Mostly when people are told they have an inheritance it’s good news. A long lost relative or friend has bequeathed some money to you which opens up the opportunity to do all (or at least some) of those expensive items on the bucket list. Unfortunately an inheritance in an Local Government Pension Scheme (LGPS) is usually every bit as much of a surprise and shock, but far from as welcome for the recipient.
Many organisations, having become a participant in the LGPS were blindly unaware that to do so meant that they automatically inherited all the past liabilities for any staff transferring to or continuing with the organisation. Frequently this can mean that charities inherit hundreds of thousands of pounds of liabilities and in some cases many millions.
This anomaly arises because LGPS is unable to identify and allocate past service liabilities between employers, apparently only being able to allocate all of the liabilities to the latest employer. This is undoubtedly incredibly unfair as it means local authorities can deftly transfer the funding risk to an unsuspecting charity. Even where guarantees are provided tend only to protect charities on insolvency and not on voluntary exit or on increases in contributions.
The approach used by the Fund (in most but not all cases) notionally assesses the liabilities as being fully funded at outset so even if the funding level is only 90%, for example, it is assumed to be 100%. However this is far from a perfect solution for a number of reasons:-
- The value of these liabilities will vary over time. If a further shortfall arises the funding costs for this will have to be picked up the new employer in full even though they did not employ these individuals at the time they accrued the benefits.
- Where liabilities should have been notionally uprated frequently this has not been actually carried out or the exact terms have been lost ‘in the mists of time”.
- Even if the benefits were fully funded this would have been on an on-going basis and not on a cessation basis. This means that on an ultimate exit the latest employer would pay a cessation debt on all these previously accrued benefits.
- Should members benefits be subject to strain costs such as on redundancy or ill health early retirement these additional costs would have to be met in full by the latest employer.
These issues can come in to sharp focus where the latest employer has been admitted as part of an out-sourcing exercise. Procurers can inherit past service liabilities which dwarf any future service benefit which can be accrued over the term of the contract and become responsible for variations in the value of these liabilities over the contract duration and at the contract end date. Attempting to deal with these issues, usually very imperfectly, is achieved via contract negotiation and terms which again adds unnecessary complexity, inconsistency and frustration. A worked example showing the issues is available here.
Funds should really be dealing with this issue properly by segregating liabilities, as is the case in most other large multi-employer schemes. The costs related to past service liabilities would be fairly retained with the employer who accrued them with future service only being the responsibility of the new employer.
Frustratingly many Funds continue to deny the issue of inherited liabilities. It is totally inequitable to expect a small charity to pick up a cessation liability for benefits they previously inherited from a public sector body on an on-going basis, or even in many cases a funding basis well below this. I’m surprised more fuss hasn’t been made of this!!
Some Funds however have sensibly identified this and looked to deal with it fairly and I can only hope that all others will follow. Indeed these liabilities should just be re-allocated to public sector ownership, which is totally possible, and would mean that the Fund has them guaranteed with no cessation debt requiring to be paid. I can only think the reason for not doing this is the LA’s know they’ve dodged these liabilities and don’t want them back!!
The recent ICAS report made recommendations how this issue could and should be addressed. I would recommend that any charity that have witnessed significant contribution increases or have been provided with a cessation debt consider this issue and have it properly investigated as it could have a material impact and it seems an issue which when outlined would not be easy for funds to reject.