After much deliberation Unions and Government appear to have reached agreement on the future benefit basis for the Local Government Pension Scheme in England and Wales. As a result, the average government worker will now receive a higher pension with no requirement for additional contributions, although they will not get their hands on it until a few years later than originally anticipated.
The average post reform member contribution rate will be 6.5% per annum, as it is just now, with lower paid workers making a smaller contribution while their higher remunerated colleagues will pay more. Without entering into a discussion on the equity of weighted contribution rates, the key issue here is that the majority of workers will pay the same rate of contributions, if not less, in future.
The future benefit structure will be based on Career Average Revalued Earnings (CARE) with an accrual rate of 1/49th and revaluation in line with the Consumer Price Index (CPI). Ordinary workers with no prospects of promotion, who are already at the top of their salary scale, will be provided with significantly better benefits. Where salaries increase in line with the CARE revaluation rate, Final Salary and CARE provide a very similar benefit where the accrual rate is the same. With the current public sector pay freeze in effect and little prospect that future scale earnings will increase above the government’s now standard inflationary index, 1/49th CARE will provide substantially better benefits for those already at the top of their salary scale.
Under the current Final Salary basis a member receives a pension equal to 1/60th of his salary at retirement for each year of membership whereas under a 1/60th CARE basis, a block of pension is accrued each year equal to 1/60th of that year’s salary, with that block then revalued annually from the following year until retirement by the revaluation index. Where the revaluation index is equal to salary growth the two calculations give the same answer, if the revaluation index is higher than the level of salary growth the CARE basis will provide a higher pension, and vice versa. With a 1/49th CARE accrual rate the block of pension being accrued each year is a greater portion of salary and, therefore, provided salaries increase at least in line with CPI the ultimate pension will be significantly higher than under the current basis.
For those newer members who have not yet reached the top of their scale the likelihood is that they will receive roughly the same benefit as they would have done under the final salary basis if they remain in the same scale their whole career.
So what’s being given up? Well, in short, nothing. All that has been accrued to date will be protected including the link to final salary, normal retirement date and even the Rule of 85 whereby people who joined the LGPS in England and Wales before April 2006, or December 2006 in Scotland, can retire early from 60 without reduction to some (or all) of their pension provided that the sum of their service and age is greater than or equal to 85.
Future benefits will have a floating normal retirement age linked to state pension age. This will not stop members retiring when they like but their benefit at retirement will be linked to mortality expectations at retirement. Whilst this policy is not without controversy this could be a logical way to share mortality risk.
Members who receive promotions will potentially be negatively affected, with those promoted later in their career likely to lose the most. The biggest point raised in the Hutton Report was that pensions based on final salary were inherently unfair. Workers who were promoted close to their retirement – and there has always been a degree of scepticism about the motivation behind many of these promotions – would then receive a benefit reflecting a salary significantly higher than the salary that both their and their employer’s contributions had been based on throughout their membership.
Let us hope that this deal is communicated properly to members as a fair deal and that Government has gone far enough to ensure that public sector pension provision stays off the front page for a few years. Perhaps the big question now is will members of the Local Government Pension Scheme actually appreciate just how good a deal they’ve got.