Public sector schemes told to conclude 2016 valuations

The cost-control mechanism had to be paused following the McCloud judgment in 2019. As Pensions Expert reported at the time, the then chief secretary to the Treasury explained that “the potentially significant but uncertain impact of the Court of Appeal judgment” in the McCloud case meant that, at the time, it was “not now possible to assess the value of the current public service pension arrangements with any certainty”.

The suspension affected public sector schemes’ 2016 valuations, which can now be concluded, the Treasury announced on Thursday.

Irwin Mitchell partner Penny Cogher told Pensions Expert: “The objective of the Public Service Pensions Act 2013 is to provide the legal framework for actuarial valuations of the public service defined benefit pension schemes, by establishing a cost-control mechanism to assess the costs of schemes and ensure they remain sustainable for the taxpayer. This objective was blown out of the water when the Court of Appeal decided on its McCloud judgment.”

Without doubt, the public purse will be lighter and this is likely to yet again provoke shrill discussions about the fairness of the public sector pension arrangements compared with those within the private sector, and their overall affordability

Penny Cogher, Irwin Mitchell

The Treasury published amending directions in 2019 to pause the cost cap element of the actuarial valuations while various government departments — as employers for the affected public sector pension schemes— were being consulted about how they would like their scheme changes to be implemented for compliance with the Court of Appeal’s decision, she explained. 

Those departments “have now stated how they would like the decision implemented for their particular public sector scheme and so the Treasury is pushing on with its cost-control framework, which is set out in the new amending directions”, Cogher said.

The Treasury consulted the government actuary, as per its statutory obligations, and completed a consultation earlier this month, she continued.

Now, the government actuary has explained in a letter, also published on Thursday, that the Treasury’s amendments are “technically complete and coherent as regards whether they met the specified policy intentions and objectives”, she said. 

“With this sign-off, the Treasury has issued its new amending directions and by doing so it is allowing the public sector schemes to conclude their valuations by setting out how schemes must carry out the cost-control element of those valuations.” 

Amendments and intentions

In a letter to Conrad Smewing, director of public spending at the Treasury, Martin Clarke, the government actuary, confirmed that the Treasury’s amendments, which seek to unpause the cost-control element of the 2016 valuations, comply with the government’s stated policy objectives, albeit with “some better met than others”.

He noted that, while the provisional results of the 2016 valuations (published before the McCloud verdict was handed down) showed costs in all public sector schemes would have breached their schemes’ employer cost caps, the government has chosen to waive the need for any scheme changes resulting from breaches of the cost-control mechanism ceiling.

Clarke said the result was that “the particular choices [the Treasury] makes over how to amend the directions to account for [the McCloud] remedy can only affect whether or not there is a floor breach and, if so, its size”.

“Indicative 2016 cost-control results based on the latest draft amending directions are that all schemes will now either not breach the cost-control mechanism or will breach the ceiling. This suggests that no member benefits or contributions are expected to change as a result of the cost-control valuations,” he explained.

“However, outcomes will not be certain until valuation reports have been completed and finalised based on the final amending directions. I note that the amending directions do not include any process to be followed if a scheme were to have a floor breach, or if a ceiling breach needed to be rectified.

“If that were to occur, [the Treasury] will need to  consider how to assess or certify the proposed amendments,” he added.

The government had four policy objectives in mind on top of the nine pre-existing objectives for the 2016 valuations. The first was that the amendments reflect “the entire impact of remedy on the cost cap cost of the scheme at this set of valuations”. The second was that the remedy should be subject to the cost-control mechanism and not “unduly reduce” intergenerational fairness.

The third was to “revisit assumptions made in completing the employer contribution rate element of the 2016 valuations only to the extent required to properly reflect the remedy, with no changes being made to the calculation of other elements of the cost of a scheme as assessed for cost-control purposes”.

The final objective was to “aim for a ‘best estimate’ calculation of remedy costs” in line with a clear “no bias” objective.

Clarke found that the amendments “largely” met all four objectives, albeit with one or two caveats, such as the ones that arise from waiving ceiling breaches, some minor methodological inconsistencies with regard to the second objective, and some “tension” between the objectives to give a best estimate as a result of the McCloud remedy while not revisiting any of the assumptions “except as a result of the remedy”.

Drawing a line under the 2016 mechanism

Squire Patton Boggs partner Kirsty Bartlett told Pensions Expert that the Government Actuary’s Department has broadly “confirmed that the changes are technically complete and coherent and that they meet the government’s stated policy objectives”.

“I was interested to see that the government has committed to waive the ceiling element of the cost-control mechanism when it is operated, meaning that in schemes where the cost of remedied benefits is higher than the intended corridor, no changes will be made to either reduce benefits or increase member contributions,” she noted. 

“Those increased costs will instead be considered as part of the next actuarial valuation (which is 2020 for the unfunded public service schemes). As a result of the increased cost of remedied benefits, none of the public service schemes have breached the floor of the cost-control mechanism, so no benefit improvements will now be required (or not for the unpaused 2016 mechanism anyway).” 

Bartlett continued: “It will be helpful to finally draw a line under the 2016 cost-control mechanism so that members and employers have more certainty over the benefits and associated contributions.

“It has taken a long time to get this far and hopefully attention can turn to the challenge of implementing the remedied benefits, as well as assessing the cost of those benefits on a more current basis to ensure the schemes remain viable.”

Cogher added: “It will be very interesting to see what impact in terms of extra costs the McCloud judgment will have on each of the public sector schemes when they finally complete their valuations and those valuations become available for public scrutiny.

“Without doubt, the public purse will be lighter and this is likely to yet again provoke shrill discussions about the fairness of the public sector pension arrangements compared with those within the private sector, and their overall affordability.

“The end result of the Court of Appeal’s McCloud judgment must be that it will be a long time before any of us see the benefits in terms of cost saving of the 2015 public sector pension reforms,” she warned.

However, Charles Cowling, chief actuary at Mercer, said that these technical changes “are minor in comparison with the debate on the discount rate, which is currently inflation plus 2.4 per cent, which compares with a typical discount rate for private sector schemes of inflation minus 1 per cent”. 

“This massive difference in discount rates dwarfs other factors and continues to result in public sector pension costs being assessed as much lower than typical private sector pension costs,” he added.