Public service pension reform and the Draft Budget 2014-15

The Draft Budget 2015-16 sets aside £133.2m to deal with public service pensions but gives little detail on what these are and why the additional money is needed. This article provides an explanation.

The reforms

In 2011 the Independent Public Service Pensions Commission (IPSPC), set up by the UK government to review public pensions, made a number of recommendations for reform. These were broadly accepted by the government and will take effect from April 2015, saving an estimated £432bn over 50 years.[1] The main changes are:

  • Basing pension payments on people’s career average revalued earnings (known as CARE), rather than their final salary.
  • Aligning the pensionable age of all public service workers with the State Pension Age.[2] Some current schemes have a pensionable age of 60.
  • Imposing a ‘cost cap’ mechanism that will limit the amount paid in by employers (departments, education boards and health trusts, etc).[3]

The Executive is implementing the same system in Northern Ireland as in Great Britain, and the Public Service Pensions Act (NI) 2014 provides the legal framework for the changes.[4]

While the Northern Ireland Executive could have retained the current system, it would have had to pay for the additional cost of doing so - estimated at £260m per year.[5]

What has the money in the Draft Budget been set aside for?

A summary of the Draft Budget 2015-16 (written by the Centre for Economic Empowerment) can be accessed here.

DFP is working with the UK Government Actuary’s Department (GAD) and the Treasury to revalue the Northern Ireland schemes. The purpose of this exercise is to gain an indication of the future cost of the schemes and will be used to set the level of the cost cap from April 2015.

Aside from the impact of the actual reforms, the revaluation exercise has found that Northern Ireland departments will need to fund pension payments by more than originally thought.[6] This would put a large pressure on departmental budgets, particularly for the health and education sectors with a large number of workers. To provide a central fund to meet this “extra” cost, £133.2 million has been set aside in the Draft Budget.[7] In future years, once the reforms have taken effect, departments will have to meet the scheme costs from their own budgets.

How are Northern Ireland’s public service workers affected?

There are a number of public service pension schemes in Northern Ireland, including a health sector scheme, two separate civil service schemes and a scheme for teachers. The schemes differ in their set ups, but they adhere to a common framework set out by Treasury and DFP.[8]

The new civil service “Alpha” scheme (to replace the previous “Nuvos” and “Classic” pension schemes) gives an overview of the changes that can be expected. Overall, there will be higher contributions paid by employees, with a control on the level of employer contributions, but also a greater level of benefits accrued for retirement, albeit uprated by a different measure.

  • The reforms will affect the amount current employees contribute to their own pensions. Alpha will have an average contribution rate of 5.6% of the current salary. Higher earners pay higher rates: 7.35% for those earning £45,000 to £150,000. These new rates are higher than those of previous schemes.[9]
  • These changes are fairer for part-time workers as they do not have to pay the full-time salary rate, as previously. The Institute for Fiscal Studies also states that lower earners will benefit on average while some higher earners will lose out.[10]
  • High earners will be those most affected, by replacing final salary benefits with a career average (CARE).[11] CARE schemes more closely match pension payments to the contributions put in by employees than final salary schemes, and are therefore deemed to be fairer for the lower paid workers and taxpayers who help fund the schemes. Under Alpha, members will accrue 2.32% of their annual salary for each year of work.[12]
  • While the Consumer Prices Index (CPI) will be used to uprate accrued benefits after a member has retired (part of previous changes to pensions made by the Labour government), national average earnings growth will be used while they are still employed. Therefore, if overall wages (including the private sector) decrease, public service pension benefits will fall in line.
  • Current members who at 1 April 2012 were under 10 years from retirement will not have to move to the new scheme. For other employees, the pension built up under previous schemes will be and paid to them in retirement alongside their new scheme benefits.
  • At retirement, employees will have an option to take a portion of their pension as a lump-sum, which will reduce the level of future payments made to them.
  • The level of the employer cost cap is being calculated as part of the GAD revaluation exercise. If the cap is breached in future, the scheme will have to find a way in which to rein in the costs. This may include increasing the employee contribution rate, as the employer rate will be limited. Auto-enrolment (as well as a move to CARE) could reduce the risk of this occurring, as it increases scheme membership and the overall level of self-funding for the schemes.

[2] Currently 68 for men and women born after 6 April 1978; 67 for those born after 6 March 1961 and 66 for those born after 6 October 1954: State Pension Age timetables.

[3] An employer cost cap is set to a percentage of the pensionable earnings of scheme members (determined by the valuation exercise), as required by the Public Service Pensions (NI) Act 2014 s12. If the cap is breached scheme managers will have to take action to ‘rein in’ the costs.

[6] Similar findings were made regarding schemes in GB. See: Treasury press release (13 March 2014) Public service pension reforms nears conclusion .

[7] Draft Budget 2015-16 Table 1 (p63).

[8] Similar to Treasury directions (See Treasury website).

[9] Alpha scheme rates (DFP Pension Reform in the NI Civil Service p10) are higher for each pay level compared to Nuvos and Classic schemes (DFP Pension scheme contribution rates 2013-14)

[10] Institute for Fiscal Studies (2012) Green Budget 2012 p103

[11] Aside from those already using Nuvos, which is a career average (CARE) scheme.

[12] This is a slight improvement on Nuvos (2.3%) and the Classic scheme (1.25%). The new Firefighters' Scheme, in comparison, will accrue 1.5% (DHSSPS (2014) Policy for the NI Firefighter's Pension Scheme).

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