Brighter new year for final salary schemes

The funding shortfall faced by the UK's biggest defined benefit - or "final salary" - pension schemes nearly halved in 2010 on the back of the stock market rally, new research shows.

The 200 biggest defined benefit pensions, which include final salary schemes, ended the year with a collective deficit of 52 billion, down from 87bn at the end of 2009, according to consultancy firm Aon Hewitt.

The improvement was driven by a strong stock market performance, with the FTSE 100 index gaining about 10 per cent in the past 12 months.

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But despite the reduction in the deficit, the funding position of pension schemes is still considerably worse than it was at the end of 2008, when they had a 3bn surplus, and at the end of 2007, when they were just 2bn in the red.

Marcus Hurd, principal and actuary at Aon Hewitt, said: "Even though the pension black hole has ballooned over the past two years, it will be a happier new year for companies preparing their end of year accounts.

"Many will breathe a small sigh of relief that their pensions deficit has finally started to improve.

"With pension scheme deficits looking more manageable, now is the time for sensible planning. Companies should ensure that they have the right risk-reward balance and consider whether they should lock in to current deficit levels or continue to play market volatility to seek extra return."

Defined benefit pensions have become increasingly expensive to offer in recent years, in the face of investment volatility and increased life expectancy. The majority of companies have now closed the schemes to new members, with many shutting them to existing ones as well.

They are being replaced with less generous defined contribution schemes, under which the individual shoulders all of the risk of investment volatility and increased life expectancy.