The abolishment of contracting out for DC schemes and the removal of all restrictions surrounding protected rights on 6 April 2012 will have a number of implications for DC schemes, their sponsoring employers and trustees, Punter Southall said.

Contracting out on a DC basis first became possible in 1988, but in 2005 the Pensions Commission recommended to remove it, due to the difficulty of setting the NI rebates at an appropriate level, the complexity contracting out creates, and a lack of member understanding.

From 6 April 2012 onwards, NI contributions will revert to standard rates and the rebates from HMRC will cease, Punter Southall said, meaning that contributions into DC schemes will reduce, with a corresponding reduction in the rate at which funds accumulate, resulting in smaller annuities at retirement. However, the additional benefits members will accrue under S2P may be greater than the reduction in benefits accrued within the DC scheme.

Punter Southall said employers may want to review contributions to ensure target benefit levels remain appropriate and that they will be able to meet the requirements for auto-enrolment in October 2012.

Requirements regarding protected rights will also disappear from 6 April 2012, providing members with more flexibility. In a briefing note, Punter Southall explained: “However, where scheme rules have incorporated the protected rights requirements (rather than simply referring to the relevant legislation), trustees will need to change the rules in order to take advantage of this simplification.

“The Department for Work and Pensions (DWP) has recently published draft regulations that would provide a modification power to enable trustees to amend scheme rules in this way without needing to consider ‘section 67’ issues, but there will only be a three year window (before 6 April 2015) to do this and the proposed power might not be sufficient to amend the wording relating to protected rights in all scheme rules.”

There will be a three year transitional period up to 5 April 2015 to allow for the payment of the final year’s rebates and the late payment or recovery of recalculated rebates due to adjustments to individuals’ NI records.

Trustees are obliged to inform members within a month of the changes that the scheme is no longer contracted out, and they will have a period of four months to inform members of the effect on the additional state pension and on accrued scheme benefits.

Punter Southall added that the situation is more complicated for DB schemes which are contracted out on a DC basis. There are several options available to sponsoring employers, but as it is such a complex area, Punter Southall recommends employers and trustees with such schemes to speak to their advisers.

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