Select Committee on Work and Pensions Appendices to the Minutes of Evidence


APPENDIX 11

Memorandum submitted by the Association of Consulting Actuaries (PC 14)

  We have considered the issue at a recent committee meeting and after subsequent discussions set out our observations on the proposed legislation below. We welcome the changes that are being proposed to the current system of means-tested benefits but have a number of concerns as to their complexity and the resultant potential impact on private sector schemes.

  1.  Government needs to disclose how the thresholds will increase in the future and to signal that the pension credit is only a temporary measure aimed at today's pensioners and those retiring in the near future

  If it is not made clear that S2P together with the basic state pension, will deliver the foundation for those retiring in the decades ahead, a culture could grow up of expecting that the pension credit will remain a permanent ongoing feature on the pensions landscape. This in turn will have a debilitating influence on making private pension provision. The necessary future withdrawal of the pension credit is explored below under its two constituent headings.

THE GUARANTEED ELEMENT

  The redesign of SERPS, which comes into force from 6 April 2002, should have the effect, but not for many years, of making the guaranteed element of the pension credit redundant for those then reaching retirement age. This is because the re-targetting of SERPS on the lower paid, especially with the deemed earnings effect for those with earnings below the upper limit for the 40 per cent band should result, for those who build up a full entitlement to:

    —  the 40 per cent band of S2P; and

    —  the basic state pension

  in their obtaining an income from the state above the minimum income guarantee.

  Does this mean that from some time in the future the guaranteed element of the pension credit is likely to be withdrawn? Or will this necessarily means-tested benefit continue but affect fewer and fewer people?

THE SAVINGS CREDIT

  Under the current proposals, entitlement to the savings credit will continue to grow and for many individuals on low incomes will be driven by their SERPS and S2P rights. The government should be more forthcoming as to whether it and its successors intend to withdraw this benefit and if so what the process would be.

  It appears that the threshold at which the savings credit starts to accrue has initially been set to equate with the basic state pension, but it is not clear whether this relationship will continue. There are a number of ways to effect the withdrawal of the savings credit and it would be good practice for the government to disclose which it had in mind given the different effects that would result. Possible methods are set out below.

    —  steadily increase the threshold above the rate of the basic state pension until it reaches the minimum income guarantee—this route would seem to be possible under the current provisions of the Bill;

    —  reduce the 60 per cent credit and 40 per cent debit aspects of the formula in proportionate steps until they both reach zero;

    —  place a monetary cap on the upper income point at which the savings credit ceases to be payable.

  If there is no increase in the Pension Credit then increases in the basic state pension will have no beneficial effect on many pension credit claimants and could make some of them worse off.

  2.  The desire to control costs now in the state sector has resulted in much complexity for those on low incomes for the forseeable future

  Much of the complexity could have been avoided, if instead of refocussing SERPS on the lower paid in a gradual way, the basic state pension had been quickly uplifted to a level approaching the minimum income guarantee. If cost then became an issue consideration could have been given to closing SERPS for future accrual which if nothing else would have swept away the complexities of contracting-out that most private schemes have to address.

  The complexity resulting from the government's reforms to SERPS, its knock on effect to contracted-out schemes and changes to the income support system has its expression in a number of ways, some of which may impact on the advice that members of our Association give.

MEANS TESTING WILL PUT OFF CLAIMANTS

  We welcome the government's recent simplification of the claim form for the current minimum income guarantee. But at 10 pages plus another 30 pages of notes, it remains too long. It still has some of the vestiges of the old lengthy income support claim form applicable to all low-income groups. For example Part 10 of the notes informs the claimant that milk tokens may be available after the individual concerned has given birth!

  More seriously we question the extent to which those who could claim the pension credit, available from 2003, will in fact do so. But it is for others, with expertise in this area, to offer their considered views on the level of take up and whether the machinery of government will be able to efficiently deliver means-tested benefits to 50 per cent and rising of the pensioner population.

THOSE ON MODEST INCOMES WILL STILL BE UNDER A DISINCENTIVE TO SAVE FOR THEIR RETIREMENT

  The savings element of the pension credit replaces a 100 per cent with a 40 per cent benefit tax for income up to the minimum income guarantee (but necessarily introduces a 40 per cent benefit tax for income above this level until the credit is exhausted). It should be welcomed for those on low incomes, but with the proviso that claimants are unlikely to pay any income tax. Therefore the message for those in work on low incomes must continue to be that so long as one believes that this form of income support will remain, it is not worthwhile making savings that have to be delivered as an income in retirement.

  This should act to discourage formal retirement savings, counter to the government's objectives—it will certainly make it very difficult to advise such individuals to take out stakeholder pensions. In a climate where many employers are cutting back on pension provision—redesigning their schemes to transfer the risk to their employees and then reducing the contribution commitment—this issue could become of importance to those beyond the lowest paid.

  Given the 40 per cent benefit tax, individuals in work who are likely to qualify for the pension credit in retirement, should be looking at other vehicles, such as ISAs, to invest any spare money. But this is only so long as the fruits of such saving can be consumed in one way or another before the age of 60. For example expenditure on home improvements may result in an increase in the value of an asset that remains outside the means test. But it is more likely that individuals will choose to raise their immediate standard of living whilst in work and then fall back on state provision.

  It is therefore necessary to revisit:

    —  the design of the pension credit; and specifically

    —  have a clear statement of intent from government as to the manner of its withdrawal

  if those beyond government, in the business of supplying professional advice, are to be encouraged to give out the message that it always pays to save.

  3.  There are unnecessary elements of complexity in the proposals

  It is not clear to us why the qualification age for the pension credit should be split in two. Entitlement to the guaranteed income top up starts at 60 (and gradually moves to 65 as state pension age for females makes this transition) whilst entitlement to the savings credit starts at 65.

  We understand the reason of practically for the use of a notional rate of interest to turn capital into an income equivalent and welcome the reduction in the rate from 20 per cent, but there is no clear statement of the rationale for the section of 10 per cent. There is also no indication of how and whether it will be reviewed.

  The ten per cent rate will affect different pensioners in different ways. For an individual with no private pension income, allowing for the fact that the first £6,000 of savings is ignored in the calculation, the effective rate of interest on total savings will rise from 0 per cent to around 8 per cent by the time that entitlement to the savings credit is extinguished (at around £36,000 in 2003-04). For those reliant on savings, this will remain a penal rate.

  4.  The long-term cost of the pension credit has not been disclosed

  In his statement the Chancellor indicated that 50 per cent of pensioner households will benefit from the pension credit when it is introduced in 2003. He also said that the cost in the first full year of its operation would be £2 billion. What is missing from the pre-Budget statement is an indication of the proportion of the pensioner population that could benefit in the long-term and the resultant cost. Both can be expected to rise thanks to the nature of the benefit and the growing number of pensioners. The rise in the pensioner population is well documented—there are two aspects to the benefit design that will cause the cost to escalate:

    —  the policy intention that the guaranteed element of the pension credit will rise in line with the increase in national average earnings, resulting in an expanding gap with the lower basic state pension which will only increase broadly in line with retail prices; and

    —  the fact that the upper income point at which the savings credit is no longer paid is a function of the expanding guaranteed element.

  The second factor means that the savings credit can be expected to extend up the pensioner income scale, expressed as a percentage of national average earnings, as the basic state pension loses its value on this measure. In 2003-04 this upper income point will be around 30 per cent of national average earnings—by 2040 it could be 40 per cent.

Helen James, Chairman

Pensions committee of the Association of Consulting Acturaries

9 January 2002


 
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