Estimated reading time: 6 minutes
As one consultation comes to a close, another one opens up. On 7 October 2020, the government published its Public Service Pensions: Guaranteed Minimum Pension Indexation consultation*.
The consultation seeks views on a proposal to extend beyond 5 April 2021 the current interim solution for dealing with GMP indexation in public service pension schemes, including the Local Government Pension Scheme (LGPS). This is necessary as insufficient time remains to put in place a permanent solution prior to this date.
Guaranteed Minimum Pension (GMP) has been a popular, and complex, topic of conversation in recent years. We wrote a blog to help simplify the issue and to explain some of the technical jargon that is used.
What is GMP indexation?
GMP indexation refers to the method in which GMPs are increased (or indexed) in order to protect its value from the effects of inflation. Historically, in public service pension schemes, part of the cost of this indexation was met by the government through the additional state pension.
However, the government’s ability to fund this cost through the state pension was removed when the new state pension was introduced on 6 April 2016.
Therefore, to protect the value of members’ GMPs, an “interim” solution was put in place which requires funds to pay the full indexation on GMPs for members reaching state pension age (SPA) between 6 April 2016 and 5 December 2018. This is without compensation from government so is an added cost to scheme employers, an issue which to date the government have not indicated that they will address.
This “interim” solution of full indexation was then extended to those reaching SPA on or before 5 April 2021, following a consultation in 2016**, so in fact this 7 October 2020 consultation from the government is a consideration of a second extension of the “interim” solution.
More details about the consultation
The consultation considers two key points:
- Whether GMP conversion as a long-term policy solution should be scrapped and this “interim” solution of full indexation be made permanent
- If not, for how long should the government should extend the full indexation solution, before reconsidering conversion or some other solution?
In considering the options to be put forward, the government not only has to look at how to deliver the promised indexation, but also how equalisation (which is a process to ensure that any inequalities in GMPs due to gender are removed) will be achieved for all. This is where GMP conversion comes in. GMP conversion is a process by which a pension scheme can convert its GMPs into other scheme benefits. It is an approach currently used in the private sector to equalise GMPs.
Conversion as a potential long term solution has already been considered in the government’s previous consultation and was being further considered during the current extension period.
Straight conversion at 1:1 will not achieve equalisation in all cases and further work is required to resolve the complexities around this. In addition, conversion is administratively expensive to achieve, and the further into the future it takes place, the fewer members it benefits.
The following three options are then set out in the consultation.
|Options||Full indexation||GMP conversion (or some other alternative)|
|Option 1a||For members reaching SPA on or before 5 April 2024||For members reaching SPA after 5 April 2024|
|Option 1b||For members reaching SPA on or before some date falling after 5 April 2024||For members reaching SPA some date falling after 5 April 2024|
|Option 2||For all members||Not required|
The reasoning for each is set out in the consultation. Under all of the options above, full indexation would be extended to at least cover all members reaching SPA on or before 5 April 2024. This recognises that, should GMP conversion (or some other alternative) be adopted as the long term solution, this would add significant volumes of work and additional complexities to existing administration processes. However, there is insufficient time to achieve this before 5 April 2021.
The need for a short term solution
A simple solution in the short term is welcomed, given administrators of public service pension schemes will likely be working through resourcing issues, due to the work arising from the £95k cap changes and the proposed McCloud remedy. Hence an extension of the full indexation approach is proposed.
This will ensure that the promise to pay indexation on GMP is fulfilled in the short term and also allows further time to consider a long term solution for those where 1:1 conversion does not provide equalisation, and to re-evaluate if conversion remains appropriate for the remainder.
The end point under options 1a and 1b are the same – there will be some permanent solution in the longer term that isn’t the current full indexation approach. The difference between the two is that more time would be available under option 1b to develop and put in place that permanent solution.
If the answer is option 1a, will there just be another extension of the interim full indexation approach as 2024 nears? Should we just accept sooner that resourcing will be tight and therefore extend it further as proposed in option 1b? Or should the sector aim for an earlier deadline of 5 April 2024 to get a solution in place sooner rather than later for providing the indexation and resolving the inequalities?
In the longer term, fewer members of public service pension schemes will be affected by GMP issues. Accrual of GMPs ceased after 5 April 1997 so, as time passes, fewer members will be retiring with GMP on their pension record. With this in mind, it’s reasonable to ask “if a new solution is put in place in a number of years’ time, how much value will it bring relative to the volume of work it will cause?” This is where option 2 comes in.
"Is the additional complexity and resource requirements of conversion worthwhile if not that many members will be affected by that time? Is it just as well to stick with the full indexation approach, with an alternative solution put in place for just those members for whom inequalities will still remain?"
The issues surrounding GMPs are complex. We would welcome a simple short term solution to 2024 for the LGPS, given the significant amount of work administrators will face in relation to the £95k cap changes and the proposed McCloud remedy. Where the solution heads thereafter will need further thinking and planning, particularly as the possible approach of GMP conversion will not be straightforward as has been evident in the private sector side of things and revealed in the recent investigations for the public sector.
This thinking and planning should take place over the period to 2024, so that the long term solution can be agreed. The consultation opened on 7 October 2020 and will close on 30 December 2020.
Impact on LGPS funding and accounting
At the 2019 valuation, the assumption we made for our LGPS clients was that funds will pay limited increases (statutory minimum) for members that have reached SPA by 6 April 2016, with the government providing the remainder of the inflationary increase. For members that reach SPA after this date, we assumed that funds will be required to pay the entire inflationary increases.
This means that there should not be any further increase in the liability as a result of an extension to the interim solution, as this is already being funded. Similarly, we have adopted the above assumption for employer accounting reports this year so, again, there should not be any further increase in the accounting liability as a result of an extension.
This impact applies only to LGPS funds advised by Barnett Waddingham at the 2019 valuation. It is likely that this will be different for funds not advised by Barnett Waddingham.
If you would like to talk about this topic or have any questions in general, please get in touch with your usual Barnett Waddingham contact to find out how we can assist you. Alternatively, please contact me below.
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