UK Final Salary Pensions Under Threat from Erosion

The UK House of Lords will soon consider scrapping final salary pension boosting measure

The Lords Economic Affairs Committee has launched an inquiry into whether the retail price index (RPI) should be scrapped as a measure of inflation, a move which would make a huge dent in defined benefit scheme pensions.

In 2010 the government dropped RPI as an official inflation measure, switching to the consumer price index (CPI).

This discussion is making a comeback, with people such as the Bank of England governor Mark Carney arguing that CPI should be only one measure of inflation used by the government, which still uses RPI in some cases, such as rail fares.

There has been a long-term debate in the defined benefit (final salary) pension sector about switching inflation measures, with the High Court recently denying BT’s (the telecoms company’s) request for this change.

Final Salary schemes can change to the CPI, as long as its own rules don’t specifically mention RPI.

Final salary members’ benefits would decrease by £80-90bn if their pension schemes were allowed to switch from the outdated RPI, according to data from the Department for Work and Pensions (DWP).

The Lords want to find out what are the reasons to keep RPI as an inflation measure, and what impact changing it would have on the people and organisations who use it.

The committee is hearing witnesses in two hearings taking place 12 June at parliament, expecting to conclude the inquiry before summer recess.

RPI rose by 3.6 per cent in the second quarter of 2017 and is expected to be hovering around the 3 per cent inflation mark by 2020, according to the Office for Budget Responsibility.

CPI inflation, in contrast, was 2.7 per cent in the second quarter of 2017 and is expected to be levelling out at the 2 per cent mark by 2020.

Pension schemes use inflation for two measurements: revaluation, the period from when the member leaves the scheme up to retirement; and indexation, which measures how much a pension goes up each year in retirement.

According to Sir Steve Webb, director of policy at Royal London and former pensions minister, there seems “little doubt that the RPI is a poor measure of inflation, and even the official statisticians accept this”.

He said: “The challenge with moving to CPI for occupational pension schemes is that it would set a dangerous precedent to break previous promises on accrued rights, by over-riding scheme rules.

If adopted it would be a direct attack on people’s final salary benefits which are typically deemed to keep pace with inflation at seemingly quite generous levels, the end result will see an erosion of wealth and consequent lifestyle during retirement years.

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