Chapter 5: Benefits overview and providers of benefits Flashcards
(17 cards)
Key features of Pensions
- Are primarily used as a means of providing income in retirement for individuals and possibly their dependents
- May provide other benefits, for example, a lump sum payment to dependents if an individual dies before retirement
- May have options to change the form or timing of the benefit, for example, an option at retirement to exchange a proportion of the pension payments for a cash payment
- Are long-term arrangements
5 Main providers of benefits
- The state
- Employers or a group of employers
- Individuals
- Financial institutions
- Other organisations
3 types of scheme members
- Actives - members still earning future pension benefits over time
- Deferred members - members who have stopped earning any future benefits but who have an existing benefit entitlement that will come into payment in the future.
- Current pensioners - members who are receiving their benefit entitlements
3 Main types of pension scheme
- Defined benefit
- Defined contribution
- Hybrid schemes
The type of scheme drives the type of benefit provided and where the risks lie, i.e. primarily with the member or primarily with the scheme sponsor.
Defined Benefit Scheme
The benefit is defined in terms of a set of rules, for example a percentage of final salary for each year worked.
The benefit is not directly related to the contributions paid in or the investment returns earned.
The scheme may be funded or unfunded.
Benefits will be defined by a set formula, and might be linked to, for example:
* how long the member works for the sponsoring company
* the member’s salary at retirement
Defined contribution scheme
The benefit relates directly to the contributions paid in respect of each member, increased by the investment returns earned on those contributions.
The member will need to use the accumulated fund at retirement to meet their post-retirement needs.
Hybrid schemes
A scheme where the risks are shared between the different parties involved such as a scheme member, employers, insurers, and investment businesses.
Examples of hybrid schemes that are more defined benefit in nature include:
* cash balance schemes, where a defined lump sum is provided at retirement as opposed to a defined pension through retirement.
* schemes where the retirement age is increased for future service in light of increasing longevity
* the greater use of risk management options such as investments that transfer longevity risk (longevity swaps and bonds) and insurance company investments
What benefits might the State provide?
The State may provide retirement, ill-health, death and unemployment benefits.
The State may also provide financial instruments such as national debt securities, State sponsored savings plans and the facility to deposit money in State bank accounts.
List 6 key roles of the State in relation to benefit provision
- Provide benefits to some or all of the population
- Sponsor the provision fo such benefits, perhaps by providing appropriate financial instruments
- Provide financial incentives, usually through the tax system, either for other providers to establish appropraite provision, or to subsidise the cost of such provision to consumers
- Educate or require education about the importance of providing for the future
- Regulate to encourage or compel benefit provision by or on behalf of some of the population
- Regulate bodies providing benefits, and bodies with custoday of funds, in an attempt to ensure security of promises made, or expectations created.
List 4 reasons why employers finance benefits for employees
- Compulsion or encouragement from the State
- A desire to attract and retain the services of good quality employees
- A desire to look after employees and their dependents financially beyond the level provided by the State
- Pooling of expenses and expertise.
Describe a flexible benefits system
Under a flexible benefits system, employees are offered the option to choose between benefits, which the employee can “buy” or “sell”.
They are given a notional amount which they can spend.
Employees have a choice between, for example, additional salary, additional pension benefits, additional holiday enhanced death-in-service benefits and long-term sickness benefits. Each benefit is valued, and the employee has a notional sum of money to purchase benefits.
What is a multi-employer scheme and what is its key advantages and disadvantages?
A multi-employer scheme is a benefits scheme set up jointly with other employers, often from the same industry.
Advantages:
* It makes provisions more cost effective
* Economies of scale and cost savings in investment and administration
* Increased mobility of the workforce between participating employers
* A wider choice of benefits arising from larger schemes
* A sense of identity for employees within the industry.
Disadvantages:
* More care must be taken over allocating the liability for funding DBs, particularly in the event of the insolvency of one of the sponsors.
* Fund segregation is usually important in reducing such problems.
(Fund segregation means holding the pension scheme’s investments separate from the company, usually overseen by trustees.)
What are the roles of individuals in relation to benefit provision?
The main role is to finance benefits through, for example, a scheme provided by the State, an employer, an insurance company or other financial organisation.
Alternatively, individuals may use individual savings or domestic property to finance benefits, or by way of financial support from families or local community schemes.
Individuals might be incentivised to finance benefits through tax advantages or by employers matching employee contributions up to certain limits.
Give 3 examples of how domestic property can be used as a source of bneefits for an individual
- The home could be sold
- Loans can be secured on the accumulated equity in the home
- A capital sum may be available on inheritance of a domestic property
What role do financial institutions play in the provision of benefits?
They provide benefit schemes and insurance products.
They may also eduate consumers on the importance of making benefit provision.
Give 3 examples of “other organisations” that might provide benefits
- Trade unions
- Credit unions
- Charities
List 3 possible roles of employers in relation to benefit provision
- Educating, and either encouraging or compelling employees to plan benefit provision
- Financing of benefits for employees, in an orderly manner.
- Providing a facility (scheme) for the provision of benefits
