Public sector pension reform: Five Qs the govt must answer

Professional Pensions, IFAonline.co.uk's sister title, has come up with a list of five questions the government still needs to answer about its controversial proposals to reform public sector pensions.

1. How much should the taxpayer have to contribute to public sector pensions?

Hutton recommended introducing a "fixed cost ceiling" for public sector pensions. This means the amount of employer (i.e. taxpayer) contributions will be fixed, while the employee contribution rate will be floating.

If the overall pension costs breach the ceiling, it will automatically trigger an increase in employee contribution rates. Hutton believes this will give certainty to the taxpayer on the future cost of public service pensions.

The government has so far been coy about revealing how much the taxpayer should contribute to public sector pensions.

However, recently-published figures from the Department for Communities and Local Government show the breakdown of funding for the Local Government Pension Scheme.

Taxpayer contributions - in the form of employer contributions - make up 51% of the scheme funding, with 18% coming from employee contributions. Transfer values account for 7% while investment returns make up 24%

Unions say the cost ceiling is an issue the Treasury is staying tight lipped about in negotiations.

They say government officials are more focused on benefit design than the intricacies of costs.

However, as one union negotiator said: "I can't believe the Treasury hasn't got a calculator in its back pocket when it starts talking about benefit design."

2. What will the accrual rate for the career average scheme be?

Lord Hutton recommended using a career average revalued earnings (CARE) structure for use across all seven main public sector schemes. However, he ducked out of suggesting an accrual rate for his proposals, saying this was a government decision.

It is understood the government has already decided the accrual rate it will use for the CARE scheme and has informed union negotiators. However, this information is not yet in the public domain

Hutton did point to a case study in his report showing how a typical 1/60th accrual rate for a worker in a CARE scheme on £30,000 a year would lead to a comparative salary if they were on a 1/60th final salary, due to similarities in salary increases and yearly revaluations.

3. Will all public sector schemes face the same contribution hikes?

Lord Hutton put forward three options to make short-term savings of £1.8bn: increase contribution rates; change the benefit structure; or contract public sector schemes into the State Second Pension.

He picked increased contribution rates as the most effective savings method but said there should be "adequate protection and proper safeguards to protect accrued rights, avoid undue hardship and minimise the risk of any rise in the number of employees who opt out of scheme membership".

Chancellor George Osborne announced in the Comprehensive Spending Review there would be an average 3.2 percentage point increase to employee contributions rates - but vowed to protect low paid workers.

This sparked outrage from the Local Government Pension Scheme, whose members currently paying the highest level of contributions at 5-7.5%.

Treasury chief secretary Danny Alexander announced on Friday workers earning under £15,000 would be exempt from the increase while workers earning less than £18,000 would only pay a 1.5 percentage point increase.

He also revealed the Treasury was looking at contribution hikes for the LGPS in light of its funded status.

Union negotiators say the exemption figures of £15,000 and £18,000 had never been mentioned in four months of negotiations with the government - only coming to light in Alexander's briefings on Friday.

A union official also says the figures are pro-rata, meaning a part-time worker earning less than these sums could still be eligible for a contribution increase if their salary exceeded £15,000 or £18,000 when calculated on a full time salary basis.

4. Will the government introduce primary legislation to put the new framework in place?

Hutton called on the government to introduce a "new common UK legal framework" to put his proposed CARE scheme in place.

Getting legislation through Parliament could prove tricky for a coalition government, already facing legislative problems over plans to increase the state pension age for women.

The government says it would like have the CARE scheme in place by the end of this Parliament in 2014-2015, giving a short timetable to get the reforms passed.

Centre for Policy Studies research fellow Michael Johnson has previously issued a word of warning to government on plans to legislate through the changes.

A similar reform was attempted to public service pensions in the Isle of Man. The dispute has dragged on for four years and has still not been resolved.

Yet the government has not yet confirmed whether a common legal framework will be used across all the schemes.

5. Which price index will the government use to uprate post-retirement pensions?

Hutton recommended that pension benefits should be uprated in line with average earnings during the accrual phase for active scheme members.

However, he said pensions in payment post-retirement should be indexed in line with "prices", to maintain their purchasing power and adequacy during

Hardwiring a level of indexation into scheme rules for the new public service CARE scheme will have long-term consequences.

The government announced in June's Budget and Spending Review it would uprate public sector pensions in line with Consumer Prices Index instead of Retail Prices Index.

The Treasury said on Friday CPI was the appropriate index to use in future.

However, it is has still not confirmed whether CPI will be written into the new CARE scheme rules, should primary legislation be introduced to establish the design across all schemes.

Unions are currently challenging the CPI switch in the courts. If ruled the government is ineligible to switch to CPI, it would have far reaching consequences on public sector pension reform.