Given the choice of a final salary pension, a cash alternative, or a money purchase pension, nine out of ten company directors choose final salary benefits, according to the Lane Clark & Peacock LLP (LCP) 2004 survey of pensions benefits for executive directors.

Companies are now set to consider changes to the pensions element of executives’ reward packages in the face of the new pension taxation regime that will be introduced from 6th April 2006 (“A-day”).

There will be no limits on the amount of pensions savings but, where the value of an individual’s pension savings within registered schemes exceeds £1.5m, there will be an additional tax charge of 25% on the excess over £1.5m. Although many expect executives would prefer a cash alternative where the 25% tax charge is likely to arise, the results from LCP’s survey suggest executives may be reluctant to switch to cash.

Mark Jackson, partner at LCP, said “Many in the pensions industry felt that executives will take a cash alternative where additional tax charges arise, but LCP’s survey suggests the industry should think again.”

“Directors are not going to give up their final salary pensions easily and, indeed, it may not be in the best interests of the director or the company to do so. A cash alternative incurs additional NI for both parties, and it takes a large amount of cash to replace pension by purchasing an annuity outside of the pension scheme.”

“No one likes paying more tax, but many directors may view paying the recovery charge as a price worth paying to hang on to their defined benefit pensions after April 2006.”

Jackson added: “If cash alternatives are provided after A-day, remuneration committees will need to be mindful of how shareholders will view the sudden increases in the cash compensation for executives, even if there is a reduction to the pensions element of the overall package.”

“With no limit on the pension that can be paid from a registered pension scheme after April 2006, this is a great opportunity for many companies to keep pension provision simple by ending complex unapproved pension vehicles and using one scheme to deliver pension benefits for those working at all levels within a company.”

The LCP survey also highlighted a clear division in the pensions provided for directors; those that enjoy final salary pensions where the average cost to the employer is estimated by LCP to be some 42% of base pay, and those with money purchase pensions where the average employer contribution is 18% of pay. This suggests that pensions for directors in typical money purchase schemes would be less than half the pension provided from the average final salary scheme.

The survey results found that, although the shift from defined benefit (DB) to defined contribution (DC) pensions continues, the pace of change has slowed. In 1999, the survey found that fewer than 5 per cent of companies offered money purchase schemes to some or all of their executive directors. However, by 2002, the proportion had increased to 40 per cent, and in this year’s survey was 47 per cent.

Other key findings from the survey, which was conducted amongst FTSE 350 companies were:

• One in five companies surveyed has not yet considered its approach to pension provision for executive directors after A-day whilst the majority are considering policy in this area
• One in three companies surveyed uses Funded Unapproved Retirement Benefit Schemes (FURBS) or Unfunded Unapproved Retirement Benefit Schemes (UURBS) to provide pension on earnings above the earnings cap (currently £102,000), and most of the remainder provide some other compensation on earnings above the cap. These companies will have the opportunity to simplify their arrangements in the future, as from A-day there will be no earnings cap and FURBS/UURBS will become less tax efficient