Summary and implications
The Government consultation on replacing RPI with CPI (Consumer Price Index) as the basis for calculating statutory revaluation and pension increases is still continuing. Schemes have varied greatly in their approach, with some taking decisions and action and others planning to wait until the consultation is completed and the Government response known. However, the Treasury Order setting out the revaluation percentages from 1 January 2011 is already in force.
This means, in our view, that schemes may not be able to wait until the outcome of the consultation has been published before pension increases have to be granted. Trustees and employers need to understand the potential impact on their schemes in order to determine whether changes have to be made to :
- Scheme rules (which will also depend on what the rules currently specify);
- Actuarial factors such as early and late retirement factors; and commutation factors;
- Transfer values.
This briefing looks at the issues schemes should be considering now and the practical steps they should be taking where they have not yet taken them.
The Treasury Order specifying the revaluation percentages for non-GMP benefits for the year beginning 1 January 2011 is already in force but the Government’s consultation on the impact of using CPI as the measure of price increases on private sector occupational pension schemes does not close until 2 March 2011. The Government stated that it would aim to publish the summary of responses “within three months of the consultation closing”, meaning that the outcome may not be known before June. Therefore schemes may not be able to wait until the Government announces its plans as a result of the consultation, as matters like transfer values have to be dealt with.
There is no logic to the manner in which the CPI changes will affect individual schemes, as scheme rules can differ considerably. If they have not already done so, trustees will need to:
- Obtain legal sign-off on how the changes affect their revaluation and increase rules for all categories of member;
- Consider with employers whether the impact on their revaluation and increase rules is acceptable;
- If not acceptable, take advice on whether rule changes are needed and whether this is legally possible;
- Consider with the actuary what consequential changes are needed, for example to commutation factors, scheme valuation assumptions and transfer values.
Our December briefing summarised the position if the Government implements the changes as set out in the consultation:
- The change to CPI will automatically feed through for schemes with either no reference to revaluation and indexation or just a reference to the statutory minimum unless they amend their rules to retain RPI. Note, however, that there should be no automatic change to the reference period for pension increase calculations if the increases are based on a different period from that used in the statutory Orders (1 October to 30 September).
- If RPI is hard-coded into the scheme rules for revaluation and/or pension increases, RPI will continue to apply. There will be no requirement for a CPI underpin.
- As there is to be no statutory power to modify schemes, any change will have to be made in accordance with a scheme’s own rules and powers, which may contain restrictions making a change to CPI (or retention of RPI) difficult even in relation to future service.
- Amendments to the revaluation and increase rules will generally be possible only in relation to future service, subject to any restrictions on the amendment power.
- Employers with more than 50 employees who wish to move to CPI will be required to consult with affected employees before the change can be made (unless the change feeds through automatically). The consultation period of at least 60 days may apply whether or not a formal rule amendment is required, unless the change is made before the consultation requirement is introduced.
Confirmation so far: Pensions Bill 2011
Click here for the Pensions Bill 2011.
No statutory overrides
As indicated in the consultation, the Pensions Bill contains no statutory power to modify schemes or any relaxation of the statutory restrictions on amending subsisting rights.
No CPI underpin for pensions in payment
The consultation states that, if CPI in any year is greater than RPI, a scheme retaining RPI will not be required to match the additional CPI increase. This is reflected in the Pensions Bill.
Different reference periods still permitted for measuring increases
If the reference period hard-coded into the rules for determining the increase in RPI or CPI is different from the normal statutory September to September reference period for measuring price inflation, schemes can continue to use the different reference period.
DC and cash balance schemes
Some DC and cash balance schemes may not be affected by the CPI changes.
DC schemes are not required to provide pension increases on benefits which come into payment after 5 April 2005, so DC schemes which have taken advantage of this relaxation are unaffected by the CPI changes.
Cash balance schemes
A cash balance scheme is one in which the DB benefit is defined as a lump sum, which is then converted to a pension at retirement, often by the purchase of an annuity. The Pensions Bill includes provisions abolishing the current requirement for LPI indexation of cash balance benefits from a future date to be determined.
This will not apply to pensions already in payment or to contracted-out cash balance benefits.
Despite the uncertainty caused by the incomplete consultation period, trustees and employers should be doing the following now, based on the information so far available:
- Take legal advice or further legal advice on how the changes impact on their scheme (revisiting past advice if necessary in the light of recent developments).
- If the manner in which the changes impact on the scheme is not acceptable, consider whether rule amendments are needed and are possible.
- Seek (further) actuarial advice on the impact on early and late retirement factors, commutation and other factors, actuarial assumptions and transfer values.
- Ensure that all communications like transfer value calculations and benefit statements are stated to be subject to the scheme rules. If this is not done, there is a risk that a change to CPI could give to misrepresentation/estoppel claims against the employer and/or trustees. Legal advice may also be needed if unqualified statements have been made to members in the past that pensions will increase in line with RPI.
- Issue an announcement or further announcement to members about the changes.