The Association of Members of
IBM UK Pension Plans (AMIPP)
|Actuarial Valuation on 2006 (This page created 28 December 2007)|
A few years ago, Actuarial Valuations for final salary schemes were very significant for scheme members, although few scheme members knew that. Companies could close pension schemes with inadequate funds, so that scheme members only got what the funds provided, not the pensions they had earned. Nowadays, companies cannot close schemes without ensuring the funding level, and it is cheaper for companies to keep schemes running than to wind them up. Hence the Actuarial Valuation is less significant.
With windup impractical, companies have taken to degrading schemes. In IBM's case the contributions from employees were increased to 6% (close to the national average), and this was quickly followed by another big degradation. (IBM UK made £420.2m profit in 2006. This is after accounting for a £250.5m gain from cheapening the provision of pensions already earned.) Actuarial Valuations give some hints on how life-styles will be affected in the long term by such degradations, and these hints have become more significant.
On this page we cover (a) why actuarial reports are obscure from a scheme member viewpoint, (b) what the 2006 IBM valuation tells us about funding levels, (c) what to watch out for if you read the actual valuation, (d) what the valuation implies about near-end-of-life risks to scheme members, stemming from the scheme degradation.
(a) Disclosure regulations require that scheme members are given access to an Actuarial Valuation, every three years. (See also those for 2003 and 2000). There is no requirement that the Valuation should be understandable to members, and it is littered with unexplained jargon ("technical provisions", "Section 179 liabilities", ) and cryptic labels on the numbers. (Note that there is a distinction between an Actuarial Valuation and an Actuarial Report. Actuarial Reports occur annually, and the trustee is required to tell the scheme members something about them; but because it is required to tell scheme members little (and late) the scheme member gets much less information than on a Valuation, and less than the Report to the trust actually contained.)
The background to why scheme members find it difficult to get relevance from actuarial outputs is the attitude of the actuarial profession. As with most professions, actuaries do not like to be regulated. They have proposed self-regulation through an "Actuaries' Code". The Professional Oversight Board (part of the Financial Reporting Council, and responsible for overseeing the way in which the Actuarial Profession regulates its members) has criticised the plans for the Code. Particularly, it felt there was an excessive emphasis on the “best interests of the actuary’s immediate client, rather than third parties and the public interest". (In other words, the Actuary was too concerned to make the results what was wanted by the organisation paying for them, rather than helpful to scheme members et al.)
There are separate actuarial valuations for the "IBM Pension Plan" and the "IBM IT Solutions Pension Scheme" (the I-Plan). Since the M-Plan assets are held by insurance companies like Legal and General they are not relevant and receive just a mention in the valuation.
AMIPP has reported before on how the degradation of the Plan in recent years threatens the financial situation for members towards the end of their lives. The short message from the Actuarial Valuation is that the additional risk, from IBM not funding what is "guaranteed", is a small risk compared with the risks introduced by the degradation in combination with inflation.
(b) The Actuarial Valuation is a snapshot of the situation at December 2006. It compares the value of the assets the fund had then with the anticipated cost (in December 2006 pounds) of providing all the pensions already earned by December 2006, as they come to be paid. It does not report on the anticipated cost of pension benefits that the employees will earn in the future.
If the assets and liabilities are equal (under the assumptions made about future inflation, rates of return on investment, etc.) then a scheme is said to be "fully funded". The European Union jargon for what is funded like this is the "technical provisions". If the assets are larger the fund is said to be in "surplus"; if they are smaller in "deficit". Funding level is often given as a percentage. In December 2006 our funding level was 104%, corresponding to a £208m surplus. (Most schemes are currently in surplus - taken together the FTSE top 100 companies have a surplus of some £15 billion, according to consultants Deloitte.)
The technical provisions correspond to "ongoing" costs - paying the pensions as they become due to be paid. This costs less than the assets (money) required to discontinue the scheme as an IBM scheme and buy pensions (annuities) from an insurance company so that the scheme members still get their pensions. (Because the insurance company would want to make a profit.) This arrangement is known as "buy-out" and in December 2006 our fund did not have enough assets to effect a buy-out. If buy-out had been forced for some reason, there would have been a varied effect on scheme members - some would have done all right, others would have got as little as half of what they had earned. However, this is obviously only an indicator - there was no buy-out attempted in 2006.
The Valuation makes a distinction between "discontinuance" and "buy-out" but the difference is small. Both scenarios involve the IBM UK sponsor going away and the pensions being paid from another source, which would not be the Pension Protection Fund (PPF). The "buy-out" calculation is more regulated than the "discontinuance" calculation, with less room for the actuary to be optimistic about the cost of the alternative provision of pensions. So the "buy-out" calculation comes out with the fund having 83% of the funds required, and "discontinuance" making the same funds 86% of requirement. (The Trust plans to improve the 83% figure by 0.7% pa. If that continues then by 2031 the Trust will be able to deal with IBM without IBM being able to threaten the pension provision.)
As well as the technical provisions funding level of 104%, and the discontinuance/buyout level of funding at 86/83%, there is also the "section 179" level of 125%. The latter refers to the fact that the PPF, which comes into play when employers fail, provides lesser benefits than are specified in our deeds. In December 2006 our scheme had enough to provide (on discontinuance of the scheme as an IBM scheme) more than the PPF would provide, so we would not have needed to be supported by the PPF. Again, this is only an indicator - our scheme did not discontinue in 2006.
(c) All these calculations are only as good as the assumptions that go in to them. For all the detail, you will have to ask Pension Services for a copy of the Actuarial Valuation and of the Statement of Funding Principles. Some help will be found on this website and there also a good document "Understanding your Actuary". However, it is easier just to accept that the "answers" in an actuarial report have a large element of actuary choice in them. (Newsletter 24 warned about placing too much reliance on what the actuary says and an official review of the actuarial profession has strongly criticised communication from actuaries to trustees and hence to members, which leads to misinforming by default.) Those who delve into the valuation should be wary of the components that are deliberately misleading or unhelpful:
- The data on deferreds is poor. The Actuary and the Trustee know that deferred pensions are revalued in the period between deferment and delivery, they know by how much, and they know that it is the revalued pensions which are the liability. Yet they choose to give only data about unrevalued deferred pensions. They also choose to exclude from the figures 900+ employees who became deferred as the result of the 2006 plan degrading.
- The account of why the 2006 level of funding differs from the 2003 level is poor. There is a table of various factors (such as longevity assumptions, degrading of the scheme) which lead to the differences.
There is one line of the table of differences which is there to make the summation over the table come out right. It is labelled "Contributions received higher than the cost of benefits accrued since the 2003 valuation". This line is poor practice in presentation because it mixes what is known fact (the contributions from employer and employees, the interest on those, the pensions paid in the period) with what stems from assumptions (the calculation of what is needed to prepare for future delivery of some benefits). Figures from the Annual Reports allow scheme members to separate the components but that should not have been left as an exercise for the reader. It is also an incorrect label because other lines in the table also account for differences between the cost of benefits accrued since 2003, attributable to differences in the 2003 and 2006 assumptions.
- References to "pensionable earnings" are made without explaining that the meaning of that term for IBM UK is very different in practice from the meaning of the term in other trusts' actuarial valuations. (Because of IBM's unique one-third-of-increases-not-pensionable rule.)
- The characteristics provided by the enhanced M-Plan are not listed, although the characteristics of the unenhanced M-Plan are. (Perhaps the trustee did not want comparisons made.) The missing data on company contribution rates is: Age 35-39 11%; Age 40-44 14%; Age 45-49 17%; Age 50-60 20%.
(d) Finally, what hints does the valuation give about long term prospects?
In the past, actuaries have failed to sufficiently recognise that people are living longer. There is a question for all trusts as to whether actuaries have now caught up with reality. For IBM, one can compare the mortality assumptions in the 2003 and 2006 valuations:
2003: in service males A67/70 ultimate rated down 3 years, Females
FA75/87 ultimate rated down 1 year; current actives and deferreds when
in retirement Standard tables PMA92 calendar year 2030 for males, and
PFA92 calendar year 2012 for females, both with a 2.5% loading; current
pensioners in retirement Standard tables PMA92 calendar year 2020, and
PFA92 calendar year 2002.
This gobbledegook can be deciphered if one knows that CMI stands for Continuous Mortality Investigation and that investigation by the Actuarial Profession has published tables about longevity. The CMI work is the most recent detailed material on longevity. (The official responsibility for tables is moving from the Government Actuary's Department to the Office of National Statistics. The latter does not yet have such detailed tables.) It is still a lot of work to come to any overall figure from the specification in our valuation. (Wouldn't it be nice if we were told "On average we are assuming people live nn months longer than we previously assumed".) We can chart the difference for a particular group - males retiring now aged 63. There are not a million such people, but charting how many of a million would be expected to die each year is a way of presenting the statistics. The chart shows that the 2006 valuation has assumed people live longer, with fewer dying in their 70's and 80's.
The medium cohort projections reflect the fact that longevity continues on the increase, so that somebody aged 80 (say) in 2030 can expect more years-to-live than somebody who is 80 now. There have been improvements particularly for people brought up during World War II. The medium cohort projection covers improvements in future years. But the "improvements up to year 2010" part of the IBM UK assumptions means that the later improvements are not assumed for our valuation. The CMI does not recommend any particular projection, but it would not publish something it thought unrealistic. So it is a fair question to ask why only improvements up to year 2010 have been assumed. (The answer cannot be "because IBM UK has different experience" since nobody has experience of future mortality.)
Another chart shows the comparison with adopting the medium cohort projection in full. What should catch the eye here is the considerable increase in the numbers surviving 30 years or more. These are the people that might get caught "living too long" for their dwindling IBM pension. The trust's assumptions are of 1.45% p.a. increases in the long run, with average inflation 2.9% and inflation never exceeding 5%. Even on these assumptions of mild inflation, the unregulated part of an IBM pension will have dropped to less than 2/3 of its original value after 30 years. This is what the trust expects to happen. The thoughtful scheme member will also consider what might happen. (It is not likely that your house will burn down yet it still makes sense to insure it.) Overall, our trust has recognised that people are living longer, but not recognised (in the way that the CMI has) that this will mean a much higher risk for scheme members of a lifestyle changing reduction of pension value.
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