The Background
On 8 July 2010, the Pensions Minister Steve Webb announced that statutory increases required under occupational pension schemes and the Pension Protection Fund (the “PPF”) would be based on the Consumer Prices Index (the “CPI”) from 1 January 2011, rather than the Retail Prices Index (the “RPI”).
Final Salary pension schemes are required to increase certain benefits in line with inflation:
- most deferred benefits have to be increased with reference to RPI inflation between the date of leaving pensionable service and the date of the member’s retirement (“revaluation”);
- pensions that have accrued (been earned) since 6 April 1997 have to be increased in payment with reference to RPI inflation (“indexation”).
Scheme Rules – the Lottery!
The rules of some pension schemes refer only to statutory increases in benefits, or are silent on increases. For these schemes future increases will be linked to CPI automatically in relation to benefits already earned. However, for schemes still open to future benefit accrual, trustees may petition employers to adopt RPI as the basis for indexation and revaluation of future service benefits.
There has been a year of uncertainty for schemes whose rules refer specifically to the RPI for increases: would they be able to amend their rules to adopt CPI-linked increases to accrued benefits? The Government has now published its response to a consultation on this subject and has confirmed that:
- such schemes will not be able to adopt CPI in relation to accrued benefits, because the effect would be to reduce accrued benefits which would, in turn, reduce members’ trust in pension schemes;
- a change to adopt CPI in relation to future service benefits will become a listed change for the purpose of the employer consultation requirements, so members will have to be consulted about any such change at least 60 days before the change takes effect;
- schemes whose rules link pension increases to RPI will not be required to pay CPI in years when that index gives a higher increase;
- the Government intends to table an amendment to the Pensions Bill so that the CPI underpin also does not apply to revaluation in deferment.
Comment
This change has been particularly badly thought through. One gets the impression that Steve Webb announced first and left the Department for Work and Pensions to think later! When statutory indexation and revaluation were first introduced there was no concept of a CPI, so it is understandable that the drafters of some rules referred to RPI rather than to a particular section of legislation. The result is now a lottery of drafting that leaves some schemes able to take advantage of the change and others not.
At the same time the effect for those who can change is invidious, dividing the interests of employers and trustees still further. A change to CPI may be expected to result in lower benefits for members over time, equating to a saving in cost for employers. While it may seem fair that employers be given a break after so many years of Government-imposed additional costs, it is ridiculous that:
- an accident of drafting should leave many schemes unable to take advantage and
- the impact on members will be a reduction in their expectations, those expectations having been raised by Government in the first place!