This month, HM Treasury revealed the next stage of its plans to control and reduce the cost of public sector exit packages. The proposals announced by HMT, which are subject to a consultation period closing on 3 May, could have a significant impact – both direct and indirect – on redundancy and pension entitlements for public sector employees, particularly those who are members of the Local Government Pension Scheme.

Background

The current proposals represent the latest in a series of steps which the Government has taken or intends to take in order to curb the costs of public sector exits:

  • Legislation has already been put in place – although not yet implemented – to enable the Government to claw back all or part of an exit payment where an employee leaves and is then re-employed in the public sector within twelve months.  
  • Provisions included in the Enterprise Bill (currently making its way through Parliament) would impose a cap of £95,000 on the cost of an exit package for an individual leaving public sector employment.  The cap would apply equally to pension costs associated with the exit, such as additional employer contributions to meet the cost of paying an unreduced pension under the LGPS where the employee is aged 55 or over.

HM Treasury flagged in its consultation on the exit payment cap proposals, and also in the 2015 Spending Review, that the Government was planning to review more thoroughly the question of public sector exit terms.  The aim of that review is to reduce public sector redundancy pay-outs and to achieve greater consistency (both across the public sector and when compared with market standard terms in the private sector).  

This latest consultation is the first step in that review of the principles relating to exit packages; and whilst overall timescales are not given, there is an evident intention that changes in this area will be implemented within a timeframe that will enable significant cost-savings to be recouped in the lifetime of the current Parliament.

Overview of the proposals

The consultation paper proposes the following options for consideration:

  • Setting a maximum tariff of three weeks’ pay per year of service for calculating exit payments.
  • Capping the maximum number of months’ salary that can be used when calculating redundancy payments at 15 months, with the suggestion that the limit could be lower for compulsory redundancies (in order to provide some incentive for employees to accept voluntary redundancy).  Voluntary exit packages that are not classed as redundancies could likewise be subject to a slightly higher limit.
  • Setting a maximum salary on which an exit payment can be based (a model already used by the NHS).  One suggestion is that the NHS limit of £80,000 should be applied across all public sector employers.
  • Tapering the amount of lump sum compensation an individual is entitled to receive as they approach pension retirement age.
  • Requiring employer-funded early access to pension to be limited or ended (see further below).

The paper makes it clear that it is possible (though not definite) that all of the listed options will be implemented, subject to the outcome of consultation.

Only limited transitional arrangements are proposed: essentially, any exit packages already agreed at the time the new arrangements come into force will be excluded, but there will be no other form of protection.

As with the £95,000 exit payment cap, these proposals will apply only to non-devolved public sector employers, meaning that Wales, Scotland and Northern Ireland will each need to decide their own policy in relation to devolved workforces.

The consultation paper does not go into detail regarding precisely which employees will be within scope, other than to highlight the “major workforces” within the public sector which will be caught, including the civil service, teachers, NHS, local government, police officers and the judiciary.  In particular, it is not stated whether the scope of these provisions is intended to be identical with the scope of the £95,000 cap (though there would be a certain logic to that position).

Restrictions on employer-funded early retirement

The paper suggests three possible approaches to pension enhancements on redundancy:

  • Capping the cost of any employer-funded enhancement so that it is no more than the amount of the redundancy lump sum to which the employee would otherwise be entitled (and which would then not be payable).  This is the model currently used by the NHS.  
  • Prohibition of employer-funded enhancements (but with the option for the individual employee to use their lump sum exit payment to increase their pension entitlement).  In practice, it is difficult to see how this would differ from the first approach, assuming that the same approach is taken in both cases to the actuarial calculation of the cost of the pension enhancement.
  • Restricting employer-funded early access to pensions to (say) 5 years before the member’s normal pension age.  Since normal pension age is currently 67 or 68 for most of the public sector schemes, this would result in redundancy pensions only being available from age 62 or 63.  This would represent a substantial change from the current position under schemes such as the LGPS, where unreduced pensions are payable on redundancy from age 55.

The paper also presents a variation on the third approach, which would involve imposing a minimum age for access to such benefits which would be the same across all schemes.  The paper suggests that this could be 55 (presumably to reflect the earlier normal pension age in schemes such as those for the police or firefighters), or 58.

Pension enhancements related to injury, ill-health, physical fitness or death in service are not within the scope of the proposals, though it seems likely that exits on “efficiency” grounds (which will currently also trigger an unreduced pension under LGPS) would be caught.

Comment

It will be interesting to see how, if at all, these proposals change as a result of consultation.  One key area for consideration (which is not addressed in the consultation paper itself) is the interaction of the proposed restrictions on the calculation of the lump sum with the possible models for restriction of employer-funded early retirement enhancements.  If the amount of the lump sum will in future represent the maximum amount that the employer can pay to fund early retirement on redundancy, and that lump sum is itself to be substantially reduced, it seems likely that access to redundancy-triggered early retirement pensions will be very materially cut back.

Another area not addressed in the consultation paper is the impact (if any) of these proposals on ex-public sector staff who have previously transferred under TUPE to a private sector contractor as a result of public sector outsourcing, but who remain in their existing public sector pension scheme under the Fair Deal or Best Value Direction terms.  If the Government follows the same approach as was ultimately taken on the exit payment cap, these staff will be outside the scope of the new terms – which may make for an interesting scenario if the relevant function is subsequently taken back in-house again.