Could updates to local government pension rules help councils keep the lights on?

Over the general election campaign there was significant focus on tax policy and future spending plans. However, what the leading political parties failed to  mention was the continuing increase in the aggregate surplus in the Local Government Pension Scheme (“LGPS”) which could potentially help to ease some of the financial pressures, at least at a local level. In fact, we estimate the total surplus across all LGPS funds in England and Wales has increased to more than £100bn i.e. in aggregate the Funds are holding assets that are over £100bn more – yes, £100bn more – than they believe they need to pay the promised benefits.

Many councils and other participating employers, such as charities, housing associations and academies, are currently having to make difficult decisions on future spending plans whilst continuing to pay significant contributions to these pension funds. If funds were allowed greater flexibility, a reduction in contributions for employers could help to ease their financial pain whilst maintaining sufficient security of benefits for LGPS members.

Background

The most recent valuation of the LGPS funds was carried out with an effective date of 31 March 2022.  This showed an aggregate surplus of c.£22bn on an ongoing approach.  Of course, the position of each of the 89 funds varied depending on actual experience and the assumptions used by their actuary. 

Following this valuation, updated contributions came into effect from 1 April 2023. In many cases, funds made minimal changes, aiming to keep contributions stable relative to the previous levels.

The next valuation is due as at 31 March 2025, with any changes in contributions coming into effect from 1 April 2026. This is of course still some time away.  If current market conditions persist, and the funds in England and Wales follow the lead of Scottish LGPS funds then we would expect some reduction in contributions. However, in our view more could be done sooner to help ease the pressure on councils and other employers.

What impact does this have on councils?

We estimate councils across England and Wales are currently paying a total of more than £6bn pa into the LGPS for new benefits being built up, based on the position as at 31 March 2022.

However, the actual contribution rate required to provide for these new benefits, based on the position today, could be half the rate at 31 March 2022 – largely driven by the significant increase in long term interest rates. Given the strong funding position of the LGPS funds, the current contribution rates are overly prudent, and would be expected to further increase the surplus.

If contributions were recalculated based on current market conditions this could reduce the cash requirement from councils by more than £3bn each year, which is the equivalent of 2% of the total local authority budget in England and Wales in 2023-24. This could therefore make a material difference to council funding.

How to achieve the change?

Whilst the contribution rates are generally set for three years at a time, the LGPS Scheme Advisory Board does suggest a review of contributions is possible on a fund-by-fund basis, where the Administering Authority believes it is in the best interests of all employers.

It is clear from our analysis that many LGPS funds are in a significantly stronger position than expected when the contributions were set in 2022. The funds cannot have been targeting such significant surplus 2 years after the contribution rates had been set. The government  should be prioritising  clear guidance stating such a review is reasonable, and that contributions can be reduced as soon as possible where appropriate. This could help to protect councils’ financial positions and give greater certainty to council tax payers and central government ahead of any review of local government funding arrangements.

What about other employers?

It is not just councils that participate in the LGPS, many other employers do as well, including not-for-profit entities such as charities, housing associations, academies and independent schools. A reduction in contributions would also be welcome for these organisations and could help to manage financial pressures.
However, whilst the flexibilities to reduce contributions described above might not be available to all, we have previously looked at steps that can be taken to reduce exposure to risks and take advantage of current market conditions.

If you are an employer participating in an LGPS fund we strongly recommend:

• Reviewing your current position,
• Engaging with the Fund to understand your options, and
• Acting on the option that is best for you.

In particular, we believe that it’s vital that you are looking at an up-to-date picture - funding positions have changed so significantly over the last few years that even looking at the position from as little as 6 months ago, rather than a more recent estimate, could lead to different decisions being made, or options being discounted that are actually feasible.