How the government's Pension Protection Fund works

The Pension Protection Fund deals with defined-benefit schemes when an employer goes bust. David Prosser explains how it works.

Thomas Cook flight crew © Thomas Cook
Defined-benefit scheme members at Thomas Cook will be protected

The Pension Protection Fund deals with defined-benefit schemes when an employer goes bust.

Thousands of Thomas Cook employees facing an uncertain future can take comfort in the knowledge that their pension savings are largely protected. The Pensions Protection Fund (PPF), the government-backed lifeboat fund, exists to ensure members of a defined benefit pension scheme do not suffer financial hardship if the scheme's sponsoring employer goes bust and there aren't enough assets in the fund to pay the pensions promised.

Thomas Cook's defined-benefit scheme has 13,500 members. With the company no longer around to stand behind this guarantee, the PPF is reviewing the scheme's finances.

Who gets what when

In such cases, the PPF guarantees that scheme members already drawing their pension and over the scheme's official retirement age will continue to receive their benefits in full. In some cases, however, the pension increases they receive each year may not be as generous as their scheme had promised.

The pensions of those yet to reach retirement age are also protected. However, they are only guaranteed to receive 90% of the pension they would otherwise have expected. Payouts are also subject to a cap set as a cash sum related to your age at the time when your employer goes bust. In the current year, someone who was 60 when their employer went under wouldn't be able to receive benefits worth more than 90% of £34,285.

The 90% calculation and the cash cap apply to current employees who are active members of the scheme and to deferred members who used to work at the company. But they also apply to those who took early retirement, but have yet to reach retirement age; their pensions could then be cut.

The PPF also guarantees future pension increases for members, with pay-outs raised in line with inflation each year, but only up to a maximum of 2.5%. Members of schemes whose policies on pension increases were more generous may therefore miss out, especially in years when inflation is higher.

In other words, while the PPF provides a crucial safety net, it doesn't give all scheme members complete protection. Higher earners who had been expecting sizeable pensions worth more than the cap can sometimes be big losers.

Remember, however, that the PPF only steps in where the scheme doesn't have the assets to keep pension promises. Better-funded schemes may still be able to pay benefits out in full without the help of the PPF even after the employer has gone. Indeed, Thomas Cook's defined benefit pension scheme is understood to be in relatively good financial shape. Its trustees are currently in talks with insurers exploring options that could see it avoid the need for PPF support.

Recommended

Pensions drawdown: don't take too much money out of your pension fund
Pensions

Pensions drawdown: don't take too much money out of your pension fund

New evidence suggests people are depleting their pensions too quickly – and they risk running out of cash in retirement.
14 Oct 2020
Pandemics, politicians and gold-plated pensions
Pensions

Pandemics, politicians and gold-plated pensions

As more and more people lose their jobs to the pandemic and the lockdowns imposed to deal with it, there’s one bunch of people who won’t have to worry…
12 Oct 2020
SSAS: how a niche pension product is bolstering small businesses
Pensions

SSAS: how a niche pension product is bolstering small businesses

Small business owners struggling with the effects of the Covid-19 pandemic are increasingly turning to a novel type of pension plan that gives them mu…
12 Oct 2020
The MoneyWeek Podcast: Lockdowns, layoffs and public-sector pensions
UK Economy

The MoneyWeek Podcast: Lockdowns, layoffs and public-sector pensions

Merryn and John discuss the effects of lockdowns on the economy, particularly on the private sector where already financially fragile workers are laid…
9 Oct 2020

Most Popular

Why commodities could be the best investment for 2021
Commodities

Why commodities could be the best investment for 2021

There’s plenty for investors to worry about right now. But things will inevitably recover. And the sector most likely to do best when they do, says Jo…
22 Oct 2020
Negative interest rates and the end of free bank accounts
Bank accounts

Negative interest rates and the end of free bank accounts

Negative interest rates are likely to mean the introduction of fees for current accounts and other banking products. But that might make the UK bankin…
19 Oct 2020
Buying bitcoin could be the best way to play the remote working boom
Bitcoin

Buying bitcoin could be the best way to play the remote working boom

The coronavirus pandemic has accelerated the move to home working, flexible employment practices and the rise of the “digital nomad”. One of the best …
21 Oct 2020