There has been talk recently about the ridiculously high salaries that some Local Authority employees are enjoying. There is another issue which, because of its somewhat technical nature , is not often discussed. It is the way that Local Authority pensions are administered.
Most of us have heard about the so-called Final Salary Pensions – they are also sometimes known as Defined Benefit schemes. They are called that because an employee knows how much pension he or she will obtain or retirement and how it will be calculated.
The amount of pension depends on the salary in the last year of service – the year leading up to retirement. It is paid as a proportion of that year’s salary and depends on the number of years service.
What is not generally known is the fact that pensions are very often artificially boosted by two main methods – the first may be construed as “naughtiness with intent” and the other one seems quite OK but is sometimes abused.
Let us assume that the final year’s salary (in the year before retirement) of the Head of Meetings at Smallville City Council is £150,000 and that his pension, based on service should be £75000. The first scam is that in his last year he is given a couple of spurious additional jobs and job titles which increase his final year’s salary by say, £30,000. His final year’s salary becomes £180,000, thus making his pension £90,000 per annum.
Secondly, an employee can purchase “added years”. That simply means that if he has worked for say 30 years , for a small outlay, he can buy fictitious years which make his length of service look longer for the sake of the pension calculation. That 30 years can become 36 years! If he or she opts to purchase “additional years” and then suddenly retires through ill-health, then that benefit is preserved in the pension calculation even though it has not been fully paid for. There is also the scope to add these years for the sake of a pension calculation when an individual is made redundant.
(Have you noticed the high number of “ill health” retirements among public sector workers?)
The rules are changing very soon but instead of added years employees will be able to boost their pension by as much as £5000 per year.
I think that it would be an excellent idea to look into how public sector executives’ salaries increase in their final year of service.
Strange how private industry is having difficulty in funding this type of pension whereas the Public Sector employees have a seemingly bottomless pit funded by tax and local rates payers.
For all the talk of reducing departmental budgets by 25% or even 40%, the area that will really cripple this country if left unchecked is public sector pensions.
Lord Hutton has produced a report that has given the following recommendations:
Pensions should accrue benefits at one 80th of final pay for every year an employee is a member of the scheme, not 60ths. This would cut the cost by £10bn a year. In fact, some public sector pensions are already 80th schemes.
(Any scheme which is expressed in such fractions is very simple to explain – although it does look quite technical. an 80ths Scheme is one where a member (employee) is awarded a pension of 1/80th of his final salary for each year that he or she has been a member of the scheme. For instance, if the last year’s salary is £50,000 and that person has been in the scheme for 20 years, the pension will be 20/80ths (a quarter) of £50,000 which is £12,500.
Public Sector salaries are too high and people are living too long for the taxpayer to fund this type of scheme.
Lord Hutton recommends an increase of the pension age for all members. That is calculated to save £5billion per year. He also recommends a short-term option of increasing employee contributions. That will raise up to £2bn a year.
The government is also considering hybrid schemes – a mixture of defined benefit and defined contribution pensions. Defined contribution means that a pre-defined percentage of salary is paid into a pension fund and this money is invested on behalf of the member. The amount of final pension depends on factors such as Stock Market performance. Most private pensions are defined benefit (sometimes called Money Purchase Schemes). Monthly contributions are paid into a fund, the fund is invested on the member’s behalf and the amount of pension depends on how much is in the fund on retirement.
The downside is that we are all too aware of what can happen to a pension if you happen to be retiring when share prices have crashed, although Pension Fund Managers are supposed to invest in less risky sectors as a member is approaching retirement. This does NOT always happen.
This is the area of reform which is most fiercely opposed by the Unions.
Some experts believe that the government has been “spooked” into unnecessary action and has announced the proposed changes prematurely. According to the independent Institute for Fiscal Studies, pensions are set to fall in relation to the size of the economy over the next half-century from 1.8 per cent of national income to 1.4 per cent).
So the “burden” will shrink.
The REAL problem for future governments will be caused by public sector pensions being “unfunded”. That simply means that there is no pension “pot”. That in turn means that the Government must pay the bill however large it gets. In other words, successive governments have not been “saving” in order to provide their employees’ future pensions.
(One question which the Unions ought to be asking the government is “How much of our pensions have you got left?”) The fact is that for years now, governments have been deducting pensions contributions from public sector employees and spending the money.
That is why the government is now asking its own employees to make an additional payment of 3.2% of salary by 2014, with an exemption only for those on less than £15,000, and a rate of 1.5% for the £15,000 to £18,000 salary range.
Everyone will be asked to work longer. At present public servants can retire at 60. This will gradually be brought up in line with the age when people become eligible for the state pension – age 66 for everyone by 2020. The armed forces, police and fire service would, however, be exempt.
Finally, the “Final Salary” will not be used to calculate a pension. Instead, it will be based on a “career average”.
Of course, new pension rules will mean that the government will have to fight hard in order to control public sector salaries because , in order to maintain decent pension levels, the public sector unions will want to ensure higher salaries. That will undoubtedly and inevitably lead to further Union/Government conflicts.
In spite of all of the above, it does seem that the government is in too much of a hurry and appears a little too keen to adopt Lord Hutton’s recommendations without proper consultation.
It has also made the mistake of adopting an over-officious tone and has not bothered to “sell” the changes to those affected.
The British don’t like that. There will be blood.