Pensions

Pensions are an important element of the employment contract between the 240 colleges in England and their 150,000 people (111,000 full-time equivalent staff). Colleges participate in two very large public sector schemes: the Teachers' Pension Scheme (TPS) and the Local Government Pension Scheme (LGPS). Their participation is governed by law and there are both recent and forthcoming changes to both schemes.

Colleges, TPS and LGPS

Staff who are employed by colleges are entitled in law to join either the Teacher Pension Scheme (if they have a teaching role) of the Local Government Pension Scheme (in any other role). Membership is not compulsory - individuals can opt out of membership - but auto enrolment rules require all employers above a certain size (including all colleges) to enrol staff in pension schemes unless they opt-out. This chart summarises the key points about membership 

The LGPS scheme following the 2014 reforms

The LGPS scheme was reformed between 2011 and 2014. Information on the current scheme is available here  or on the websites of the individual funds.

The TPS scheme following the 2015 reforms

The TPS scheme was reformed between 2011 and 2015. Information on the current scheme is available here

Forthcoming changes following the McCloud judgement

The Treasury recently consulted on action across public sector schemes to rectify the age discrimination judged to have happened in the court of appeal judgement on the McCloud case. This is a complicated issue but here are the key points:

  • on 20 December 2018), the Court of Appeal held that the transitional provisions introduced in the 2015 public sector pension scheme reforms resulted in unlawful age discrimination. The cases related to judges (Mccloud) and firefighters (Sargeant) but, in July 2019, the Chief Secretary to the Treasury confirmed that the government would make changes to all public sector schemes to eliminate age discrimination.
  • the 2015 transition protections protected those who were less than 10 years from their normal pension age as at 31 March 2012 from the reforms by ensuring they have the same benefits as if the 2015 reforms hadn't happened. 
  • the overall government idea is to extend the protection to all people who were in the scheme in 2012 (ie to allow them final salary benefits rather than average salary ones) but this is not straightforward because some people are better off in the new schemes. There will therefore be a choice.

TPS McCloud ("option to revert to final salary for 7 years to be taken either in 2022 or when pension starts")

The McCloud changes in the Teacher Pension Scheme are covered in HM Treasury's consultatiion published on Thursday 16 July 

  • the consultation suggests two options for giving the 3 million public sector pension members a choice about whether to keep their post-2015 career average pension accrual or replace it with final salary accrual (thus joining the older members who were given transitional protection). The document describes these options as immediate choice (decision required in 2022) and deferred choice (decision made when pensions are drawn down).
  • the consultation ran until October 2010. Government will then need to legislate to implement the decision. The Treasury also explain that this legislation will include clauses to move all future (post-April 2022) service across to a career average basis. 
  • the Treasury will also lift the cost cap suspension that they put into effect, thus allowing the Government Actuary Department to recalculate the figures. It was the cost cap mechanism combined with a lower discount rate that contributed to the 7 point rise in TPS employer contributions from 16.48% to 23.68%. Despite the suspension in 2019. Treasury nevertheless fixed the employer rate at the higher level for the 4 year period up until March 2023. The next change to the employer rate in education is likely to come into effect in September 2023 and will be influenced by a cocktail of unknowable considerations (future decisions on the discount rate, the cost cap calculations, the impact of this latest set of reforms).
  • the consultation quotes an estimated £2.5 billion a year in additional pension payments between 2015 and 2022 - adding 6% to total payments each year (and probably more to liabilities).

AoC's response to this consultation is here 

 and here is the joint employer response to the same consultation  which asks for a no change approach to the discount rate. If our views are disregarded, another approach might be to push for an extension to the deficit recovery period (currently 15 years). 

LGPS McCloud ("extend the underpin until 2022")

The Ministry of Housing Communities and Local Government is taking a different approach to the Local Government Pension Scheme. Its July consultation is here. In contrast to the approach taken in the unfunded schemes like the teacher scheme, the proposal for LGPS extends the underpin which ensured that people retiring for ten years after the reform did not lose out compared to a final salary entitlement. This approach will only cover some employees but, importantly, will make no difference to someone currently in the scheme who does not leaves it after 2022. This approach is cheaper for the scheme and is possible because LGPS has different regulations. MHCLG describe the additional estimated costs (£2.5 billion) as 4-5% of costs of expected benefits between 2014 and 2020 and half that (ie 2-2.5%) if pay growth is a third lower than the pay growth assumption (CPI+2.2%).  The figures are large but don’t feel as sizeable as previously and, presumably, there might be a bigger impact in the 2023 from our current very low interest rates.

TPS employer contributions since 2019 following the valuation as at 31 March 2016

The employer contribution that colleges, schools and post-1992 universities pay to the Teacher Pension Scheme rose from 16.48% to 23.68% in September 2019 - an increase of more than 40%.

Key points about this increase:

  • A 23.68% employer contribution from September 2019: All TPS employers will pay the higher 23.68% contribution from September 2019. The contribution includes a 0.08% levy to pay for administration. The underlying rate rises by 43% from 16.4% to 23.6%. There was no change in the income-related contributions that teacher pay, which average 9.6% of salary and which range from 7.4% to 11.7%.
  • Increases across all public sector schemes: There were increases across all public sector schemes from April 2019. The NHS employer contribution is rising from 14.3% to 20.6%. The Civil service contribution is rising by about 6% to between 26% and 30%, Police, firefighter and other contributions also rise. The teacher increase was deferred to September 2019 to make budgeting easier.
  • New actuarial valuations prompted the employer contribution increases: The increases follow valuations carried out by the government actuary. The valuations are covered by law (the 2013 Public Sector Pensions Act) and are based on Treasury directions. A key change in this round of valuations is a reduction in the discount rate (known as the SCAPE rate) from CPI+3% used in the last valuation to CPI+2.4% from 2019 onwards (see Treasury written statement from 6 September 2018).The previous plan (announced in the Spring 2016 budget) was to use a discount rate of CPI+2.8% in this valuation.
  • £5.7 billion in extra employer contributions: These increases amount to an estimated £5.7 billion in extra costs for employers (see Pages 227 and 231 of the Office of Budget Responsibility October 2018 economic and fiscal outlook. The Treasury runs these schemes on a pay-as-you-go so the extra contributions are recorded as income in the national accounts and result in a reduction in net public sector pension spending from £12.6 billion in 2018-9 to £6.7 billion in 2019-20. The breakdown of public service pension scheme expenditure and receipts is in Table 4.8 of the Office of Budget Responsibility's March 2019 supplementary fiscal tables.
  • £4.7 billion in funding to cover costs up until 31 March 2021 year only: HM Treasury allocated £4.7 billion in the 2019-20 budget to cover costs in schools, colleges, the NHS and elsewhere. The longer-term deals for the NHS and schools have included funding for pensions but, for the civil service, police and colleges, there is no certainty about funding after 31 March 2021.
  • Funding for schools and colleges in 2019-20DfE distributed a Teacher Pension Scheme Employer Contribution Grant (TPSECG) to schools and colleges for the 2019-20 academic year to fully fund them for the extra costs and has now consolidated the school funding within the core rate. In 2019, DfE estimated the schools funding would cost £880 million and the college funding £80 million. DFE has decided not to funding the 79 post-1992 universities and higher education institutions that are in TPS.  The money was originally only certain for 7 months (up to March 2020) because that was the end of the spending review period but Sajid Javid’s September 2019 round extended the teacher pension grant for colleges for 12 more months (April 2020 to March 2021) while giving schools a 3 year funding settlement which included TPS grant for 3 years. This takes schools up to March 2023 which is the year when the employer contribution will next change. DFE has used the fact that they have a 3 year funding settlement to consolidate the school TPS grant (which was already allocated on a per-pupil basis) into core revenue funding.
  • Questions about the sustainability of TPS: The increase in employer costs mean the education system will start the 2020s with a Teacher Pension Scheme which is more expensive than arrangements in the private sector but not compared to central government . The public sector pension reforms implemented in 2007 and 2015 reduced long-term costs in some ways by increasing the pension age (deferring retirement) and changing the basis on which pensions are indexed (from RPI to CPI) but long-run costs have increased. Low economic growth appears to have resulted in permanently lower interest rates. The switch to career average calculations of pensions seems to have made on a cost neutral basis. Meanwhile the cost cap mechanism put in place in the reforms protects staff but at the cost of higher contributions for employers. Finally, the 2015 reforms are being rewritten because of a Court of Appeal judgement in the McCloud judgement. There is no reason why the education system cannot manage with a higher 23.68% employer contribution rate but only if public spending on education is set at a higher level. HM Treasury's current spending plans imply limited increases in the education budget and there are lots of other pressures so there is a risk that higher pension costs will reduce the money for other things (eg pay levels, the number of people employed)
  • The next valuation and the 2023 contribution changes: The next round of public service pension valuations will assess schemes as at March 2020 and will determine contribution rates and benefits from April 2023 onwards. In correspondence with HM Treasury, the government actuary gave several hints that contributions might rise again in 2023 - because the CPI+2.4% discount rate is both above the private sector discount rate and current official economic growth forecasts and because the cost cap mechanism might be breached again (Pages 14, 42 and 43 of this correspondence). The reduction in the discount rate from CPI+3% to CPI+2.4% in the most recent valuation caused a 3.7 percentage point rise in the employer rate. An HM Treasury decision to use a lower discount rate in the next valuation (which assess schemes as at 31 March 2020) could easily take the TPS mployer rate up close to 30% from September 2023 onwards

AoC has raised the need to extend the college TPS grant into every budget and spending review submission we’ve written while also pushing for 3-year funding. AoC is consulting colleges on 2020-1 pay recommendations for FE colleges. The uncertainty about pensions has an obvious knock-on effect for the 2020-1 pay increase decision which is one of the few variable costs in college budgets. 

 LGPS employer contributions since 2020 following the valuations as at 31 March 2019

The Local Government Pension Scheme is revalued on a three year cycle. Each fund commissions an actuary to assess its assets and liabilities and to recommend employer contributions in line with the fund's strategy statement. The most recent valuation took place as at 31 March 2019 with contribution changes taking effect for a 3-year period from April 2020 onwards. This was just before the 2020 pandemic hit and the national results of the valuation were:

  • total fund assets were £291 billion compared to total fund liabilities of £297 billion
  • the total fund deficit was £6 billion in 2019 compared to £37 billion in the 2016 valuation
  • the average LGPS funding level rose from below 90% to 98%

Some colleges nevertheless experienced a rise in employer contributions in 2020 for one or more of the following reasons:

  • the circumstances of their fund were less positive than the national average
  • contributions rose to cover increased estimates of future service
  • their fund decided to reduce the deficit recovery period

Interest rates, stock market prices and property prices have all fallen and fluctuated in 2020 in a way that has changed the circumstances of individual funds. The next valuation will take place as at 31 March 2022 and will lead to employer contribution changes from April 2023 (ie start of summer term in the 2022-3 academic year).

Pension tax rules

In the last ten years, government has restricted the pension tax relief by introducing an annual allowance (AA) and lifetime allowance (LTA). This mainly affects people on higher incomes, rising pay and longer service by requiring them to pay tax if their annual or lifetime pension entitlement exceed these thresholds. Changes introduced in 2015-6 have brought more people within scope of these rules. For defined benefit schemes like TPS and LGPS, the pension administrator notifies individuals each autumn of the value of their entitlement and their pension input amount (PIA). If the total entitlement exceeds the lifetime allowance or the PIA exceeds the annual allowance, then it is the individual’s responsibility to settle any tax due via their income tax self-assessment. There is a “scheme pays” option in both TPS and LGPS which defers the tax payment until the pension is drawn.

Individuals should take financial advice before making major decisions affecting their own finances. This paper from Royal London (written for financial advisors) explains options for individuals in helpful detail.

Some principals and chief executives of colleges have either decided voluntarily to withdraw from membership of the relevant scheme or have agreed different employment arrangements with their governing bodies which change their pay arrangements, perhaps by reducing their hours. The cost of the additional taxation has prompted some individuals to retire earlier than they might otherwise have done. A governing body may decide that it wishes to take action to retain and motivate individuals. 

Governing bodies need to follow proper processes in deciding senior pay and operate in an environment requiring more transparency. It is reasonable to consider an alternative pay and pension arrangements to ensure they retain a senior postholder. Any decision should be taken – and recorded – in a way that addresses ESFA and OfS requirements.