The Government intends to use the Consumer Prices Index rather than the Retail Prices Index in future to work out the minimum increases that schemes must make to deferred pensions and pensions in payment. Trustees are not required to take any immediate action. But scheme rules should be reviewed before the first 2011 increases are due, to see how the change will affect your scheme.
The Government has said that the change is appropriate because it considers the CPI a better measure of pensioners’ cost of living than the RPI. In practice, however, the change is likely to have a substantial practical effect because the CPI generally rises less quickly than the RPI. As a result, the change is likely to mean that deferred members and pensioners receive smaller increases in future. By the same token, it is likely to reduce schemes’ liabilities over time.
The announced changes could affect the benefits due from an occupational pension scheme in three respects. In future, the CPI will be used to work out:
- the extent to which an early leaver’s deferred pension must be revalued before it comes into payment;
- the increases that a contracted-out scheme must pay on guaranteed minimum pensions (“GMPs”) which have come into payment; and
- the minimum increases that schemes must pay on pensions in payment earned after 5 April 1997.
If a scheme’s rules describe the increases required simply by referring to legislation, or if they are silent and the legislation simply overrides, the announced changes will affect benefits automatically: in future those increases will automatically track the CPI rather than the RPI. But where a scheme’s revaluation or increase rules expressly require benefits to be increased by reference to the RPI, and the rules do not authorise the trustees to adopt a different index, it seems that increases will continue to reflect the RPI measure of inflation and it may not be possible to change that position, at least in relation to pension rights already built up. Where a scheme’s rules appear to give the trustees a choice over which index they use, they will have to think carefully about whether they really do have power to use the CPI to determine future increases and about whether it would be proper to do that.
A further point for trustees to consider is the interaction between a scheme rule requiring revaluation based on the RPI and a statutory duty to revalue by reference to the CPI. In some contexts this could give members the right to whichever increase is the more generous. The change to CPI may also have an impact on other areas such as a scheme’s investment strategy.
Even though a lot of the detail on how this will work in practice is still awaited, the Regulator has issued a statement encouraging trustees to communicate the impact of this change to members as soon as possible once the picture becomes clear. The Regulator has also said that ongoing valuations should not be affected by this until we have more detail.