Pension problems pulling firms under

Pension shortfalls among FTSE 100 companies have more than doubled in a year to 100 billion. As if that is not bad enough, pensions experts warn the fees charged by the body set up to save the livelihoods of millions of retired Britons are adding to the dead weight.

This worries Brian Spence, founder of the independent actuary consultancy Spence & Partners. He argues that it should worry small and medium sized companies in Scotland too. Spence, whose business specialises in SME-run pension schemes, just last week handled a company whose pension problems were among the chief causes of its failure.

It is not just the contributions companies have to make to the pension schemes themselves, a problem for companies with final-salary pension schemes since a new accounting standard FRS 17 made clear how much companies had to pay. It is also the increasing burden of levies for the Pension Protection Fund, an industry funded scheme designed to safeguard company pensions.

"The levy wasn't the only factor but it definitely was a factor," says Spence of his latest client.

"There are schemes in Scotland at the moment where the levy payable to the Pension Protection Fund in itself could actually threaten the viability of the company," he warns.

"Small businesses that are struggling to make a few thousands of pounds a year of profit are facing levy payments of 100,000 a year."

The problem is that the levy is based on the company's risk profile and the white heat of recession has both melted profits and fired up the danger of the business defaulting on loans and obligations. This is especially difficult for smaller companies, which can end up paying proportionately much more to the fund than bigger companies. Plus, as more companies fail – thus triggering recourse to the PPF – the pool of companies able to contribute is shrinking .

"The risk is assessed by short-term risk of insolvency. Large companies are assessed with virtually no risk of being insolvent in the short term so it tends to be the SMEs that have more exposure to the levy. Certainly there is an issue, as there seem to be fewer and fewer pension schemes run by solvent players," Spence says.

The pensions lifeboat currently pays the retirement benefits of 13,151 people across 101 schemes, at a cost of about 7 million each month. These figures are expected to grow significantly over the next few months. Like companies such as BA and BT, the PPF runs on a deficit . There are fears are that this could double to more than 1bn following the high-profile collapses of telecoms group Nortel Networks, Woolworths and Lehman Brothers.

Despite this the PPF, overseen by the government's Pensions Regulator, has seen the problems of its increasing burden on companies and this year has capped employer contributions to 700m in 2010 to protect businesses suffering during the economic downturn.

"The pensions regulator has been consulting on a way of collecting levy in a fairer way – collecting, perhaps, on long-term risks rather than short-term risks," says Spence.

He adds there are cases where the PPF will bail out schemes completely in order for the company to remain solvent, but this is a "last resort". Instead, the Pensions Regulator would look at reducing payments or giving companies a payment holiday, if only so that the needs of the pension are met.

While Spence, a softly spoken Northern Irishman, admits the scheme has its flaws, he adds that it is still a good one.

"Prior to the Pensions Act of 2004 coming in, it was a free for all. Obviously its performance will only really be judged in the much longer term than now. You can no longer have a situation where someone works for 30 years for a company and then walks away at the age of 65 with no pension because the company has become insolvent. That has come to end," he says.

Yet the complex world of pension provision provides a tricky problem. Spence says the "perverse" effect of the PPF is that final-salary pension schemes will die out. That is likely to be the case in the private sector where for years companies have shut final-salary pensions to new members in favour of less beneficial money purchase schemes. Some are even reducing the benefits of closed schemes.

Spence says this will initially make employment in the public sector more attractive to employees – a bugbear to groups such as the Chambers of Commerce and the CBI who are calling for the pension pots of the public sector to fall in line with those the private sector.

"We are simply going to see a situation where it becomes a part of the way life that jobs in the public sector have much better pensions associated with them. It may be that private-sector employers will have to offer higher salaries and other incentives," he says.

Yet he warns that the state's "love affair" with final-salary pensions is unsustainable, despite being almost impossible to change, and adds: "How it is resolved is very difficult to see. Public-sector workers have votes too, particularly in Scotland."

Spence sees a "dark cloud" hanging over some public-sector employees as the government – facing an age of austerity – is forced to transfer operations to the private sector in an effort to slash record-high debt levels. Where previously these employees have had their benefits safeguarded, this could change.

"They have formerly been able to either participate in the public-sector pension arrangements or the new private-sector employers have had to set up mirror image arrangements, but that limits the extent to which costs will be saved, so it will be interesting to see how that develops."