David Davison warns that the upcoming single tier state pension will mean charities who provide staff with contracted-out defined benefit pensions will face rising pension costs.
The announcement by George Osborne in the budget that the government was to bring forward the introduction of the single tier state pension (‘SSP’) by a year to 2016 was welcomed by most, not least the estimated 85,000 women who would not have benefitted under a 2017 implementation due to them having their state pension age advanced twice in recent years.
The change undoubtedly brings welcome simplicity to a state pension system that was unwieldy and virtually impenetrable, a system that made sensible pension planning next to impossible.
A new single tier pension of £144 per week will replace the basic state pension of £107 and its various add-ons, including state second tier pension (‘S2P’). There will be winners and losers. Those who are self-employed and those retiring 10 to 15 years after its introduction are likely to be winners. Higher earners, younger people and those who have built up significant S2P are likely to be losers.
The big issue is for charities who provide staff with contracted-out defined benefit pensions. The introduction of SSP will also mean the abolition of contracting-out. At the moment those employers and employees who are contracted out pay reduced rate NI contributions which effectively limit the net cost of their pension contributions.
The reduction is 3.4 per cent of band earnings for employers and 1.4 per cent for employees. For an employee earning about £25,000 they will see the real cost of their pension contribution increase by about 1.1 per cent of salary or about £260 per annum.
A charity with 100 staff in a contracted-out pension scheme and an average annual salary of £20,000 will see their costs rise by about £50,000 or 2.4 per cent. Those organisations participating in public sector schemes such as LGPS will just have to accept the increase and the government re-assurance via Pensions Minister Steve Webb that “90 per cent of affected individuals reaching SPA in the first 20 years of SSP will receive more state pension than the additional national insurance they pay.” Hard to justify that statement unless the pension is paid for a similar period as the NI is collected!
Private sector schemes will have the option to adjust contributions and therefore benefit pay outs to reflect the change. This could be achieved by a move to a lower accrual rate or a change to pensionable salary definitions reflecting an offset of state pension entitlement.
This for many hard pressed finance directors in the sector is coming at just the time when they are already preparing to deal with increased pension costs as a result of the introduction of auto-enrolment.
Budget planning is vital to deal with all this effectively. Organisations need to be looking at how their pensions costs will change over the next few years as a result of these changes, increases in scheme contributions and the impact of auto-enrolment to identify what steps they can take to try to control their pension budget.
