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Earnings cap on pensions worries executives

UK – A growing number of senior executives in the UK are concerned about the pension earnings cap, according to a survey by consultants William M. Mercer.
The cap issue was raised by 62% of senior executives at recruitment interviews and by 83% in the case of board directors, according to the research, which covers 115 major UK employers.

Tax relief in Britain is only allowed on pensions up to an annual pay of £95,400 (e154,700), which gives a maximum pension of £63,600 (e103,100) under current regulations.

The increase in the movement of executive workers since the introduction of the cap in 1989 has raised salaries, and worries among executives over the rule, says the report.
Top salaries also increase faster than the annual cap increases – leaving an executive aged 40 on a £50,000 salary being hit by the cap well before he reaches 65.

More than half (58%) of the surveyed employers have taken action to tackle the compensation problem. Four main corporate approaches in dealing with the issue can be identified, says the report: optimising benefits under the company pension scheme, establishing a funded or un-funded unapproved retirement benefits scheme (FURBS or UURBS), and providing extra cash.

Just over a quarter (27%) of the surveyed employers say they do not compensate the effects of the earnings cap, while 28% offer additional salary.
FURBS continues as the most popular method of augmenting executive pensions. Despite an increase in capital gains tax under these schemes since 1998, a third (34%) of employers now choose this route, says the report.

The UURBS plans promise a set level of benefits that is met directly from company cash flow rather than a trust arrangement, and such schemes account for 24% of corporate top-up plans, down from 30% in 1998.
“In theory, the lack of national insurance contributions on payments make them an attractive option from the employer’s point of view,” says Ken Barclay, worldwide partner at William M Mercer.

However, an empirical test shows that UURBS is twice as expensive as FURBS or a salary raise. Participants in the survey were asked to calculate the likely annual cost of implementing their current policy for a new executive aged 45 and earning £140,000. A FURBS plan would cost £14,000, while only £13,000 extra salary would be needed, compared to an UURBS solution that would cost £30,000.

A majority of employers seem to prefer funded schemes, with 42% saying it would be their main top-up vehicle in the future. Additional salary will be chosen by 36% of employers, while long-term incentive plans (now preferred by 17%) have dropped UURBS benefits (down to 12%) to fourth on the list of employer choice.

High demand from executives has also increased the importance of life insurance as another method of unapproved compensation, with 90% of employers offering one to workers who pass the earnings cap, compared to 70% in 1998.

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