

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