The main pensions issue which companies face is a financial one — how to fund the pension, especially final salary pension schemes. However, it is unlikely that an SME would run a final salary pension scheme. SMEs usually offer employees either a defined contribution pension or stakeholder pension plan.
It is essential that budgets are set accordingly for the chosen pension scheme to ensure it is affordable. SMEs must, as far as possible, accurately predict how many employees will join the pension scheme. If this is underestimated then it can become unaffordable and impact on the company’s bottom line.
One way of mitigating the cost of a pension scheme is through salary sacrifice, otherwise known as ‘Smart Pensions’. This involves the employer paying into the pension on behalf of the employee and the employee then sacrificing a percentage of their salary rather than making a contribution to the pension. The main advantage of this is that the sacrificed part of the salary is free from tax and National Insurance deductions.
When implementing any pension scheme, an important but often neglected consideration is the communication of the pension scheme to employees. This can be done through face-to-face briefings, newsletters or group announcements, as long as it is done in an informative and timely fashion.
Organisations without a pension scheme may be saving money now, however in 2012 personal accounts will be introduced and all companies will have to offer to pay pension contributions for their employees.
The impact of this is potentially huge. Employees will be able to opt out rather than having to opt in, and with an estimated 85 per cent take up rate this could easily become an unavoidable cost to the business.
It is recommended that companies, especially SMEs, start to plan ahead now for this change in the law so that the costs can be built into the overall cost structure of the business in time to meet the legal pension requirements in 2012.
PES’ Guide to Pensions for SMEs
Final salary or defined benefit — This plan is determined by a formula that can incorporate the employee's pay, years of employment, age at retirement and various other factors. The cost of a defined benefit plan is very low for a young workforce, but extremely high for an older workforce. This age bias, the difficulty of portability and open ended risk, makes defined benefit plans better suited to large employers with less mobile workforces, such as the public sector.
Defined contribution - a plan with benefits based solely on the amount contributed to the account. The contributions are invested, for example in the stock market, and the returns on the investment (positive or negative) are credited to the individual's account. Defined contribution plans have become more widespread in recent years, and are now the dominant form of plan in the private sector in many countries.
Stakeholder pension schemes were introduced in the UK in 2001 to encourage more long-term saving for retirement, particularly among those on low to moderate earnings. A Stakeholder scheme must meet a number of conditions set out in legislation, including a cap on charges, low minimum contributions, and flexibility in relation to stopping and starting contributions. Employers with five or more employees are required to provide access to a stakeholder pension scheme for their employees unless they offer a suitable alternative pension scheme.
The features of stakeholder pensions were intended to make them cheaper to sell than existing personal pensions and to provide a more transparent and attractive saving vehicle. However, in May 2006 the government proposed to introduce a new pension scheme called personal accounts. It appears likely that personal accounts will take over the intended role of stakeholder pension schemes.