Select Committee on Defence Minutes of Evidence


Examination of Witnesses (Questions 1-19)

MR IVOR CAPLIN AND MR JONATHAN IREMONGER

5 NOVEMBER 2003

  Q1  Chairman: Mr Caplin, it seems that pensions policy is far more interesting to the public than the Royal Air Force and the war in Iraq, so no doubt you have great drawing power. Welcome to you both. Just before I leave, I am off to get a flight to New York. I am leading a delegation to the United Nations. Rachel will be standing in, in my place. This is an immensely complicated subject. You have only been in the job a couple of months. Please do not think that as Minister you have to answer all the questions. You have a highly paid civil servant, probably earning far more than any of us here. Let him earn his salary. I have seen macho ministers coming in here who think they are so on top of their brief and they will not even look to advisers or civil servants, even when it is patently obvious that they are wrong. Please do not think that you have to soldier on. If you do not know the answer, even though you are very well briefed, please do not think that you have to answer yourself. With those introductory words, I am going to depart.

  Mr Caplin: Before you do, can I wish you well on your trip to the UN and say that I thank you for the note that you sent me on my appointment where you listed a whole lot of issues in which you did not include pensions and compensation schemes. Now you call me to appear before you on firework night. I am not sure of the connection.

  Chairman: I think I said in my letter that we would be having you in to talk about pensions policy next Wednesday but obviously it has taken you a little more time to master this immensely complicated brief. If you have any problems with the answers, we have excellent advisers here who I am sure will be only too pleased to give you a few pointers. I will now pass on to my colleague, Rachel.

 (In the absence of the Chairman, Rachel Squire was called to the Chair)

  Q2  Rachel Squire: As you can see, the existing Chairman has decided to try out the early departure scheme which we will be questioning you on later. Can I too welcome you, Mr Caplin and Mr Iremonger, to this evidence session? As has been indicated, the purpose of this session is to follow up this Committee's inquiry of 2002 and particularly to examine whether the MoD's formal proposals for pension and compensation schemes are an improvement on the proposals put forward for consultation and whether, in our view, they meet the needs and justify the expectations of service personnel. As you will be aware, the Committee did examine in detail the general merits of the MoD's proposals during their inquiry in 2002 and I think I can say we were less than impressed with some of them, to put it mildly. We are looking very much today to see how far the changes that are now being proposed go towards meeting the concerns that we and others expressed in that report. Clearly, there have been a number of changes to the government's proposals for the new Armed forces pension and compensation schemes since the consultation process carried out earlier this Parliament. We will come to some of the particular individual cases in due course. Some of the changes to the schemes will require extra money: increased death in service benefits and widows' pensions, for instance. Given the government's decision to ensure that any changes to the schemes are cost neutral, can you tell us how these improvements will be funded?

  Mr Caplin: Thank you. Maybe first I can introduce Jonathan Iremonger, who is the director of service personnel pensions policy, responsible for the reviews that we have undertaken. Can I say also how much I welcome this Committee's evidence taking session in the inquiry and I agree with your summary. This builds on the two sets of evidence that you received on 13 March and 18 December last year from Adam Ingram and my predecessor, Dr Lewis Moonie. Indeed, it builds on your report of 9 May 2002. In terms of the cost issue, it is our expectation that this new Armed forces pension scheme will be cost neutral in the fulness of time. As I indicated when I launched the scheme on 15 September, if there are any initial costs that have to be borne, the Ministry of Defence will bear them because we believe that this is a very important change we are making to service terms and conditions for new recruits from April 2005.

  Q3  Rachel Squire: Can I ask you whether the overall costs will be greater or lesser than the current scheme?

  Mr Caplin: The cost of providing benefits is broadly at the moment 22%. You have seen some of these figures. I have rather a hefty note here which I am happy to share with the Committee on accruing superannuation which will explain some of the issues in relation to the 22% to the 24.5% that some people have been mentioning. The cost of providing the current pension scheme is going to go up due to the improving life expectancy. That is our expectation at the present time. That was set out in a table we provided to the Committee previously. Until the new scheme has been introduced, there will be a need to increase our accruing superannuation liability costs by not more than 2.5%. That brings us up to 24.5% of the average pay bill for the Armed forces. Against that expectation, best actuaruial estimates show, there will eventually be savings from the slippage of preserved pensions in the current scheme, once a decision has been taken by government on when this becomes compulsory and also as significant numbers enter service on the new scheme. Ultimately, we consider it appropriate for those entering service on the new scheme that they should bear the bulk of the cost of longevity as on average it is they and their widows who can expect to have longer lives. This relates to the two schemes running in parallel, creating possible extra expense at the present time. Eventually, that will fall off. We will be in a position where it will be cost neutral at 22% of the pay bill as it is today.

  Q4  Rachel Squire: With the initially increased costs and later on a reduction in the overall cost, how are the initial increased costs going to be funded?

  Mr Caplin: I have made clear right from the start that if we are in a situation where the Ministry of Defence has to bear some costs on day one, 6 April 2005, then we will bear those costs. In my view, it is unlikely that we will be in that position, but I am making the necessary provisions should we have to do so. I expect this new pension scheme to be cost neutral year on year, but I have to make some expectation provision at the present time that there could be some initial costs, including the 2.5% that I have just informed the Committee about. Jonathan can give you more detail on the technicalities of that, or we can give you some more information at the conclusion of the Committee in writing.[1]

  Q5  Rachel Squire: One of the things we may look at this afternoon is how much detail has been worked out. One of the general concerns is are there benefits that have been cut to finance improvements elsewhere in the scheme and are there savings being made which will not go to finance those improvements in the scheme.

  Mr Caplin: The big change, as everyone here on the Committee knows, is the change to the early leavers scheme. We are in a position where we have to accede to Inland Revenue requirements, forthcoming government legislation on pensions, the government Green Paper on pensions. Our role has been to take all of that into account, but still try to put forward a scheme that deals with our recruitment and retention requirements, which are to keep people in the Armed forces as long as possible and certainly through those key years when they are being trained and developed and becoming very effective in any of the three services. That is the aim and aspiration we have for this scheme. I believe we have managed to do that, but there is no denying that that is different from the current scheme. There are lots of differences. There are benefits that have changed as well. No doubt we will get on to that later.

  Q6  Mr Howarth: Can I pursue those points that you have just raised? If you are saying that you recognise in the interim there will be an increased cost based on the new actuarial assumptions but you cannot tell us how much those costs are, that is not entirely satisfactory and I will tell you why. It is because we already know that the defence budget is under pressure. I am sure you will say every government department budget is under pressure, but I think it would be helpful if you could give us some ball park estimate as to how much extra this transitional arrangement is likely to cost and how much it is likely to run for, because it is about 10% extra over the existing budgeted provision for pensions.

  Mr Caplin: The issue about transition is that we have made absolutely clear from the start that there will be the individual choice for current members of the Armed forces whether or not they join the new pension scheme. There will be a transition period when the new scheme will be up and running, if we get it through both Houses of Parliament of course, and the old scheme will still be running as well. Members of the Armed forces will have to choose whether or not they join one or other pension scheme. There are inevitable costs in that but, as I have already made clear publicly and this afternoon, these are costs that we will bear if they come about. We are very serious about securing the best pension and compensation arrangements that we can for our Armed forces.

  Q7  Mr Howarth: My point is that you have a finite budget and within that budget you have to establish priorities. If you are saying that this is going to be an overriding priority, the pinch is going to be felt somewhere else in the defence budget.

  Mr Caplin: We are not here to speculate on the budget situation of the Ministry of Defence or any other government department. We are obviously well aware that if there were some initial costs the Ministry would have to bear them. We are talking about 2005 onwards, so we can plan for them and I think that is very important in terms of our short term budgeting approach.

  Q8  Mr Howarth: I am sorry you cannot give us some kind of figure, whether it is likely to be tens of millions of pounds or hundreds of millions of pounds. Perhaps Mr Iremonger might be able to assist?

  Mr Caplin: In terms of figures, it is far too early. I know the Committee has been through this for two years, but you will appreciate we are now at a very critical stage as to whether or not this Bill is in the Queen's Speech and then we would have the opportunity for both Houses of Parliament to examine it. I accept that some of these issues will come about as we discuss that.

  Mr Iremonger: We do not have a final figure for the cost. The cost increase relates to the existing scheme, not to the new scheme. That arises from taking account of longevity assumption changes. People are living longer. They are spending longer in retirement. Therefore, pension costs are going up. That in itself has nothing to do with the new scheme. In terms of how much money is involved in that, we do not know precisely in the sense we have a figure which says roughly that the 2.5% is worth about £125 million, but that is not the end of the issue. That is a figure based on an assumption about new entrants to our scheme, people coming in now, who will not start drawing benefits until 40 years' time. The accruing cost of the scheme does not relate solely to those coming in now; it relates to a lot of people who are in the scheme already. The final figure is likely to be a little less than the £125 million but until we have agreed with our actuary and the Treasury exactly what the figure should be the £125 million is the top mark. Every other public sector scheme has the same problems and they will be addressing the same issue about how to manage those costs into their budgets as they get the same news, effectively.

  Q9  Mr Howarth: Reference has already been made to the actuarial assumptions of last year. We were told by the Ministry that the actuarial assumptions being used to calculate the costs of the existing and proposed schemes were the same. This year you have announced that changes will be "broadly cost-neutral, taking account of the steps taken to cover increasing longevity costs." The question arising is why these new assumptions have been made and why they were not built in, in the first place, but I will leave that on one side and ask you whether this change means that some of the cost savings you will be making under the new schemes will go to pay for pensioners" improved life expectancy, rather than to improve the benefits available under the scheme. [2]

  Mr Caplin: We have put forward a comprehensive package of improved benefits for the new scheme. They are fundamentally different, I accept, to the old scheme. At some stage this afternoon, it may be useful to put on the record those differences, if the Committee wants me to. The cost neutrality of the situation I have already described in relation to the two schemes. What we need to achieve is the right balance here and I think we have in terms of the benefits that we are able to offer in the new scheme which are considerably better. A 25% increase in widows" benefits is one of them.

  Q10  Mr Howarth: How would you respond to the suggestion that you are stretching the definition of "cost neutral", given that the same pensioners would live longer whatever the scheme was that you put in place?

  Mr Caplin: I do not think we are stretching cost neutral. The aim that we have set ourselves is to have cost neutrality in the scheme by changing in particular the early departure scheme that we have already mentioned. Because of long term government policy changes in pension policy, it does produce costs changes that we can use for benefit improvements. I suppose the genuine answer here is that we will know a lot more in 2005 when the scheme starts—how many people transfer, etc., and that is something I cannot prejudge this afternoon.

  Q11  Mr Roy: Are you content that the level of pension benefits will be fair for the vast majority of personnel who will leave service before the age of 40? I am concerned that officers are given a privileged pension opportunity over the lower ranked personnel because they are able to serve for a longer period. Is this not unfair to the vast majority?

  Mr Caplin: No, it is not unfair. It is the way that the old scheme has grown up. That scheme has been in existence since the end of 1973, I think. The last changes were 30 years ago to a scheme some years before that. I do not think it is wrong that we would have different terms. The one area of change that we are proposing in the new pension scheme is to base the pension on final salary. It will be much more relevant to the salary that someone earns, rather than the rank. I think that is an important change. At the moment, as I am sure you are aware, there is a hypothecated amount based on rank.[3]

  Q12  Mr Roy: Is there not some sort of distant correlation between the rank and the amount of salary—ie, the higher the rank, the higher the salary?

  Mr Caplin: There is. That is a natural cause. What we are trying to do is to use real figures here, people's salaries, to base their pensions on. This is consistent with good private sector practice and other public sectors as well will probably move to this system in time, if they are not already there. The idea is to use people's final salary for their pensions rather than a mythical amount of money based on rank[4], which is what happens at the present time.

  Q13  Mr Roy: I still have it in my head that the officers of higher rank will be getting more money.

  Mr Caplin: They will get bigger pensions. I am not denying that.

  Mr Iremonger: Under the existing scheme, other ranks have to serve longer to get a pension, to get an immediate pension—that is the early pension—and, under the new scheme, we have done away with that. We have produced a fairer system whereby officers and other ranks will serve the same period to get the immediate pension and the same period to get a full pension. In terms of what we have done on the immediate pension, the change to the value of what you get between the ages of 18 and 35, that is not to the disadvantage of other ranks at all. The majority of other ranks go before the 18 year period. One of the criticisms of our schemes was that too much money was in that middle period of pension and that we ought to take money out of that; that it was disproportionate to what you would get in the private sector scheme outside or in other public sector schemes. Effectively, that is what we have done. We have taken that money and given it to widows who, in large number, will come from the other ranks. Death in service benefit, ditto. If you look at the recent war, the majority of those who have been killed have been other ranks. We are taking money from that middle period where we do not think they need the money so much, because the skills they have are ones now that ought to enable them to get a reasonable job outside, and giving it much more widely, particularly to widows and their dependents but also to unmarried partners. A lot of the unmarried partners are among other ranks as well.

  Q14  Mr Roy: Do you acknowledge that, of those who serve until the early departure point—ie, age 40—very few will be given the chance to accrue a full career pension within the Armed forces?

  Mr Caplin: Do you mean my answer earlier?

  Q15  Mr Roy: Yes, to take it further.

  Mr Caplin: I think I was referring to the old scheme there and the superannuation point I was making earlier, which is incredibly technical. Maybe I should clarify that in writing. On the issue about early departure, I said earlier that it is important that the services have the opportunity to still bring people through from the moment of recruitment to those key years when they train, develop and are effective members of the Armed forces. That is not an age issue; that is a very important issue after five, ten, 12 or 15 years in many of our forces and we do not want to lose that expertise. We try to design an arrangement that will satisfy long term government pension policy, the Inland Revenue and still leave us with that recruiting and retention advantage in the Armed forces which is critical to us. That is where we are in terms of the early departure scheme.

  Q16  Mr Roy: In relation to the full picture and career structure, how has this affected the MoD's thinking on the sorts of benefit that former personnel deserve to receive? Do you think this does help the big picture or not?

  Mr Caplin: There are two points: firstly, when I launched the scheme, I made it clear that I thought the pension scheme was a significant improvement on the current scheme. It is one that I think will be welcomed, but my clarification on my second point is that the transfer of an individual member to that pension scheme is a matter for individual choice. There will be no compulsion in transferring to the new scheme.

  Q17  Mr Roy: Do you think the base for this is going to be a saleable item?

  Mr Caplin: I am in a difficult position here because none of us is licensed to give financial advice. If I say that this is the scheme and all members of the Armed forces should join it, that could be construed as a breach of the Financial Services Act, which is not something that I would want to do. That is why I have been insistent that—

  Q18  Mr Roy: Surely you must accept that there is either an improvement or there is not? Do you think you can put the case: here is a pension scheme that is an improvement for you as service personnel? You do not need a financial adviser.

  Mr Caplin: They may do. Are you talking about current Armed forces or future Armed forces?

  Q19  Mr Roy: Future.

  Mr Caplin: Those who join us from 6 April 2005, provided we have been able to get this legislation through both Houses, will automatically enter the new scheme. Those who are still on the old scheme on 6 April 2005 will have the choice. I believe that we are putting forward a new scheme which offers significant improvements to those new recruits from 6 April 2005 but I am not prepared to say that everyone has to join it.


1   Ev 39 Back

2   Ev 39 Back

3   Note from Witness: Replace with a median pay rate for the rank. Back

4   Note from Witness: Replace with a median pay rate for the rank. Back


 
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