The Government's hidden cut in pensions
Saturday 07 February 1998
In a surprisingly unnoticed move two weeks ago, the Government indicated it was in effect cutting the pay of half a million people by 0.9 per cent. The cut happened in a now tried-and-tested fashion - by taking it from pensions.
It came in a little-publicised answer, by John Denham, Pensions Minister at the Department of Social Security (DSS), without any public consultation, in a reply to a Parliamentary question on DSS rebates to pension schemes.
A DSS rebate is the amount that goes into a private pension scheme from the government, paid for from every member's national insurance contribution (NIC). It is the part of an employee's pay that goes towards replacing the benefits of the state earnings-related pension scheme (Serps), when staff leave it to join a company scheme.
Until last week, members of "group money-purchase pensions", where a person's retirement income depends on the investment return of their fund - often run by large companies such as WH Smith, Legal & General or Tesco - received a minimum rebate worth 3.1 per cent of earnings.
For someone on the average wage of pounds 19,115, this would amount to pounds 592 over the year. Mr Denham has indicated that from April 1999, this rebate will fall to just 2.2 per cent - or pounds 420. In other words, members of these schemes have just been told they will lose an average of pounds 172 a year.
While members of these schemes will be worse off, holders of personal pensions - those vehicles panned by the Treasury for being too expensive - will now receive substantially bigger rebates if they opt out of Serps. Minimum rebates of 3.8 per cent, which increase with age, would give a member on the average wage a pay boost of pounds 726 a year.
Within the "pensions priesthood" - those who are paid to study the baroque world of UK pensions - many are questioning why on earth the Government has done this.
Doug Johnstone, managing director of actuaries Johnstone Douglas, says: "The rebates are being reduced by one-third at the youngest ages without any satisfactory explanation from the Government as to the reason why. It is a very worrying time for employees who will really need a great deal of explanation and reassurance."
So far, no Government minister has explained the reason for this cut. But the most plausible theory is that it is trying to stop large companies taking advantage of a form of "arbitrage" - switching to the most beneficial option offered within the labyrinthine world of pensions legislation.
Large companies such as Guinness - and possibly up to 70 further companies - have been taking advantage of new laws since the Pensions Act 1995, which came into force last April.
The Act allows the companies to gain a saving worth up to 1 per cent of their pay-roll - a big temptation for any finance director - by manipulating the rules as to how much rebate they should get.
Most large companies run "final salary" pensions - schemes which guarantee an income worth up to two-thirds of a member's salary at retirement. When the government pays the rebates, it pays less to cover expenses involved in running final-salary schemes than it does to other schemes.
How can a finance director raise the amount he receives in rebate? By using different rules. By treating it instead as a group money-purchase scheme - the type run by WH Smith - the company can get much more government money in rebates. The glittering saving, of 1 per cent of payroll, benefits not the members but the company. It has been estimated that if all companies followed this route, the Government could pay out an extra pounds 1.5bn a year. Easy money for the companies and a big loss for the taxpayer.
By cutting the rebate by 0.9 points to 2.2 per cent, Mr Denham has taken the joy out of this game. But has he taken a large sledgehammer to crack a small nut? Pension gurus believe he has also wiped out thousands of smaller schemes which can no longer exist as they are. They must either wind up, or pay much less to their members.
Experts also believe Government generosity towards personal pensions stems from a fear that Gordon Brown's July Budget, which took money from personal pensions by abolishing tax credits on dividends, would cause millions to return to Serps. As long as Harriet Harman, the Secretary of State for Social Security, was struggling to lure people into private, "stakeholder" pensions, this might have been upsetting.
Stephen Cameron, a pensions expert at Scottish Equitable, said: "We believe the rebates were increased to avoid a massive return to Serps by personal pension holders."
Peter Murray, chairman of the National Association of Pension Funds, points out that Mr Denham claimed to have taken into account the advice of the Government Actuary. A copy of the Actuary's report to the minister (placed in the House of Commons library) reveals that he was asked to assume that the only group money-purchase pensions were large ones with cheap operating costs. In fact, said the Government Actuary, the majority were small - and needed bigger expenses. But Mr Denham set the rebates as if they were all big, and cheap to run.
Mr Murray said: "There is a fundamental inconsistency between the Government's declared policy of supporting occupational pension provision and the policies which the Treasury has been pursuing. We will be pressing the Government to hold a consultation [with interested parties]."
`The Independent' has published a `Free Guide to Direct Pensions'. The guide, written by this paper's personal finance editor, Nic Cicutti, is sponsored by Eagle Star. It is available free by calling 0800 77 66 66. Or look out for the coupon on this page.
WHAT TO DO IF YOU ARE AFFECTED
Ask your pensions department if you are in a "group money-purchase scheme". Unlike final-salary schemes, your pay at retirement is not guaranteed. It depends on the level of contributions from you and your employer, plus the pension fund's performance.
Find out whether your employer will increase the amount it pays into the scheme. If it says no, it has in effect cut your wages 0.9 per cent.
Ask your employer to make the same contributions into a personal pension. You will get a bigger rebate. But find a cheap personal pension.
Ask your union to campaign for an equivalent salary hike.
Lobby your MP, or ask your union to do so. And write to John Denham, Pensions Minister, at the House of Commons, London.
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