Changes may reduce occupational pension payments

9 July 2010

The government has laid out plans to change the way that payments are calculated for final salary pension schemes.

At the moment, pension payments are linked to inflation as determined by the retail prices index (RPI), but Steve Webb, the pensions minister, has said that in future funds may be coupled with the consumer prices index (CPI).

The CPI is normally lower than the RPI, which takes mortgage interest payments into account.

Indeed, over the past 20 years, the CPI has only been higher than the RPI on three occasions.

It has been estimated that such a move would reduce firms' pension liabilities by as much as 10 per cent or £100 billion.

On the other hand, the change could see scheme members lose up to 25 per cent on their retirement income.

The government has already announced, in last month's emergency Budget, that public sector pensions are to be linked with the CPI.

Now Steve Webb has said that private sector pensions should follow suit.

The minister argued: "The government believes the CPI provides a more appropriate measure of pension recipients' inflation experiences and is also consistent with the measure of inflation used by the Bank of England.

"We believe, therefore, it is right to use the same index in determining increases for all occupational pensions and payments made by the Pension Protection Fund and Financial Assistance Scheme."

The hope is that the switch will encourage more employers to keep final salary pension schemes open to both existing and new members.

As many as a half of all workplace pension schemes could be affected by the change.

One concern, however, is that the terms and conditions of each individual scheme may mean that not all funds will be influenced in exactly the same way.

Neil Carberry, the CBI's head of employment and pensions, welcomed the announcement: "Statutory indexation is the biggest single regulatory cost borne by final salary schemes. That makes getting it right important. As CPI is a more accurate reflector of inflation for pensioners than RPI, we welcome this announcement.

"We hope that the government will also table overriding legislation, to ensure that schemes whose rules currently prevent them from taking advantage of this change can do so."