Government moves to tackle pensions crisis

19 Jul 01
In what has been described as a 'near revolutionary' step, the government has reopened the debate on the unfunded police and fire pension schemes and raised the possibility of meeting pension costs centrally, mirroring the arrangements for teachers' pensi

20 July 2001

The move – by the Treasury, Home Office and Department of Transport, Local Government and the Regions – seems to have come out of the blue. But it has been welcomed by police and fire leaders. They have been campaigning for years for ministers to tackle the pensions problem, which is diverting ever higher sums from frontline activities into pensions of former uniformed officers.

The problems are well known. In the local government pension scheme, real funds are generated from employer and employee contributions and invested to cover the costs of paying future pensions.

But there is no such luxury for the police and fire schemes, which are 'unfunded'. This pay-as-you-go basis means the pensions for yesteryear's police officers and firefighters are paid out of today's operational budgets, offset by pension contributions from current employees.

Other public sector schemes are similarly unfunded, in particular those for teachers, the civil service, the armed forces and the NHS. But in these cases pensioners are paid out of a central pot, with employers merely paying contributions to cover the future pensions of their current employees.

The problem is becoming acute. Last year the pensions' deficit – the difference between pension costs and employee contributions – hit £1bn in the police service, around 14% of the force's budgets. Although the figures are smaller in absolute terms for the fire service, the problems are relatively more severe with a deficit of more than £250m consuming 17% of budgets. Each year the problem becomes more serious.

Large recruitment drives in both the police and fire services in the mid-1970s mean that major increases in retirements are due in the coming years.

Successive governments have ignored the problems but ministers have now asked officials to analyse a range of options for the financing of police and fire pensions.

Five options have been identified. Setting up real pension funds is one of them. However, it would cost an estimated £25bn to set up a fund for the police service alone and this option has almost certainly been discounted.

A consultation note, written by officials from the three government departments concerned and seen by Public Finance, accepts that funded schemes offer greater accounting transparency and budgetary control, but argues that these advantages can be achieved by adopting the model used in the unfunded teachers' scheme.

Further options include setting up funds for new entrants and changing the way accounts are presented to show pension costs separately and demonstrate more clearly what resources are available for frontline activities.

But the most interesting options involve setting up a 'central agency to pay police and fire pensions with payments financed from a Home Office vote'. This could be run with police and fire authorities paying employer contributions, as in the teachers' scheme, or with no contributions. A further variation would see funding picked up centrally but administration retained locally.

Central funding would not reduce the costs of the pension schemes, but it would identify the real resources available for frontline activities and shield the police and fire services from further escalations in pension costs.

The Association of Police Authorities (APA) is giving its backing to the central funding options. Policy officer Robin Wilkinson said the association had always 'maintained a debate with government' about the importance of a fix for pensions. 'That's been a priority for us,' he said. He admitted the association was 'delighted' that ministers had called for options to be explored, although he warned that the review did not guarantee that changes would be made.

Tony Ritchie, chairman of the Local Government Association's fire committee, said the proposals were 'near revolutionary'. And while there are still several options on the table, he said it was 'the first genuine attempt to tackle the pensions problem'.

The Treasury seems to be motivated by a desire to see a greater link between investment in emergency services and outcomes. If large parts of each year's police settlement continue to be siphoned off into paying pensions, that link soon becomes severed. A part has also been played by the new financial reporting standard on retirement benefits, FRS 17, which will require public bodies to recognise full future pension liabilities in their balance sheets.

There is a long way to go and several issues to be resolved if central funding is to be introduced. For a start, primary legislation may be needed. Another important issue will be control over the level of early retirements – and ensuring financial accountability for this remains with the local authorities. Also to be addressed is the extent to which authorities' budgets should be reduced – just by the amounts put into the central pot by government or the higher actual costs.

But if the government follows through with positive action, one of the most pernicious financial problems facing the police and fire services could have been solved.

PFjul2001

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