The London Pensions Fund Authority has warned that the treasury’s proposal to hike the contributions of public sector workers contributions by 3% over the next three years may trigger a mass exodus from the Local Government Pensions Scheme (LGPS) ahead of Lord Hutton’s report on the future of public pensions and eventually destroy it.
The government’s proposed hike of 3% in contributions from public sector pension schemes will enable it to raise an additional £900 million from the LGPS. The hike is intended to protect the low paid and the government plans to introduce additional contributions by 2013-14 through 2014-15.
“A top civil servant’s pension contributions could rise from 1.5% of pay to 4.5%, a social worker’s could increase from 6.5% to 11%. Is that fair? Such increases will doubtless lead to large numbers opting-out of the scheme; 40% according to GMB. This would have the effect of breaking the scheme before Lord Hutton gets the chance to fix it. And yet the Treasury has estimated that take up will be reduced by a mere 1%!
“If significant numbers opt out-then not only will the Government not get its £900m but funds will face increasing deficits at a time when it can least afford them. Employers could well end up having to put more money in than they do today resulting in a net loss to the public purse”, said LPFA chief executive Mike Taylor.
The other flip side is that the LGPS may become more mature, which will bring forward the date when payouts exceed contributions, thus triggering different investment strategies to match assets with liabilities in the scheme. To tide over the situation, funds would require investing in less risky assets like bonds and exit higher return investments such as equities. The LGPS has a fund size of £130 billion, out of which close to £40 billion in invested in UK equities alone while the total equity portfolio size is about £80 billion. A change in investment strategy will impact the UK equities markets inversely.
There is a necessity to share investment risks more broadly between employers and the members of the scheme while ensuring adequate income in retirement and maintaining long term affordability of the scheme, believes LPFA.
In a submission in December 2010, the LPFA suggested to the final Independent Public Service Pensions Commission Report, authored by Lord Hutton and due to be published in March, that public sector pensions should move away from the currently prevalent Final Salary structure to Career Averaged Revalued Earnings (CARE) for better risk and cost sharing between members and employers.
“By virtue of being funded, the LGPS can look at the problem of raising £900 million in more than one way to find a solution that can meet the cash target whilst maintaining membership. To achieve the correct balance between fairness and sustainability, there are more sensible options than merely increasing employees’ contribution rates. Options such as reducing accrual rates, increasing retirement ages or removing the final salary basis can more effectively generate the required reduction in employer contribution rates.
“A break in the link between service accrued and final salary by protecting previous pension rights via a deferred benefit would cut the deficit and therefore the payments employers are currently making. It has been estimated that such an action could reduce deficits in the LGPS by up to £20 billion”, concluded Mr. Taylor.