Early retirement option terms

[didster]

Does anyone know the rationale for not including salary increases in setting early retirement terms?

Is it because they are discretionary and may not materialise?

However, for the "common" funding methods, Attained age or Projected Unit, in fact once its not Current Unit (with no revaluation), the actuarial liability will include an allowance for increases to retirement.

Thus, early retirement should result in a surplus being released (not so) and goes against "plan should not profit or lose from option". This of course neglects any additional expenses involved.

Any thoughts would be appreciated. Thanks

 

[Gareth]

It depends if it's a compulsory early retirement or voluntary.

Isn't there a selection risk in offering enhanced voluntary early retirement? (e.g. I know I am a poor employee, probably about to be demoted or fired, so i take early enhanced retirement!)

Also it depends on how you do your valuations. It's perfectly easy to include early retirements so no surplus is generated.

 

[didster]

Thanks for the reply Gareth.

I understand that it does include selection risk and the employer may very well want to discourage voluntary early retirements.

I was wondering more along the lines of a cost-neutral starting point.

On further reflection, I suppose you could think of it as leaving service first then early retirement, so the salary link is broken. But I understand that there is usually some revaluation (at least I think its prescribed in the UK).
An allowance for this is essentially the same as an allowance for salary increases.

In practice, I suppose that this may be a null point as the generousity of the sponsor will eventually be the basis for the reduction factors and the scale is likely to be simple and may not be actuarial at all, eg 6% pa simple.

I don't see how its easy to make the valuation allow for early retirements with it not generating surplus/deficit.
It's easy to allow for it with appropriate retirement rates and the values based on the scale being used. However, if the terms aren't cost neutral to start with, won't more/less early retirements than allowed for cause some surplus/deficit?

 

[Gareth]

I don't see how its easy to make the valuation allow for early retirements with it not generating surplus/deficit.
It's easy to allow for it with appropriate retirement rates and the values based on the scale being used. However, if the terms aren't cost neutral to start with, won't more/less early retirements than allowed for cause some surplus/deficit?

You won't have individual early retirement being cost neutral, but you could have it as a whole not generating surplus / deficit on average - i.e. by funding on the assumption you will have early retirements following expected rates and receiving the actual cheap benefit.

So as long as future early retirements more or less follows past experience it won't be generating surplus.

As you say, more or less than expected won't be cost neutral, but is that any different to all the other elements contributing to surplus? E.g. higher than expected withdrawals generated surplus...

 

[Irn Bru 4 Hangovers]

And in my experience it tends to be the larger schemes that make some allowance for take up of these options via decrement tables/ factors within their funding assumptions. The smaller schemes (with more volatile/sporadic experience) tend to fund on the basis that the members will take the more valuable option; any take ups of commutation/voluntary early retirement options coming through as 'surplus arising'.

 

[Gareth]

Good reason for that too - there's no data to do an experience analysis with, so no point trying to guess the proportion taking up the options.

 

[olly]

There's nothing to say schemes can't (or shouldn't) profit or lose from options. Scemes in the UK regularly have penal commutation terms in the knowledge that most employees take their maximum allowable cash at retirement because of the tax advantages and a strong preference for cash over pension.

The underpinning legislation for ER terms is the preservation requirements which impel schemes to give members at least the value of their levaing service benefits. In the UK there is also a statutory requirement to increase deferred benefits to retirement in line with prices. Therefore standard ER terms for leavers allow for inflation linking. However, scheme's often have the discretion (or may be impelled) to use more generous ER terms for those members retiring from active status. These terms implicitly allow for expected salary growth to retirement. Where deferred terms might be, say 6% simple, active terms might be 4%. The employer / trustees may have the discretion to apply more generous terms in other circumstances such as redundancy etc. Scheme's could protect themselves from the member selection such as Gareth's case by keeping the discretion to use active terms rather than applying them as a right.