John’s Blog No. 14 Pensions – The Budget

This blog was delayed until after the Budget and possible changes to pensions. whose main points are:-

·         Universal pension rate around £140 per week; £7,280 pa, some 28% of average wage; correcting the unfair difference between the basic pension and the higher Pension credit. 

·         Tax and NI administration to be combined

·         Adoption of the Hutton report on Public Sector pensions

·         Delayed retirement age to match longevity

Effectively these herald the cessation or opt out of State contributory pensions with NI being recognised as a Welfare tax, effectively bringing the basic tax rate up to 43% and the higher rate to 63%. It is also hoped to make PS pension self financing which is impossible with an unfunded system.

Of course this will be strongly contested as not the aim, but is the logical conclusion from these moves and the overall obsession with cost cutting.

The Universal funded DB contributory scheme outlined earlier (blog 13) offers an alternative scheme, with the potential for large savings in pension expenditure and immunity from longevity effects.

In order to consider further the transition to a funded scheme, one needs to deal with a few facts and figures, as published by the Government, associated with the current pension position.

Pension sums do not add up or make sense

·         State  expenditure on pensioners is £93bn, with £32bn in SERPS / tax relief; total -  £125bn

·         Public Sector is £25bn; private pensions £51bn; total - £76bn;  an overall total  of  £201bn

·         Population over 65 is 10 million giving £20,100 per head; 80% of the National average wage. State expenditure alone gives 50% of NAV.

In addition Private pension contributions amount to £82bn.

These figures indicate that, if fairly distributed, there is adequate money in the pension system in fact it is over contributed, particularly if allowed to accumulate and grow fully in a funded system.

The State schemes are based on an unfunded system which is financially unsound and bad husbandry. It is spend today without any provision with what you will need tomorrow.

A sound and secure pension future can only be built on a well managed self sufficient contributory system, which separates out earned and welfare pensions.

The transition pain, which is dismissed as impossible, would be short lived and no greater and more rewarding than the financial bail-out of the Banks. The current spare capacity could ease this pain.

Pensions like the rest of the financial sector are dependent on faith and goodwill. Contributions are made and invested in assets where they should accumulate and grow into substantial funds, which do not have to be repaid. At retirement they are paid out almost on an interest only basis until the death of the member / dependents, although funds may be transferred to other parties, e.g. Insurance  Annuity.

Assets must therefore be capable of meeting these liabilities, but advantage can be made in group co-operatives of the population decline for a given age due to progressive deaths, which is made in annuities and defined benefit schemes. One death is another's gain. 

Pension payment rates are dependent on Fund investment returns and group survival/longevity effects.

It can be shown that a 4% investment return will sustain a 6% pension payment, on present longevity predictions, which increase by 2.5% pa to meet inflation.

This can be used as the basis for liability projections in the transfer to a funded system. The next blog.

John’s Blog No.13b Pensions – Public Sector Report

There is a well known quotation that says “There are lies, damned lies and statistics”.

The current controversy over Public Sector Pensions in the media and the various reports remind one strongly of this. Nowhere does it apply more widely than in pensions, where they are used to confuse.

Statistics are factual; errors occur when they are applied out of context or more widely than intended.

The final report on Public Sector pensions has now been published and appears to offer little new from the interim report, in spite of the consultation period. The approach is limited with the main emphasis on dire predictions of increased life expectancy and the potential taxpayer costs.

The report, like the interim one, is taken up with complex mathematical models and jargon which appears designed to confuse and does. It is doubtful whether the authors even understand it, I don’t.

It advocates transparency but does not practice it. There are no actual facts or budget figures giving income and expenditure for schemes; costs are given at £25bn and projected to rise to £33bn by 2015.

Such figures are hard to come by; Pension Trends give Private but no Public scheme values; Gad 2009 gives average salaries, pension and member details, but information is spread over other reports.

The Blue Book gives PS contributions as; mpe-£6.7; mpr- £7.9 and social (SERPS?) -£5.1bn, which corresponds to averages of 6.5%, 7.3% and 5%.

The report gives NHS at 5-8.5%;Teachers at 6.4%; Police/ Fire  at11-8.5%; Civil Service at 1.5-3.5% ; armed forces nil and Employers at 14% for NHS and Teachers, with the others almost twice this. There is no attempt to separate out the subsidised areas, although higher earners are dealt with.

Expenditure figures available suggest a healthy £5bn surplus in the fully funded NHS, Teachers and Police/Fire at income of £19.2 and expenditure at 14.2 bn and does not justify increases.

In fact SERPS is an employee contribution (waiver of State pension rights) and not employer as generally taken. Adjusting this gives average employee at 11.5%. proposed increases of 3% would give employee at 14.5% rising as high as 19%, with employer at 4.3%, worse than the worst private scheme.

Change to a funded system are dismissed as not needed as pensions are guaranteed by the taxpayer, and yet there are screams at present costs. Change is said to cost £20bn per year but has not been justified.

The panic over increased life expectancy is the scapegoat for all changes. A chart comparing 1950 to 2009 is given, and an example of a woman retiring at 60, stated as spending 45% of adult life in retirement, with the aim to reduce this to a third.

The sums do not add up, life expectancy is given as 24 years to age 84, some 68 years of adult life, which only gives 35%, close to target, also only half these women will reach age 84.

1950 was the post war deprivation period; the NHS and major health and safety campaigns have made massive inroads into mortality rates and it is debateable whether this will continue much further.

Selected pension schemes abroad were considered, but the successful American PS scheme ignored.

The attack on PS pensions is gathering pace with all the technological weapons of the media being deployed and is based on creating envy by using distorted, exaggerated and questionable statistics and facts, e.g. “The gold plated scheme, paid for by the  taxpayer, which the rest are denied”.

 In fact the majority are not; they pay substantial contributions with normal Employer and SERPS for a meagre pension of 25%. Change is needed in the taxpayer subsidised areas of Civil Service, Armed Forces, MP’s and higher earners. The basic flaw in unfunded schemes also needs attention.

The counter attack from representatives and unions has been non- existent. There are now threats of outdated strike action which will only alienate public opinion and support.

Effective action would involve:-

·         Action on the legality of the unfunded scheme; these are hard earned personal pension savings, which are not allowed to accumulate and grow but diverted to benefit someone else.

·         Promoting the real facts of PS pensions; contribution and benefit levels etc. for the majority. These contributions are additional to NI pension provision that others depend on.

·         Demanding full pension fund accounting for each scheme. Available information is disjointed.

·         Questioning statistical projections and relating these to the unsustainable nature of the scheme.

·         Dissociation from DB Private scheme contraction which result from excessive benefits, taxation, contribution holidays and poor management.

·         Accepting the reasonable changes needed

·         Strong promotion of the Public Sector, its service and devotion to the community.

·         The Social- Economic advantages of the Public Sector and their income and pension spend.

In the absence of such action, all of the 5.4 million workers should mount their own counter attack. They should write, text, e-mail their representatives; Unions, the media; MP’s; and Government Ministers.

The solution of increased contributions, delayed retirement, reduced benefits is only a short term one. The basic “Pay as you go” system is uneconomic, cannot be maintained and is grossly unfair.

The general public should also be very much afraid; the State pension system is built on the same unstable foundation and is already undergoing similar changes of increased NI contributions, delayed retirement and decreasing benefits. Private pensions are moving in the same direction (see other blogs)

Savings   Annuities    Public Sector   NHS   Teachers   Police   Local Government    Hutton

John’s Blog No. 13 Pensions - Proposed UDBC Pension Scheme – Implementation

The major problems in implementation occur within the State in the current unfunded “pay as you go” system. Existing funded schemes could adapt or transfer, but would need policy and attitude changes.

There is no provision for pensions whatsoever within the State. It is treated as benefit expenditure and although contributions have been received from NI, together with additional contributions from Public Sector workers is ignored. Pensions are treated as a burden on the State yet could be a major asset.

It is therefore difficult to transfer to a more sensible and economically viable funded scheme and has been written off as impossible in successive reviews including the latest Hutton report.

One has the strong impression that successive Governments; the Financial Institutions; Trade Unions and other bodies do not understand the basic mechanics of pension savings and repayment.

Where else can one get a steady investment income guaranteed for forty years, linked to GDP, that only has to be repaid at a trickle rate of 4 to 6% after that time, probably covered by investments returns. There are few controls or liabilities and for defined contribution schemes no risks or commitments.

In fact the money does not have to be repaid on demand and the sums in funded schemes are large

 The other factor in funded schemes is the disruption that occurs on retirement when funds are cashed in to buy annuities or other guaranteed income. This is unnecessary in well managed schemes where  income from the fund build up should meet a major part of repayment allowing fund continuity to occur.

The simplest way for the State to change to a funded scheme would be for the State to transfer assets to create a pension fund, or alternatively issue non negotiable Pension Bonds. In either case the rent, interest or investment payments would need to meet current pension liabilities. This could be transitional, meeting current pension liabilities immediately and new ones as they arise at retirement.

The long term benefits would be enormous both economically and socially, giving security and stability.

The main proposals of the UDBCP schemes are self explanatory and implementation would require fundamental changes in attitude and approach and adaptation. This could mean a move away from the traditional pension regime to a more co-operative approach of mutual based Pension Societies, Housing Associations or completely new institutions. The business opportunities are large.

Pensions need to be treated as personal individual savings and ownership firmly established. They should fairly reflect the contributions (savings) made and separated completely from the welfare unearned pension.

In a well managed funded scheme, current contribution rates are more than sufficient to meet the needs and demands of pensioners. They should in fact create surpluses which could meet the needs of dependents, lower paid contributors and even elderly care costs.

One should not overlook the economic contribution to GDP, local and rural communities and general development that pension expenditure brings, well appreciated in other Countries. One also has the large investment potential for capital and other expenditure, business support, etc. that large funds bring.

These and the overall financial considerations will be dealt with in the next blogs.

Savings   Annuities    Public Sector   NHS   Teachers   Police   Local Government    Hutton

John’s Blog No. 12 Pensions - Proposed Universal Defined Benefit Contributory Pension Scheme

We have to date considered the major failings of current pension schemes, this blog aims to be more positive and offer proposals for a defined benefit contributory scheme to replace such outdated schemes.

Aims – to replace the current outdated State Pension with an affordable scheme to embrace all those in work, including those in occupational schemes, and guarantee an adequate income in retirement, suitably index linked. It should reflect contributions paid and be fair, but with adequate poverty safety nets.

Scope and Criteria  - Although primarily intended for those in work it would be designed to run continuously through  work and retirement as a flexible scheme, with the main provisions being:-

o   Compulsory contributions from age 25 to 64 with retirement available at age 65

o   Retirement from age 55 at lower pension level; or by AVC’s: with AVC’s available from birth to 24.

o   Final salary based on wage indexation (taken at 3% currently) and Fund accumulation.

o   Basic aim to give 40 to 50% of final salary based on contributions.

o   Pension benefits to be inflation proofed, i.e. increase annually.

o   Fund accumulation based on unit build up. Units bought monthly at current Fund value giving simple and effective average salary fairness. No Bid / Offer differential.

o   Funds treated as individual personal savings and protected as such.

o   Tax free lump sum excluded but subject to AVC’s.

o   Tax relief capped at 20% with maximum contribution limit at lower band upper threshold plus allowances but increased for dependent partner.

o   Annual statements showing  individual fund accumulation and growth, and performance

o   Fund can be extended to those not working, i.e. unemployed, by State unit purchase.

o   State or independent body to set guidelines and growth / investment return targets

                                                                                      (AVC – Additional Voluntary Contributions)

Primarily it is intended for the population in work who pay National Insurance contributions, together with any dependent partners, and would be based around the National Average Wage.

It will incorporate the pension part of such contributions which will be paid directly by the State as a refund of the equivalent part of such contributions. Welfare pensions to remain with the State.

Effectively NI rebate, fixed on NAW, is the baseboard of the scheme for low earners, but other contributions would be  wage related, and can be increased by choice.

In order to avoid unequal wealth distribution a cap on tax relief of say twice average wage and possibly on existing NI rebate/relief will be necessary; dependent on cost and approach to existing schemes.

The scheme would be designed to replace or complement current State, Public Sector and Private schemes, but not necessarily run by the State; possibly by newly formed Mutual Pension Societies, similar or existing bodies. Good growth, management and value for money return would be the main criteria.

The next blog will consider the possible implementation, transition to and basis of the scheme.  

Savings           Annuities        Public Sector              NHS    Teachers         Police  Local Government

John’s Blog No. 11 Pensions – Are Current Schemes Effective

The basic aim and purpose of a pension scheme is to make provision for old age and is a very personal and individual affair. Current schemes appear to have lost sight of this.

They clearly divide into the main areas of those in work and able to make self provision; their dependent partners; those whose earnings do not allow adequate provision and finally the welfare dependents.

These borderlines have become confused and together with the loss of clear objectives have led to pensions becoming a responsibility and burden, aggravated by increased longevity. Longevity projections are causing panic, increased costs, reduced benefits, and pessimistic reactions not justified by actual numbers.

Current Pension schemes divide into two main areas unfunded and funded, which further divide into defined benefit and defined contribution.

Unfunded (pay as you go) schemes do not make commercial or common sense and are unsustainable.

They are the basis of the State and Public Sector schemes, which are now showing the basic failings.

In the UK the current in work / pensioner ratio is around three and population projections suggest this will drop to two by 2035; Public Sector are worse at 1.4 reducing to 1, (the effective pension yield factor).

As contributions are spent as soon as received, at a factor one, contributions must equal pension benefits.

Other Pensions schemes are funded, based on contribution savings being invested and growing over a long working life period of some forty years. Even at inflation growth levels the factor is 2.4 and with a good schemes rise to 5 or more, they are also unaffected by demographic changes e.g. population increases.

Defined Benefit schemes give a guaranteed pension as a proportion of income dependent on number of years service, with the financial and other risks borne by the provider. Defined contribution schemes give no guarantees and are subject fully to market forces giving uncertainty and instability and poor returns.

DB schemes now only occur in Public sector (under attack) and decaying large Company schemes

Private schemes have become increasingly dependent on the Financial markets. Up until the turn of the century whist markets were buoyant and returns were high, such schemes prospered and became over generous. However markets became more speculative; greed set in and large funds were attractive.

They therefore need firm foundations to withstand the storms of the financial markets and careful management maintenance and control to ensure they don’t collapse.

Pensions in Europe are more generous than in the UK, mainly due to the policy doctrines pursued there; a greater concern for the elderly and morefamily responsibility. However they appear in a worse state than the UK, due to the higher payment levels, demographic population changes and use of unfunded schemes.

Sweden are now suggesting a notional defined contribution scheme where imaginary funds are deemed to accumulate and grow to give defined benefits. Apparently this is under serious consideration in the UK.

This move into fantasy land, reminds one of children’s nonsense stories and the Emperor’s new clothes.

In America the approach appears one of more hard Business, level headed and realistic. The Public Sector Funded Defined Contribution schemes appear extremely successful (see nasra.org)

Their Public Sector report funds of 2 trillion dollars in both active members and retired funds; investment funds provide 60% of total income and this alone meets pension payments without eroding capital in the retired funds. Target growth rates are 8% but over the past 25 years have averaged 9.25%. Pension benefits are high and the large funds buffer them from market changes.

These show what can be achieved in a well managed scheme and suggest a good role model. (next blog)

Savings     Annuities   Unions

John’s Blog No. 10 Pensions – Simplified (cont)

We previously considered the performance aims of pension provision and arrived at a figure of 50% of current wage in real terms (keeping pace with inflation) as a reasonable minimum income aim.

Of course as your work career advances, your wage should advance faster than the 3% value taken. Your contribution and fund will increase accordingly to match this, giving a higher average salary pension

At a factor five, a 10% contribution should provide this 50% level. Many schemes have contribution levels  of some 17%, reflecting underperformance and the effect of the 25% Tax free lump sum, which increases contributions by a third for a given pension. Tax free lump sums should be outside normal considerations.

Can you afford it is a difficult question and Fund growth and annuity rates play a vital part as does the State pension. Even small increases make a large difference as the table of PYF showed in the previous blog.

Even with Employer contributions and SERPS rebate, current levels at 17 to 20% are not and give poor value for money. The trend towards defined contribution schemes give even poorer returns and increase employee contributions considerably making the whole situation impossible and unacceptable.

The effects of Inflation cannot be ignored, it erodes the value of money and needs to be allowed for over a forty years period. At present running above 3% per year, the target is 2% and 2.5% is a good average.

At an annual inflation of 2.5%, a pound today will be worth some 37p in forty years time, a reduction factor of 2.7, which can be allowed for in any pension projections and is referred to as “real terms”. Inflation does not only affect income but also accumulated funds and both need to increase for any real gain or advance.

Of course the other question which arises is “are they worthwhile” and frankly apart from Defined Benefit Schemes the answer is no, however without pension savings, one is destined to poverty in old age.

Many Pension schemes absorb the State Pension as part of their final benefits and contract Employees out of the State second Pension, showing the NI rebate as Employer’s contributions, which is misleading. It is also debateable whether employees benefit from this practice.

There is a general impression of confusion, whether deliberate or not. Pension schemes are vague and secretive, annual statements give possible scenarios but no guarantees, it is as if the money is no longer yours and has gone into a state of limbo to return in an uncertain condition when you retire.

Revenue restrictions due to the tax relief do not help, divorcing owner and money, which allows the relief to be absorbed by charges. There is a steady erosion of contributions and funds by charges: the 5% bid – offer differential, commissions, and fund Taxation have a major impact on Fund growth and performance.

Defined contribution schemes are the worst offenders and appear a waste of money. Yields are uncertain and fluctuate wildly, even in the final stages of realisation, because the risk is borne solely by the members.

Defined benefit schemes, now regrettably on the decline, are a complete mystery, with little or no information available on the Funds or their performance, only complaints of being unaffordable. Yet this is the only real way forward, properly managed and run on a fully funded basis and should be the future aim.

The whole process is speculative, with members losing and is not helped by the lack of a stable non negotiable Bond. As a result annuities vary wildly and are undervalued by some 2 to 3%. In 1991 they offered a non-sustainable 16% and are now at 6% or below. Increased life expectancy is given as one reason for this fall, however it can be shown that this has only a minimal effect of some 0.5% on rates.

An annuity increasing by 2.5% per year against inflation and protected against increased longevity in retirement can be sustained at a 6% level with a modest 4% investment income and give the major gains shown earlier on benefits and contributions. Fund continuity into retirement should occur.

The next blog will consider current schemes

Savings     Annuities   Unions

John’s Blog No. 9 Pensions – Public Sector Pensions – Time for Action

This blog is another diversion from the main course, but I feel that there is an urgent need to respond.

The attack on Public Sector Pensions increases daily with many misleading  and incorrect statements designed to brainwash the public to believing that they are paying these pensions directly from their own pockets as a taxpayer’s burden.

This is untrue and not supported by the facts, yet there is little rebuttal of these claims or a counter attack within the public sector or the unions or representatives.

Of course all public sector costs come from taxation; the Prime Minister could be considered as a burden on the taxpayer.

PS workers are being warned of contribution increases of up to 3%, effectively a pay cut, in addition to a proposed two year pay freeze, a further pay cut of some 6%.

Yet pension contributions overall are similar to the private sector, and benefits are considerably lower. The State accounts bible, the 2009 blue book shows PS contributions as:-

Employers - £7.85bn;    Employees - £6.69bn;   Imputed Social - £5.12bn;  Total - £19.66bn

Average Employee contributions are 6.5%, giving Employer at 7.3% and Social at 5% (SERPS rebate).

These contributions are Employment costs and not direct Taxpayers costs. 

2009 Gad report shows the largest, the NHS, has an average wage of £20,900 and average pension at £5,200, just 25%, Teachers are similar; half the return on contributions of a funded private sector scheme.

This is not value for money, even with current poor pension returns, increased contributions make it worse.

The Taxpayer’s burden arise from the subsidised Civil Service, Armed Forces, higher earners and MP’s pensions, which should be treated as Department costs. The other major schemes have some £5bn surplus.

The root problem and threat to PSP is the unsustainable “pay as you go” nature of the scheme.

Contributions from hard earned wages, which should build up and grow are being spent immediately on existing pensioners (see Blog1). With a worker / pensioner ratio of 1.4 , this requires a 37% wage contribution to yield a 50% .pension, an impossible and unaffordable scheme.

This costs three times the equivalent funded scheme and is of questionable legality, being a criminal mis-use of personal pension savings and funds, arising from your own and employment contract contributions and SERPS rebate from NI. Change to a funded scheme would give larger benefits and major savings.

Public sector pensions are just the start, they also include Local Government and University pensions. The State pension has the same unfunded problems and the second pension is under attack and will disappear.

There is a need for a secure, well managed funded universal defined benefit pension scheme to replace all the failing, outdated and uncertain schemes and the speculative investment base they depend on.

It is time for action and protest; not the street demonstrations which can be taken over by hooligans, but in this high tech electronic age by E-demonstrations.

E-mail your MP; the Prime and deputy Prime minister; DWP; your union/confederation representative; NHS or Teacher boards. Contacts  can be found on directgov.uk. Use Facebook and similar sites.

Strongly object to the contribution increases, the use of your pension savings and SERPs rebate to pay another’s pension and subsidise non contributors; query the legality; poor return and unfairness of the unfunded scheme. Make your voice heard! People power is effective as recent events have shown.

The Big Society starts here by Public Sector employees and all others demanding a fair deal from the coalition. We may all have to tighten our belts but it needs to be fair and justified.

  .

Savings     Annuities   Unions