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Following the reports of the Independent Public Service Pensions Commission, chaired by Lord Hutton of Furness, the Government legislated in the Public Service Pensions Act 2013 for a framework for new public service pension schemes, to be introduced from April 2015 (2014 for local government). The new structure is designed to manage some of the costs and risks to the Exchequer of providing public service pensions. For example, basing benefits on career average earnings rather than final salary, removes from the Exchequer much of the ‘salary risk’ and linking the normal pension age to the State Pension age (except for the ‘uniformed services, where it is 60) removes much of the longevity risk.

As an added safety valve, the Commission recommended that the Government should set a “fixed cost ceiling: the proportion of pensionable pay that they will contribute, on average, to employees’ pensions over the long-term. If this was exceeded then there should be a consultation process to bring costs back within the ceiling, with an automatic default change if agreement cannot be reached”(Interim report, recommendation 12).

The Government legislated in section 12 of the Public Service Pensions Act 2013 for a  ‘cost control mechanism’, which would operate symmetrically, so that if valuations showed that costs had risen or fallen outside of a target rate, steps would have to be taken to bring them back to target. It applies to ‘member costs’, such as increases in life expectancy or salaries.

2016 valuations

In September 2018, the Government said initial results of the 2016 valuations indicated that members should get “improved pension benefits for employment over the period April 2019 to March 2023.” There would be consultation on what this would mean for each scheme and changes would be implemented from April 2019. It also asked the Government Actuary (GA) to “undertake a review of the mechanism to check whether it is working as intended and delivering the Government’s objective to protect taxpayers and workers from unforeseen changes in pension costs” (HC Deb 6 September 2018 c13WS).

The operation of the cost control mechanism in relation to the 2016 valuations was paused on 30 January 2019 due to uncertainty about scheme costs following the Court of Appeal judgement in McCloud v Ministry of Justice. This had held that the ‘transitional protection’ offered to some members as part of the 2013 Act reforms amounted to unlawful discrimination. Trade unions representing public servants objected to the pause. The TUC said the government should “stick to its own rules and deliver what it pledged.” The 2016 valuation had showed public sector pensions to be cheaper than expected. Under the agreed rules, this “should mean lower contributions or improved pensions for members.”

On 16 July 2020, the Government lifted the pause, saying that in light of progress in determining the McCloud remedy, costs were now more certain. The cost of the remedy would count as a ‘member cost’ in the cost control mechanism.

In February 2021, the Government said it had decided that it would be inappropriate to implement reductions in member benefits resulting from any cost ceiling breaches identified in the 2016 valuation in light of the ongoing review by the Government Actuary.

Clause 80 of the Public Service Pensions and Judicial Offices [HL] Bill, would enable the impact of ceiling breaches for the 2016 valuations to be waived.

HM Treasury explains that the cost of the McCloud remedy is to be taken into account in the 2016 valuations, the cost control element of which is due to be completed. Early estimates indicate that some schemes may breach the ceiling.

Trade unions representing public servants have objected to the inclusion of remedy costs as member costs in the 2016 valuation and argue that the benefit improvements originally expected from the 2016 valuations, before the inclusion of remedy costs, should be honoured.

Government Actuary review

Future cost control policy will depend on the outcome of the government consultation following on from a review by the Government Actuary (GA).

The final report of the GA’s review of the cost control mechanism was published on 15 June 2015. The main conclusions were that:

  • The older legacy schemes were the driver of the main changes in costs, but under the cost control mechanism, benefits could only be amended in the newer reformed schemes, which would seem to be tending towards intergenerational unfairness. Furthermore, the main changes in costs in the legacy schemes were in relation to assumed salary increases and life expectancy, two aspects which had largely been mitigated in the design of the reformed schemes.
  • Costs could be expected to frequently fluctuate by more than two per cent, hence regular breaches of the corridor could be expected.
  • Perverse outcomes could occur as benefit improvements could be granted at the same time as employer costs are increasing. Primarily this could occur due to the exclusion of changes to the long-term economic assumptions from the cost control mechanism.

The GA made five main recommendations as to how the mechanism could be improved, split between changes to the core mechanism and a validation layer to moderate the effects of the core mechanism.

On 24 June 2021, the Government launched a consultation on proposals to take forward three proposals, all recommended by the GA:

  • Designing the cost control mechanism so that it considers only benefits built in the reformed schemes. This would ensure consistency between the benefits being assessed and those potentially adjusted;
  • Widening the corridor from 2% to 3% of pensionable pay, thereby reducing the regularity of breaches; and
  • Introducing an economic check, so that a breach of the mechanism would only be implemented if it would still have occurred had long-term economic assumptions been considered.

Comment

In March 2021, the National Audit Office reported that “employee representatives told us that reviewing the mechanism because of what happened at the first valuation undermines trust between employees and the government.” Analysis by GAD in 2012 had suggested the mechanism could easily be triggered:

HM Treasury’s original intention was for the cost control mechanism to be activated only ‘if extraordinary, unpredictable events’ occur. HM Treasury told us it is concerned that the current design exposes taxpayers and members to short-term changes in assumptions rather than responding to long-term trends. GAD’s analysis, performed in 2012, suggested the mechanism could easily be triggered if multiple factors were to move at the same time.

In June 2021, the Public Accounts Committee said that “HM Treasury should have foreseen the age discrimination issue that gave rise to the 2018 McCloud judgment, and putting things right will take many decades to resolve. HM Treasury wants members to pay to put this right—at an estimated cost of £17 billion—despite this being its own mistake” (Public Service Pensions, June 2021, para 5).

For more on the reforms, see CBP 5768 Public service pensions – the 2015 reforms (July 2021).


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