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PENSION REFORM |
By
James Nelson
Fellow the Faculty of Actuaries in
Scotland
President
British Australian Pensioner Association Incorporated
· Unstable past influenced too much by party politics.
· Need for stable pensions future leading to sound and predictable income in old age.
· The quantum of pension should be set at a level designed to minimize reliance on means tested benefits.
· Quality of life at least as important as length of life after retirement.
· The Contributory Principle should not be abandoned.
· All sectors must accept rising retirement ages.
· System should be contributory with special credits for people not in the work force.
· The system of freezing state pensions is inequitable and demonstrably absurd. The opportunity should be taken now to abolish it.
· Self employed people are required to pay contributions for which they receive no benefit.
· The proposed National Pension Savings Scheme must make provision for contributions by or on behalf of people who spend timeout of the work force or out of the country.
1. The history of Retirement Pensions in Britain has been one of slow, but not always steady, progress, punctuated by many U-turns, when the prospects for the pensioner have been darkened by regressive changes.
2. The most important aim of pension reform should be the establishment of a stable system, protected against unpredictable change, and agreed across a wide variety of stakeholders, including cross-party agreement.
3. The National Insurance Scheme was designed by Beveridge to be just such a scheme, building on the experience of the 1925 contributory pension scheme, but extended to the whole population. In exchange for a universal flat contribution there was payable a universal flat pension, subject only to the length of qualifying membership. And qualification was signified by payment of contributions with crediting of contributions in some special circumstances.
4. Since the introduction of the NIS there have been a number of changes, some of them being U-turns rather than forward movement.
5. Graduated contributions and graduated benefits, firstly by the Graduated Retirement Benefit system and later by the State Earnings Related Pension Scheme (SERPS), with a hiatus between legislation in 1975 and implementation in 1978.
6. 1982..Basic pension indexation changed from earnings to the lesser retail price index, a policy change satisfying the government but costing most pensioners today approximately 30 pounds a week. This U-turn was performed by the lady who said “You turn; the lady’s not for turning.”
7. Nevertheless the revaluation factors by which SERPS records were uprated each year were necessarily tied to the index of earnings, with the rather curious result that prospective pensions and the required level of contributions are effectively uprated by the earnings index while pensions in payment are uprated by the lower retail price index. This divergence has contributed to the huge and growing surplus of workers’ contributions in the NIF. Care must be exercised to ensure that the funds are only used for the purpose for which they were collected.
8. Following the embarrassingly small rise of 75p in 2000, the basic pension was increased in the following year by an out-of-line amount of £5. This was a response to the unpopularity of the 75p increase, and its capacity to lose votes.
9. 1986.. A change in the inherited, or reversionary, pension under the State Earnings Related Pension Scheme. This reduction in the reversionary pension was supposed to be deferred until 2000 so that pensioners with more than 14 years to go until the retirement date would be able to make alternative arrangements.
10. Unfortunately the Department of Social Security sat on this information without notifying prospective pensioners. A scathing report on this debacle was made by the National Audit Office and major changes recommended in the manner by which the public would be properly informed.
11. In the retirement pensions Guide NP46, 2001 issue, page 35, after the above problem had been addressed by new legislation, the DSS was trying to restrict compensation to people who could produce evidence that they were clearly misinformed.
12.
In 1993, Mr Ian McCartney promised "Labour's policy is to ensure
equality of treatment to all British pensioners who live abroad in countries
outside the European community."
(Ian McCartney MP, 1993)
13. After Mr McCartney became pensions minister he ignored this promise. A huge change of policy, and a great let-down for the Labour movement from the perspective of the pensioner.
14. The pensions system, if it is to be accepted and respected by the electorate, needs to be based on principles and promises which will endure.
15. The Australian Prime Minister, Mr Howard, has come under fire for distinguishing between different promises made in election campaigns. Some are later designated “core promises” and some are discarded as “non-core promises.”
16. Pensioners need core promises recognised and supported by all political parties and politicians.
17. At the introduction of the Old Age Pension the standard retirement age was 70 but it was reduced to 65 on the introduction of the 1925 contributory scheme, and then to 60 for women in 1942. Now the retiring age for women is being moved to 65 by gradual steps.
18. Reducing the age for women may have been seen as a worthy social reform, or it may have been a more pragmatic move to reduce the number of women in the work force to make room for men who would return from active service after the close of hostilities.
19. In a case before the European Commission on Human Rights, Application No 4130/69, X against the Netherlands, a group of Dutch women failed in their bid to secure a lower retirement age for single women,
20. One important criterion for judging what the retirement age should be is the "expectation of life".
21. In looking at this statistic it is important to know at what stage of life the expectation is calculated, and what influences will change it. At birth the expectation of life is strongly influenced by neo-natal and infantile mortality; reduction in these elements has brought about increases in the average length of life. In mid-life the conquest of infectious diseases is a major contributor, and in the case of women the reduction in deaths in childbirth has had a significant effect.
22. But when considering the retirement age, it is the expectation of life at retirement date that is the most important figure to consider. This is affected by advances in the treatment of the diseases of old age, which will continue to grant greater longevity to older people.
23. One must also consider levels of morbidity among elderly people. If longevity were increased but at the same time the quality of life for pensioners were reduced then there would be a good case for allowing retirees to have a good few years of enjoyable retirement.
24. It is tempting to suggest that the gradual increase of retiring age for women should be followed by a similar gradual rise for the retirement age for both sexes to 70. This could mean a gradual rise for those born after March 1955 with the change completed in 2030 for those born in 1960 and later. This could be politically unacceptable, as it would affect people who are already within 15 years of their anticipated retirement date.
25. It has been suggested that such a move would only be accepted by the public if it is linked to more generous retirement benefits. To link these two changes would be a serious mistake; they are separate issues and should be kept separate.
26. The recent troubles over the rise in pension age for public sector schemes illustrates how difficult it is to carry out such a move in an acceptable way. The populace at large will rightly be cynical at any move to raise the general retirement age while retaining the lower retirement age for the favoured few.
27. One suggestion was that the retirement age should rise in line with rises in expectation of life. Account might also be taken of the length of working life, since formal education is now extended to a much later age than used to be the case.
28. Giving people the right to defer retirement in return for a bonus increase in pension may at first sight address the link between pension age and quantum of pension. This will not solve, but only defer, the question of increasing cost of state retirement pension.
29. Let’s illustrate this with an example.
30. Assume that the bonus for voluntary deferment is 10% per year, and that a pensioner defers his entitlement for one year. Instead of a pension of £100 per week, he will now receive £110 per week, at a cost of one year’s pension of £100. It will take him 10 years to catch up. With the expectation of life at age 65 being more than 10 years this is probably a strategy with minimal downside risk for the individual.
31. It does, however, impose a greater future burden on the National Insurance Fund, because the Fund is not concerned with the length of life of the individual pensioner, but with the average length of life (expectation of life) of the whole population of age pensioners.
32. The quantum of basic retirement pension should be set at such a level that resort to means tested benefits is minimized. Both the Minimum Income Guarantee and the Pensioner Tax Credit are effectively means tested benefits. The proportion of elderly people relying on means tested benefits is reported to be increasing each year. But at the same time the proportion of eligible elderly people actually applying for such benefits is disappointingly low.
33. The fact is that people feel it is demeaning to ask for what they regard as a hand-out, a species of charity. The National Insurance Pension is, and should be regarded as, a benefit to which one is entitled by virtue of one’s contributions. The pension arises from social insurance; means tested benefits arise from social welfare. The dignity of the individual citizen is not enhanced by having to rely on state charity.
34. Among the proposals is one that the Basic State Pension should be residence based rather than contribution based. But at the same time it is proposed that there should be A National Pension Savings Scheme, which will be based on individual contributions and accounts. There is a fundamental inconsistency between these two proposals.
35. It is a mistake to regard, or to encourage people to regard, National Insurance Contributions as a form of tax. Pensions are not paid by the government and should not be exposed to governmental whim.
36. Self-employed people pay a flat rate class 2 contribution plus a percentage of their profits (class 4). The flat rate contribution pays for the flat rate basic pension, but Class 4 National Insurance Contributions do not count for any form of benefit. The class 4 contribution is therefore just a tax and nothing more.
37. The Contributory Principle should not be abandoned. There are merits in the proposals for a Citizens’ Pension, but there are flaws in such an approach.
38. The contribution record gives clear proof that a pensioner has the necessary number of qualifying years; if the pension is based on residence then it may be difficult after a lapse of many years to prove whether a pensioner did indeed reside in the UK for the period on which the pension claim is based.
39. There will always be special cases, such as students not in paid employment, and married woman making an important contribution to society by rearing children.
40. In relation to the latter group, the existing Home Responsibilities Protection (HRP) uses a method that deprives married women of some part of the pension they could receive if they were credited with contribution years.
41. In the example on page 31 of the 2004 issue of NP46, a woman has 31 qualifying years, and is granted a reduction in nominal “working life” of 4 years because of HRP. The calculation of her pension gives her 31/35 or 89% of the basic pension. If instead she was credited with 4 years added to her qualifying years instead of deducted from her nominal “working life”, her pension would be 35/39 or 90%.
42. It would be better to credit contributions for such groups and even to transfer funds from general revenue into the National Insurance Fund for any person with a legitimate reason to be out of the paid work force.
43. Another important group consists of people who spend a portion of their lives living overseas in the service of the country, whether that service be military service, civil service, or economic service in British enterprises.
44. Some provision for continuing contributions should be included to enable them to preserve the continuity of their pension rights.
45. One of the causes of confusion in the existing SERPS (or S2P or Additional Pension) is the right to contract out. It has made it more difficult for a member to decide what to do, more difficult for an employer to make the best decision for members of the firm’s occupational scheme, and has in many cases signally failed to provide an adequate replacement for the Additional Pension. Occupational schemes have not always outperformed the State scheme, and some pensioners have been left with nothing or very little owing to the collapse of a scheme, or even to highly unethical moves by an employer.
46. It would be better to make the SERPS or equivalent compulsory, with no provision for contracting out. Occupational schemes could adjust their benefit scales to cope with this, much as they record the Guaranteed Minimum Pension under the present regime. They have coped with such changes in the past, and must have done so when the NIS was introduced in 1948.
47. Some observations have been made above on the effect on women of incomplete contribution or qualification history. It has always been difficult to provide for married couples an income that fairly recognises the difference between a couple living together with shared economic resources and two single people living independently of each other.
48. Some non-pension benefits are granted per couple or per household. And some observers regard the pension paid to a married couple as the “married rate”, whereas in truth if husband and wife have both reached retirement age the wife’s pension is paid to her independently albeit based on her husband’s contribution history. (Category B pension).
49. This can give rise to strange anomalies, such as where a man has a divorced wife and a current wife, and the rules seem to allow both of them to qualify for such a pension.
50. Another curiosity is the “composite pension” made up of a category A pension based on the wife’s own contribution history plus a category B component based on the husband’s. The oddity does not arise unless they both have incomplete contribution history.
51. Consider for example a man with a contribution history of 20 years, entitling him to a basic pension 46% of the standard basic rate. His wife has a history of 14 years, giving her an entitlement to 36% of the standard basic rate, and a category B pension 60% (almost) of her husband’s pension. Her total pension would be 36% plus 60% of 46% (27%), i.e. 61%, but for a “cap” places on composite pensions equal to the maximum category B pension, which is (almost) 60% of the standard basic rate.
52. So, with a shorter qualification period than her husband, she actually gets a higher pension - 60% as opposed to 46%.
53. Some provision needs to be made for women not in the work force, so that contributions can be made to the National Pensions Saving Scheme.
54. The most glaring cause of inequality in the current system of State Retirement Pensions is the pension freezing regime. This needs to be addressed.
55. 92% of existing pensioners live in the UK and have their pensions adjusted every year, albeit by a reduced index.
56. Roughly 4% of pensioners not living in the UK also have their pensions adjusted every year.
57. Roughly 4% of pensioners not living in the UK do not have their pensions adjusted every year.
58. The 4% who do have annual indexation live in a collection of different countries with no apparent rhyme nor reason for their selection, except that some of them are in the European Union. USA, Philippines, Israel and Turkey are among them. The reunification of Germany brought in residents of East Germany, while the recent admission of additional countries extended indexation to expatriates living there.
59. The 4% who do not have annual indexation also live in a collection of different countries with no apparent rhyme nor reason for their selection. Surprisingly, the overwhelming majority of them live in the old Commonwealth.
60. Former minister (now Lord) Jeff Rooker has admitted that there is no logic in the distinction between frozen and unfrozen countries. In a BBC program broadcast on 16th October 2000, he said: "There isn't a logical pattern. There is 130 countries where the pension is frozen and 40 countries where it's uprated every year. This is historical reasons . I don't seek to defend the logic by the way......" (BBC Transcript).
61. He made a similar admission in a speech in the House of Commons On Monday 13 November 2000, the Pensions Minister, the Rt. Hon. Jeff Rooker, in the course of his reply to a question in the House of Commons about the government's policy in relation to 'frozen' pensions, admitted: 'I have already said that I am not prepared to defend the logic of the present situation. It is illogical. There is no consistent pattern.'
62. Among the illogical and absurd differences one might include the following:
63. On the island of St Martin, expatriate pensioners living in the French portion enjoy annual indexation, while those living in the Dutch portion do not. Pensioners living in Andorra do not enjoy indexation, even though it is in the border country between France and Spain and is administered jointly by these two European countries. When Greenland became independent of Denmark, expatriate pensioners living there lost their right to annual indexation.
64. In the Carson case in the House of Lords, Lord Hoffman observed “There is nothing unfair or irrational about according different treatment to people who live abroad.” But the question must still be asked “Is it fair and rational to make such differences between different groups of people who live abroad?”
65. Perhaps an example needs to be given to illustrate the difference between irrationality and absurdity. It would be perfectly rational for a householder to erect a fence round his garden, complete with a strong gate. But if the gate was 8 feet high while the fence was only 6 inches high, that would be considered eccentric to the point of being absurd.
66. Among the absurd results of the pension freezing regime is the fact that the amount of pension can vary quite substantially depending on the date at which the pension first started to be paid in the frozen country.
67. B completed a full working life as a member of the National Insurance Fund, and was assured that his pension would be 100% of the basic pension rate. He retired to Australia in 1990 just before his 65th birthday. His pension is frozen at the 1990 rate of £46.90 per week.
68. D is nearly the same age as B, and also completed a full working life as a member of the National Insurance Fund. After retiring, he lived in the UK for a few more years before deciding to move to Australia. His first pension payment in Australia was received in 1997 and is at the 1997 rate of £62.45 per week.
69. Both pensions are frozen, but B’s pension is only 75% of D’s, despite their having almost identical contribution records. It surely cannot be argued that during these 7 years D made contributions to the economy of the UK and thus “earned” his extra pension. The only contribution he made was in providing employment for doctors and nurses and staff of the Department of Social Security (as it then was).
70. A’s birthday is late in March and he lives in Australia. When he learned about the frozen pension regime he decided to defer his retirement until after the new rates came into force. Unfortunately he made a mistake regarding the dates and had his pension starting four days earlier than the new rates would apply. As a result his pension is 2.5% less than it otherwise would be.
71. Many other examples could be given of the anomalous and absurd way that the freezing regime impacts on expatriate pensioners.
72. In a judgment delivered in the House of Lords, Lord Nicholls of Birkenhead observed:
73. “The requirements of Community law must be complied with at all relevant times. A measure may satisfy Community law when adopted, because at that stage the minister was reasonably entitled to consider the measure was a suitable means for achieving a legitimate aim. But experience of the working of the measure may tell a different story. In course of time the measure may be found to be unsuited for its intended purpose. The benefits hoped for may not materialise. Then the retention in force of a measure having a disparately adverse impact on women may no longer be objectively justifiable. In such a case a measure, lawful when adopted, may become unlawful.”
74. “Accordingly, if the government introduces a measure which proves to have a disparately adverse impact on women, the government is under a duty to take reasonable steps to monitor the working of the measure. The government must review the position periodically. The greater the disparity of impact, the greater the diligence which can reasonably be expected of the government. Depending on the circumstances, the government may become obliged to repeal or replace the unsuccessful measure.”
(Judgments - Regina v. Secretary of State For Employment (Original Appellant and Cross-Respondent) Ex Parte Seymour Smith (A.P.) and Another (Original Respondents and Cross-Appellants))
75. Although his observations were made in a case involving equality of the sexes they have equal relevance to equality of pensioners.
76.
The same Lord Nichols, in his judgment on the Carson case,
observed that in certain circumstances “the court’s
scrutiny may best be
directed at considering whether the differentiation has a legitimate aim
and whether the means chosen to achieve the aim is appropriate and not
disproportionate in its adverse impact.”
77. It is hard to discern a reason for the differential treatment between B and D in the example given above.
78. The only excuse given by government for refusing to index all pensions irrespective of place of residence is that they have other priorities for use of the - frankly inconsiderable - sums that such a decision would involve. The total, currently quoted at £400 million is a fraction of 1% of the total annual outlay on pensions, and is very small indeed compared with the annual surplus of £2.5 billion or more. It is insignificant when compared with the various adjustments and errors due to misreporting, maladministration, overpayments and fraud.
79. BAPA has collected a number of “myths” put forward as excuses for the continuation of the regime. Among them is:
80. The United Kingdom Government feels that its priority is to direct the limited resources available to those pensioners in the United Kingdom who are in most need.
81. In our somewhat cynical view this is a myth, and should read:
82. The United Kingdom Government feels that its priority is to direct the limited resources available to buy votes, for the benefit of those marginal politicians who are in most need - of votes.
83. On 7th February 2000, Jeff Rooker put it more crudely "Frankly, we have other and better ways of spending £300 million." In the Gaygusuz case, the Austrian government tried to justify its discriminatory policies on the grounds that the money should be used for its own citizens; the Court was not prepared to accept this proposition.
84. The £300 (now 400) million is not government money, nor even taxpayers’ money, except in the sense that most contributors to the National Insurance Scheme are taxpayers. The government should have no other way of spending it than on members of the National Insurance Fund; and frozen pensioners have the best claim on this money.
85. In a report by the Government Actuary on the drafts of the Social Security Benefits up-rating order 2006, forecasting errors of £466 millions in contributions and of £427 millions in payments are identified, demonstrating that the cost of uprating pensions for this small residue of pensioners is within forecasting errors in the Pensions Budget.
86. Charging self-employed people a contribution composed of a flat rate plus a percentage of profits, yet granting no benefit other than the flat rate pension is a gross inequality which needs to be addressed.
87. It would be better to provide the same flat rate pension as for the rest of the population, whether by contributions or residence, and direct the balance of their contributions into the National Pension Savings Scheme.
88. Any provision for pension that is left to individual whim is likely to result in postponement of the decision to save for the future.
89. A telling advertisement by pension selling organisations shows a man at various stages of his life contemplating the need to invest for the future. In the first he dismisses it as something to be attended to later in life. As the stages proceed we find him still not acting, and then finding there is insufficient time to provide for a reasonable retirement income.
90. There needs therefore to be an element of compulsion.
91. Incentives in the form of tax relief would not be needed if the system could rely entirely on compulsion. National Insurance Contributions are regarded by some as a form of taxation. This should be resisted, especially if contributions are carried into individual or other accounts and invested in economic activities. Besides, it would seem inconsistent to grant tax relief on taxes!
92. For these reasons contributions for pensions by employees should be tax deductible.
93. There would be merit in rules limiting the amount of money that may be taken out of current taxable income and transferred to future taxable income in the form of pensions.
94. Pension provision is one of the costs of employing people. Employers should therefore contribute for the state pension in its various forms. If these contributions are regarded as a cost of doing business then instead of tax relief there will be a legitimate deduction in calculating taxable income.
95. If it is accepted that the state pension system should have no provision for contracting out there will be a major impact on existing employer sponsored pension schemes. Benefit scales will have to be adjusted, especially DB schemes, and in many cases the scheme will wither and die a natural death over many years.
96. If employers find that pension schemes are no longer effective in attracting and retaining staff, occupational pensions will be provided only for highly paid employees.
97. Public sector schemes have in the past often led the way in the provision of pensions, particularly DB or salary related pensions. There seems to be no reason why such privileges should continue.
98. The pension part of the Social Security System set up in response to the Beveridge Report was supposed to be, in some respects, a National Pension Savings Scheme. It has evidently failed to encourage people generally and employers to make additional provision for retirement incomes.
99. The provision for individual accounts with account holders being able to give some direction as to the nature of the investments poses a potential danger. Perhaps it will work if the vast majority of members do not exercise these rights but accept instead a “default” selection; otherwise there must be as many losers as there are winners, or many will lose a little and a few will win a lot.
100. Maintenance of individual accounts requires keeping track of individual contributions. In this case there seems little merit in abandoning the contributory principle for basic and other pensions.
101. It would still be necessary to make some provision for people who spend time out of the work force or time out of the country.
Submissions to the DWP and DSS