Radical reforms to State Pension system proposed as government battles rising bills – Steve Webb
Experts at pension consultancy LCP specialising in State Pension policy and in demographic trends have joined forces to recommend major changes to the State Pension system. LCP’s ideas have been fed into the Government’s review of the State Pension Age, and would help to square the circle between the need to increase pension ages and the need to avoid penalising those whose life expectancy is much lower than average.
One key measure used by the Government to assess the sustainability of the State Pension is the proportion of adult life people are spending in retirement (i.e. above State Pension Age).
The LCP paper shows (see chart) that this proportion has been going up, especially given the lack of upward movement in State Pension ages for the whole of the 20th Century. For example, over the course of the 20th Century, life expectancy for young adults rose by 17 years, but State Pension Age did not rise at all.
This upward movement in the length of retirements has only been checked by the equalisation of retirement ages (increasing women’s pension age to 65 between 2010 and 2018), and then the move (for men and women) to 66 in 2020. However, retirement lengths have already started growing again.
The Government’s original plan was to set State Pension ages so that people could expect to spend up to one third of their adult life in retirement, but the analysis shows that this would be historically unprecedented, once equalisation of State Pension Age is allowed for. LCP argue that ‘locking in’ at these historically unprecedented levels is unsustainable.
Instead, LCP argue that the best way to put the State Pension funding on to a firmer footing would be to set SPAs so that people could, on average expect to receive a pension for a fixed period such as twenty years. This means that as life expectancies improve, retirements will stay the same length but working lives will gradually lengthen, thereby making the system more affordable.
However, if this approach was adopted, some people in parts of the country with low life expectancy could find that they only received State Pension for a few years, hitting them harder than those in longer-lived areas.
In response to this, LCP also proposal the radical idea of having a “guarantee period”, i.e. a minimum payout for State Pensions. This would mirror the way that private sector annuities work, with minimum “guarantee periods” being the norm.
Under the LCP proposal, anyone reaching State Pension Age would be guaranteed that they – or their estate – would receive five years’ worth of payments. This would not add greatly to the cost of the system (because most people who retire draw a pension for at least five years in any case) but would focus protection on the most deprived groups with the lowest life expectancy. This in turn would make it easier to justify a faster schedule of State Pension increases to make the system as a whole more sustainable.
Commenting, Stuart McDonald, partner at LCP and longevity specialist said:
“Life expectancy in the UK for young adults rose by 17 years during the 20th Century, but State Pension age did not increase at all. As a result, we now have historically long retirements which will inevitably prove fiscally unsustainable. A new approach is needed. We recommend setting pension ages on the basis that the average person can expect a fixed number of years in retirement. This will help the system to catch up with the dramatic improvements in life expectancies which we have seen, and will be fairer to current and future people of working age, whose contributions are used to pay the pensions of retirees”.
Steve Webb, partner at LCP and former pensions minister said:
“The case for increasing State Pension ages is strong, but it has always been hard to do so in a way that is fair to people in more deprived areas who cannot expect to draw a pension for as long. Our proposal for a guaranteed minimum payout period of five years represents a ‘something for something’ reform. Those who have paid in to the system all of their lives would be guaranteed that they or their heirs would get a minimum payout once they start drawing a pension. This would be a concrete way of addressing concerns over unfairness each time State Pension ages are increased”.
LCP note that there may also need to be corresponding reforms to working age bereavement benefits so that those who never reached pension age would also get ‘something for something’.
