William Kay: Pensions don't come from a pot at rainbow's end

The rush by employers to abandon final-salary pension schemes in favour of defined-contribution is in danger of turning into a full-scale crisis for the Government, for two reasons, widespread ignorance and even wider-spread reluctance by most people to pay towards their old age.

The rush by employers to abandon final-salary pension schemes in favour of defined-contribution is in danger of turning into a full-scale crisis for the Government, for two reasons, widespread ignorance and even wider-spread reluctance by most people to pay towards their old age.

Final-salary (FS) schemes are those in which retirees' private pensions are decided by taking their salary on retirement and paying a proportion of that linked to years of service. Most schemes pay one-60th for every year worked, so that someone with 30 years' service would retire on half-pay. But some pay only one-80th per year, so half-pay would take 40 years.

Defined-contribution (DC) schemes make no promises about the size of the pension. That depends entirely on how much has been contributed, by individuals and their employers, and how well that money has been invested and/or how well the stock market has performed.

But while DC schemes are overtly tied to the stock market, it is an illusion to think FS schemes are immune.

Over the years many companies have taken holidays from making pension contributions because the funds were sprouting so much profit from – where else? – stock market investments.

This meant that workers were denied a share of those profits, because their interest went no further than ensuring they received the correct proportion of final salary.

Conversely, in bad times companies have had to make up shortfalls in their pension funds, to meet the FS promises. But that did not make the workforce immune from the stock market or a recession: in extreme cases, the pension commitments could bust an employer or lead to redundancies which automatically restricted FS scheme pensions to an employee's salary on leaving the firm, possibly decades before retirement.

So the exposure to stock market vagaries is always there in FS schemes, because that is where pension money is invested, along with property and one or two other havens.

But, like the now-derided with-profits bonds and policies, the profits from FS schemes are so disguised that employees have been deluded into thinking their pensions come from a pot at the end of the rainbow.

That happy arrangement can continue in DC schemes, though the Government must stop employers paying less into DC schemes than into FS. There is no excuse for cheating employees in this way.

The latest buzzword is "transparency". That is what the Financial Services Authority is always demanding, and that is what the controversial FRS17 accounting standard insists upon, because it makes companies set pension gains or losses against their operating profits, something many can ill afford when profits are under pressure from competitors, consumers and regulators.

The bigger problem for Whitehall is that DC schemes also force transparency upon employees, in that they make them open their eyes and face reality about what level of pension their contributions will give them. No longer can the question be brushed under the carpet of the pension trustees' office. But knowingly paying for a pension, like paying for virtually any other financial service, is anathema to most people in Britain.

This may not be a problem for Tony Blair, but it could blow up in the face of one of his successors 10 or 20 years hence, when years of under-contribution produces a generation of poverty-stricken pensioners. The apathy which has greeted stakeholder pensions is merely a foretaste.

The alternative is to step up compulsory state pension contributions, otherwise known as tax. Any prime minister willing to bite that bullet will have to have very strong teeth.

THE PRICE of gold has quietly slipped back below $300 an ounce after one of the regular bouts of hysteria leading to ill-judged recommendations to invest in bullion, gold mines or funds devoted to those sectors.

Much of the recent upward blip was a precautionary move by traders against Japanese savers scrambling to turn endangered bank deposits into gold bars.

Demand this winter has also been boosted by the apparent requirement by Osama bin Laden's al-Qa'ida organisation to shift resources out of Afghanistan into safer and more friendly countries.

Any commodity, however precious, that is being actively bought and sold by panicky bank depositors and shifty terrorist organisations should be severely left alone by all but the most speculative investors.

MAGGIE DRUMMOND'S latest report (see opposite page) on the outrageous behaviour of some overseas car hire outlets highlights a grave gap in the law.

We are all used to giving our credit card details to hotels as a surety against damage or forgetting to pay: we do not subsequently expect to find them charging for extra nights or meals unordered.

But it transpires that car hire firms regularly betray our trust in a similar way, and apparently all the Office of Fair Trading and trade bodies can do is to pass the buck.

Patricia Hewitt, the Secretary of State for Trade and Industry, must act swiftly to close this loophole.

w.kay@independent.co.uk

William Kay is personal finance editor of 'The Independent'