The Government has been warned it risks creating a “three-tier” pension system after pensions minister Steve Webb confirmed public sector workers’ accrual will not be affected by the abolition of contracting-out.
Under proposed changes to public sector pensions, contributions will increase by 3 per cent on average and benefits will be based on career average rather than final-salary earnings.
Government plans to introduce a new flat-rate state pension worth £140 a week would see the abolition of contracting-out for defined-benefit schemes, including those in the public sector.
As a result, public sector workers would need to pay an extra 1.4 per cent into their scheme because they would no longer receive a rebate for being contracted-out of the state pension – despite Treasury commitments not to change public sector pension benefits for at least 25 years.
In an interview with Money Marketing last week, Webb confirmed contracting-out will not be included in the 25-year public sector pensions deal.
He said: “We will make it clear that we are not including contracting-out in the 25-year promise.
“The public sector actually does very well out of this. It has to pay more in but it gets the full benefit of the extra National Insurance.
“Public sector workers’ accrual will not be touched, so they get a hell of a good deal. I have mentioned this to a senior union official but it is not an issue that has come onto their agenda yet.”
While the Government has committed not to change public sector workers’ accrual rates, the same cannot be said of private sector DB schemes. Ministers plan to introduce a “statutory override” to allow private sector employers to change their benefit structures to compensate for the loss of the NI rebate when contracting-out is abolished.
Saga director general Ros Altmann says the commitment not to change accrual rates for public sector workers will result in the UK having a three-tier pension system.
She says: “We will now have a situation where there are three tiers of pensions. There will be the ordinary people who have defined-contribution schemes, the private sector DB schemes that do not replace the state second pension and then the public sector DB schemes that do.
“Surely the UK pensions system has enough complexity already without adding an extra layer.”
Confederation of British Industry head of labour market policy Jim Bligh says: “The state pension needs to be simplified. We think simplification should be exactly that and all pension schemes, whether public or private, should receive the same treatment.
“For the private sector, that means potentially adjusting accrual rates to offset the loss of the NI rebate. The public sector should be put in exactly the same position.”
Despite this, concerns remain that unions will react badly to the news public sector workers will effectively face an additional 1.4 per cent contribution rise when contracting-out is scrapped.
Hargreaves Lansdown head of pensions research Tom McPhail says: “The trade unions have complained furiously about the 3 per cent contribution increase because that is what their members are most concerned about. If you throw another 1.4 per cent on top of that, it seems inevitable that there will be some sort of reaction.
“The ball is entirely in the court of the unions. If they tell their members this is some sort of stealth increase in pension contributions, I would not be surprised to see more industrial action.”