The Government has published more detail about how the reformed public service pension schemes will operate. In November 2012 HM Treasury published two papers: the first sets out how the employer cost cap will apply to public service pension schemes, the second looks at actuarial valuations. This speedbrief considers both papers.
Establishing an employer cost cap in public service pension schemes
The Hutton Report recommended that an employer cost cap should be put in place to provide a fair balance of risk between scheme members and the taxpayer. The Government accepted this proposal and clause 11 of the Public Services Pensions Bill (Bill) sets out the necessary legal framework. The cap will apply to both the unfunded schemes and also to the Local Government Pension Scheme.
The HM Treasury paper provides some detail as to how the employer cap will operate in practice. The paper provides that the cap deals with those changes which relate directly to members, for example life expectancy changes, salary growth and career paths. Cost increases arising from technical or financial changes will not be included, for example the discount rate or actuarial methodology. In addition, the past service costs of deferred and pensioner members in the existing schemes will be excluded from the cap mechanism.
The cost cap will, therefore, only apply to the reformed schemes and will only control member risks, including past and future cost risks associated with :
- active members of the reformed schemes, including service in the existing schemes,
- deferred and pensioners of the reformed schemes, and
- transitional protection for active members in the existing schemes.
This effectively means that there will be a difference between the actual employer contribution rate paid by employers and the rate that is controlled by the cap.
Once the cost cap has been set there will be a 2% margin above and below the cap to deal with small cost changes. Should the 2% margin be breached there will be consultation to allow the responsible authority, scheme managers, employers and members (or their representatives) to agree how employer costs should be brought back to the level of the cap.
The cost adjustment may be achieved by a change in future benefit accrual, change in member contributions or some other adjustment. There is no intention to make changes to accrued benefits. HM Treasury consent will be required to any change.
Details of how the cap will operate (including what happens when there is no agreement to any required cost adjustments) will be set out in directions and scheme regulations. There is currently no published timetable for these to be available. The cap will be set by reference to the results of the first valuation of the reformed schemes using 2012 data.
Cost cap for the LGPS
It is important to note that there will be separate consultation on how the cost cap will apply to the LGPS. However HM Treasury’s paper made it clear that the cost cap will operate by reference to a national "model fund" valuation (rather than individual fund valuations which will determine the actual employer contribution rate to be paid).
Actuarial valuations of public service pension schemes
The Bill provides for a common framework for public service pension scheme actuarial valuations.
HM Treasury's paper provides more detail about this common framework.
The paper states that actuarial valuations are very complex and, as such, the detail relating to valuations will be set out in HM Treasury directions. It is important to note that for the LGPS the direction will relate to how the LGPS 'model fund' will operate - the LGPS funds will continue to have their own separate valuations.
The HM Treasury directions will specify how the data, methodology and assumptions used in the valuation will be set. Where appropriate these will be consistent between schemes. Before these assumptions etc are set, as required by the Bill, HM Treasury must consult with the Government Actuary's Department to ensure they meet actuarial standards.
The valuations for the unfunded schemes will take place every 4 years and the LGPS every 3 years in line with the local LGPS fund valuations.
The valuations will cover both the reformed schemes and any connected schemes. This approach will allow existing and new schemes for similar categories of employees to be valued together to produce a single employer contribution rate, whilst at the same time allowing for relevant elements to be separately identified for the purposes of assessing the employer cap (see above).
The HM Treasury paper suggests that deficits (or surpluses) will be spread over a 15 year period unless there are strong reasons why this should differ for a particular scheme or in specific circumstances.
It is helpful that HM Treasury has begun to set out, in overview, more information as to how the reformed public service pension schemes will operate in practice. However, as always, the success of the proposals will depend on the detail which is not yet available.
It is clear that in relation to the employer cap, there will be a clear difference between the contribution rate that employers will pay in practice and the rate that is controlled by the cap. The cap looks to be even more removed for the LGPS where actual employer rates continue to be set at a local fund level and will be subject to the funding level of that fund.