Public sector pension changes - how will you be affected?
The shape of retirement is to change for millions of people from April 2014. The changes are part of a radical overhaul of public sector final salary pension schemes.
The government says public sector schemes are unaffordable in their current form because people are living – and drawing pensions – for longer. In 1970, the life expectancy of a 60-year-old was a further 18 years: this has now risen to 28 years. The cost of public service pensions has risen by more than a third in the 10 years to 2008/09 to £32 billion a year.
Changes to the structure of the public sector pension schemes introduced in the Public Service Pensions Act will save an estimated £430 billion over the course of the next 50 years.
Working longer, paying more
But these savings don't come without a cost: members of the pension schemes will have to work longer, in most cases contribute more, and in some cases accept a lower pension than they would have received under the previous system.
The Pensions Policy Institute has calculated the average value of the four main public service pension schemes – the NHS, civil service, local government and teachers' schemes – will reduce by more than one third from 23% of the scheme member's salary before the reforms to 15% after.
Negotiations between the unions and government have been fierce, however, the institute has pointed out even after the reforms, the benefits offered – by the largest four schemes at least – are still more valuable on average than those offered by the defined contribution schemes most commonly offered in the private sector.
Career average pensions
The most important reform in the Public Service Pensions Act is that public sector pension scheme members will be transferred to new “career average pension schemes”. These link benefits to the scheme member's pensionable earnings for each year they work for that public sector employer. The government says this is a much fairer structure for those who earn flat incomes throughout their careers. It will also enable people to take on less demanding roles towards the end of their career without drastically affecting their pension income.
Final salary schemes, which link benefits to pensionable earnings in the last few years of work, enable high-fliers who are promoted to senior levels at the end of their careers to get almost twice as much pension for every £100 they contribute compared to those on flat career paths.
Sector wide changes
Several other rules and reforms are the same for all the new schemes. These include:
- People who have already retired and started drawing their pension from one of the public sector schemes will see no change.
- Benefits already accrued through existing contributions up until the scheme rules change will not be affected.
- Scheme members within 10 years of their pension age on 1 April 2012 will not be affected by the changes. Their benefits and retirement age will remain the same.
- Tapered protection will be applied to those who are a few years beyond the 10-year cut-off period. This will give members an additional 53 days of final salary benefit for each month they are closer to qualifying for full protection.
- Increases in the pension paid out will be linked to the CPI index rather than earnings.
However, several important details vary, including the age at which members can draw their pension income, the rate at which their pension benefits build up (known as the accrual rate) and the date when the changes come into effect. The impact on individuals will also differ considerably depending on their age, when they joined the scheme, their salary and their career progression.
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Find out how your public sector pension scheme is changing by clicking on the links below…
Final salary pension
A defined benefit pension scheme is one where the payout is based on contributions made and the length of service of the employee. A typical scheme would offer to pay one-60th (0.0168%) of final salary (the one you’re earning when you finally retire) for each year of contributions to the scheme (even though these years were probably paid at a lower salary). Someone retiring on a final salary of £30,000 who had been a member of the scheme for 25 years would receive a pension of 42% of their final salary (£12,300 a year before tax). Sadly, many companies are winding up their final salary schemes or closing them altogether, meaning pension benefits accrued after a certain date (or those available to new employees) may be on a less generous money purchase basis.
The Consumer Price Index is the official measure of inflation adopted by the government to set its target. When commentators refer to changes in inflation, they’re actually referring to the CPI. In the June 2010 Budget, Chancellor announced the government’s intention to also use the CPI for the price indexation of benefits, tax credits and public sector pensions from April 2011. (See also Retail Prices Index).