April 2006 Changes to the LGPS in England and Wales

Information for employees on proposed changes to the LGPS in England and Wales

Note to employer: Please check with your pension Fund Administering Authority before using this note for employees.

NB: This document is only for use until the actual Regulations introducing the Scheme changes have been issued (which is expected to be during March 2006). An updated note will then be issued.

The Local Government Pension Scheme (LGPS)

What’s been happening in England and Wales?

You may have seen information in the media recently or received information from a union about proposed changes to the Local Government Pension Scheme (LGPS) and will naturally be concerned about how these changes to the Scheme may affect you. This leaflet is designed to help clarify what the proposals mean for you and the reasons for the changes.

How good is the Local Government Pension Scheme?

The Local Government Pension Scheme is a good quality pension scheme and is:

a statutory scheme which means the benefits you have built up in the Scheme are guaranteed;
a defined benefit final salary scheme which means that the pension benefits you receive on retirement will be a proportion of your final pay, the proportion being calculated by reference to how long you have been in the Scheme. Your benefits do not depend on the investment performance of the scheme;
a funded schemewhere the cost of providing the pension benefits is met by employee and employer contributions, with employers meeting a large share of the cost. On average, to meet the cost of the pension benefits you are currently accruing, your employer pays over twice what you pay.

Why are changes to the LGPS being proposed?

The principles underlying the present Scheme have been in place since 1974 and were designed to meet the cost of paying a pension for the average member's life expectancy at that time. Since then, life expectancy for men has increased by nearly a third and for women by nearly a fifth. The average UK life expectancy for a man retiring at age 65 is now 16 years and for a woman it is 19 years. This trend is increasing and, over the next 20 years, average UK life expectancies are expected to increase by another 3 years. Not only that, but pensioners who retire from the LGPS in normal health are likely to live for between 2 and 4 years longer than the UK average.

This is great news but it means that the cost of providing pensions in a defined benefit final salary scheme like the LGPS has risen, because the pensions will be paid for longer.

There have also been a number of major improvements in benefits for Scheme members since 1974 (e.g. opening up access to the scheme to all employees, introduction of widowers and civil partners pensions, spouse’s pensions payable for life, increased lump sum death benefits, better children’s pensions, entitlement to benefits after only 3 months in the Scheme).

As employers pay a large part of the cost of the LGPS, the improvements in benefits and in life expectancy is costing employers, and hence council tax payers, more money.

Historically high investment returns between the 1970's and 1990's had helped to mask the underlying rising costs but falling investment returns and the ever increasing life expectancy means that all parties now have to face up to the reality of the situation. If scheme members will be drawing more out of the Scheme because of rising life expectancy, it is only reasonable to expect them to meet some of the extra cost. The changes proposed by the Government are designed to address the situation whilst fully protecting all the benefits that employees have already accrued in the Scheme. This will ensure that the scheme can remain affordable whilst still providing a good level of pension benefits for current and future employees.

What is the role of the Tripartite Committee?

Representatives of the employers, the unions and the government – known as the tripartite committee - have been in meetings to find a way forward.

Regulations have been now been drafted that would amend the Scheme in England and Wales. The proposed changes, which are outlined below, are intended to stabilise the future cost of the LGPS and to ensure a good defined benefit pension scheme can be retained in the future.

What changes are being proposed for the Scheme in England and Wales

Phasing out the 85-year rule

The normal retirement age for scheme members is already age 65 but employees can voluntarily retire from age 60 onwards (or from age 50 and before age 60 with their employer’s consent). This is not changing but changes to what is known as the 85 year rule are proposed.

The 85-year rule is simply a rule that determines whether pension benefits paid before age 65 are subject to an early retirement reduction. Currently, if you voluntarily retire before age 65 and your combined age plus scheme membership (in whole years) equals 85 years there would be no early retirement reduction applied to your benefits. For example, there would be no early retirement reduction applied to the benefits of an employee retiring at age 60 if the person had 25 years scheme membership (age 60 + 25 years membership = 85).

The Government’s current legal advice is that the 85-year rule will be in breach of Age Discrimination legislation which comes into force on 1st October 2006. It is therefore proposed that the 85-year rule should be removed in respect of benefits you build up in the Scheme after 30th September 2006. This will mean that if you retire before the age of 65 your benefits may be reduced in respect of the benefits you build up in the Scheme after 30th September 2006.

It is important to note, however, that all the benefits that you have banked in the Scheme up to 30th September 2006 will not be affected nor will the benefits of pensioners and deferred pensioners who left before 1st October 2006.

Scheme members who will be aged 60 or over by 31st March 2013 might get additional protection from the change to the 85 year rule but the exact form of any transitional protection is still under discussion.

The proposed change will have no affect if you draw your pension at age 65, or if you are retired on the grounds of permanent ill health, nor if you are retired on or after age 50 on the grounds of redundancy or efficiency of the service. Pension benefits in these circumstances will continue to be paid, as now, at an unreduced rate.

The proposed change to the 85 year rule will also not affect you if you choose to draw benefits before age 65 and you can not get 21 years membership in the Scheme before age 65 (because you would not, even under the current rules, have been able to meet the 85 year rule before age 65).

As you can see many members will not be affected by the proposed change and those existing members who will be affected will have full protection for the benefits they have built up in the Scheme at 30th September 2006 (with, possibly, additional protection for older members). Only employees joining the Scheme after 30th September 2006 will be wholly affected by the change.

Even if you are affected by the change it is proposed that you will, if you so wish, be able to nominate a retirement date between age 60 and 65 and pay extra contributions to offset any reduction to benefits paid before age 65. So, by paying extra contributions you could still retire before age 65 with an unreduced pension. Full details on the cost are not yet available.

Tax simplification

The following changes are likely to take effect from 6th April 2006 and result from a simplification of the tax rules that govern pension schemes:

flexible retirement is to be permitted at or after age 60 - this means that,

rather than continuing in your job to 65 you could, with your employer’s consent, reduce your hours or move to a less senior position and draw your accrued pension benefits whilst continuing in employment and building up further benefits in the Scheme. This will enable employees to ease into retirement.

you will be able to take up to a maximum of 25% of the capital value of your pension benefits as a lump sum (the current lump sum which is automatically paid on retirement roughly equates to 15% of the capital value). Any amount taken above the current lump sum would be achieved by exchanging part of your annual pension for a one off tax free cash payment at a rate of £12 lump sum for each £1 of pension given up.
the current 15% limit on employees’ contributions is to be removed so you can pay more into the Scheme or into the Scheme’s additional voluntary contribution arrangement in order to get bigger benefits from the Scheme.

The earliest age at which benefits may be paid on the grounds of redundancy or efficiency is to remain at age 50 - but will have to increase to 55 by 2010.

Other changes that are likely to come into effect from 6th April 2006

employees will be able to join the scheme at any time until age 75.
employees will be able to choose to remain in the scheme until age 75.
if you defer drawing your pension beyond age 65, your pension benefits will be actuarially increased.
the ability to surrender (give up) part of your pension to provide a dependant’s benefit over and above the standard spouse’s, civil partner’s or child’s pension will be removed - but the normal survivor benefits for widow’s, widower’s, civil partners and eligible children are not being changed.
pensions coming into payment from 6th April 2006 in respect of children who are continuing in full time education or training will have to cease by age 23.
the maximum number of extra years of service (added years) you will be able to purchase in the Scheme by paying additional pension contributions will be limited to 6 2/3rd years.
the ability to convert some or all of the tax free lump sum paid to you on retirement into additional taxable pension is to be removed.
the maximum service limit of 40 years (or, for those who joined the Scheme before 1 June 1989, the maximum of 40 years at age 60 and 45 years at age 65) will be removed.
the contribution rate for buying a period of service when a Scheme member is on strike will reflect the full cost of purchasing that service.

Is the LGPS the only scheme that is making changes?

No. You will be aware from press reports that in both the private and public sector, changes are having to be made to reflect the increasing longevity of scheme members.

Why are changes to the LGPS being made separately from the changes in the other public sector schemes?

Unlike the other public sector pension schemes, which have a normal retirement age of 60, the LGPS already has a normal retirement age of 65. The LGPS does, however, quite uniquely within the public sector schemes, have the 85 year rule. The Government’s legal advice is that this rule has to be removed in order to comply with the forthcoming Age Discrimination legislation. The LGPS is also unique compared to the other public sector pension schemes in that it is a funded scheme i.e. it has real pension funds into which employee and employer contributions are made, which are invested, and from which benefits are paid. It is important that changes are made to the Scheme to stabilise the pension costs from the earliest opportunity in order to protect the future of the Scheme for both current and future employees.

Is it true that the changes will generate large savings?

The removal of the 85 year rule may reduce the employers’ contribution rate by between 1.5% and 2% in the long-term and the facility for scheme members to opt to give up some of their pension in return for a bigger tax free lump sum on retirement might save a further 0.3% (depending on the number of members who make such an option). However, these savings are necessary in order to deal with the increasing cost of pension provision.

It is estimated that full protection against the changes for all existing scheme members, which is what the unions are seeking, would cost employers £5.5 billion over the next 15 years.

Is it true that changes are occurring because a number of local authority pension funds are in deficit?

No. The changes are occurring to counter the rising cost of providing pensions to Scheme members.

What is the overall effect of the proposals?

To control the increasing cost of the Scheme, the proposals would mean some scheme members would receive a bit less if they choose to retire before age 65 – but remember it is payable for longer due to the fact that people are living longer – or, alternatively, they could pay more or retire later in order to receive full benefits.

The proposals also offer employees extra flexibility and choice e.g. by providing for flexible retirement, thereby moving away from the current retirement “cliff-edge” (in work one day, retired the next).

Remember - these are proposals only at this stage and are currently being consulted upon.

Any amendments made to the Scheme following the consultation are expected to be made as actual regulations in March 2006.

It’s changing – but it’s still a good Scheme

Don’t forget that the LGPS is still an extremely good Scheme compared to most schemes in the private sector and is a valuable part of your pay and reward package. It is a good quality pension arrangement created especially for employees working in local government and connected employers and has many features: -

Employer subsidised - Your employer, on average, pays over twice as much into the LGPS as you do.
A guaranteed pension - The Scheme provides you with a secure future income, independent of share prices and stock market fluctuations. Your pension will also receive regular cost of living increases when in payment.
Tax-free lump sum on retirement.
Early retirement - You can choose to retire from age 60 (or earlier with the employer’s consent) and receive your benefits immediately, although they may be reduced for early payment (unless, under the proposed arrangements, you have paid extra contributions to “buy-out” the reduction). Unreduced benefits are payable immediately if you are made redundant or retired in the interests of efficiency when aged 50 or over.
Ill-health retirement – at any age. If you ever become permanently unable to do your job, you could receive immediate ill-health benefits.
Death benefits – Lump sum life cover oftwo years pay from the moment you joinand widow’s / widower’s / civil partner’s / children’s pensions in the event of your death.

Proposals for a new pension scheme in England and Wales.

Alongside all of the above, discussions are beginning between the Government, unions and employers on a new-look local government pension scheme for 2008. It is expected that a formal consultation exercise on what the new scheme may contain will begin in November 2006, with the new scheme coming into force in April 2008.

Developments in Scotland

The Joint Secretaries (COSLA, Unison, GMB and TGWU) of the Scottish Joint Council for Local Government Employees issued a statement on 7 July 2005 regarding the review of the LGPS in Scotland in which they said “We believe that the SPPA, COSLA and the trade unions should work together to develop future pension arrangements for Scottish local government which remain both financially sustainable and a valued benefit to the workforce." In recognition of this, the Scottish Public Pensions Agency (SPPA), the Convention of Scottish Local Authorities (COSLA) and the unions have convened a working group to consider how to take forward possible changes to the Scheme in Scotland.

In mid January 2006 the Minister for Finance and Local Government Reform announced that the Scottish Executive intends that the Rule of 85 will be removed with effect from 1 October 2006 in order to ensure compliance with the EC Equality Directive and to help maintain the sustainability and affordability of the Scottish scheme. Where it can be objectively justified consideration will be given to providing transitional protection to those existing scheme members who might have qualified to receive an unreduced early pension under the Rule if it was not removed, and who may not have sufficient time to make alternative savings plans for their retirement.