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Session 2005 - 06
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Standing Committee Debates

Draft Occupational Pension Schemes
(Levy Ceiling) Order 2006

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Third Standing Committee
on Delegated Legislation

The Committee consisted of the following Members:


Mr. Martyn Jones

†Alexander, Danny (Inverness, Nairn, Badenoch and Strathspey) (LD)
†Atkins, Charlotte (Staffordshire, Moorlands) (Lab)
Davies, Philip (Shipley) (Con)
†Dunne, Mr. Philip (Ludlow) (Con)
†Goodman, Helen (Bishop Auckland) (Lab)
†Heppell, Mr. John (Vice-Chamberlain of Her Majesty’s Household)
†Johnson, Ms Diana R. (Kingston upon Hull, North) (Lab)
Jones, Mr. David (Clwyd, West) (Con)
†Kemp, Mr. Fraser (Houghton and Washington, East) (Lab)
Laws, Mr. David (Yeovil) (LD)
†Marsden, Mr. Gordon (Blackpool, South) (Lab)
†Norris, Dan (Wansdyke) (Lab)
†Southworth, Helen (Warrington, South) (Lab)
†Spellar, Mr. John (Warley) (Lab)
†Timms, Mr. Stephen (Minister for Pensions Reform)
†Waterson, Mr. Nigel (Eastbourne) (Con)
Watkinson, Angela (Upminster) (Con)
Glenn McKee, Committee Clerk
† attended the Committee

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Wednesday 8 March 2006

[Mr. Martyn Jones in the Chair]

Draft Occupational Pension Schemes
(Levy Ceiling) Order 2006

2.30 pm

The Minister for Pensions Reform (Mr. Stephen Timms): I beg to move,

    That the Committee has considered the draft Occupational Pension Schemes (Levy Ceiling) Order 2006.

I begin by warmly welcoming you to the Chair, Mr. Jones.

Hon. Members will know that the Pension Protection Fund was established to provide compensation to members of eligible defined benefit occupational pension schemes if the employer becomes insolvent. It is funded through the assets of the schemes for which it assumes responsibility and from an annual levy charged to all qualifying defined benefit occupational pension schemes. Calculating and setting the levy is the responsibility of the PPF. The estimate for 2006-07 is £575 million, and it follows two separate consultation exercises on the levy calculation and the levy estimates.

To put the amount into a wider context, £575 million is a substantial sum, but it is equivalent to £38 per scheme member. For comparison, a scheme’s administration costs equate to about £46 per member, and a scheme’s fund management costs equate to £43 per member. It is in that context that the levy amount needs to be judged. It is also worth underlining the fact that, following consultation, the PPF introduced a levy cap so that no scheme’s levy payment would be more than 0.5 per cent. of its liabilities.

The Pensions Act 2004 provides two restrictions on the growth of the levy: first, a maximum of 25 per cent. by which the levy can be raised in any one year, and, secondly, an overall ceiling on the amount of levy that can be charged by the PPF in the future. That is the amount that we are dealing with today. The order, which has been agreed with the Treasury, sets the overall levy ceiling at £775 million.

During passage of the Bill through Parliament in 2004, the levy estimate was £300 million, as the hon. Member for Eastbourne (Mr. Waterson) well remembers. It was suggested that the overall levy ceiling might be twice that at £600 million. Those figures were set out in the regulatory impact assessment that accompanied the Bill and were based on data from December 2003. Assumptions have changed significantly since then, particularly for longevity and interest rates, leading to the higher levy estimate of £575 million that was announced before Christmas. If the formula that was used before were applied, the ceiling would be twice £575 million, or
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£1.15 billion. However, the Government took the view that that figure would be too high, given the cost to business.

There have been several improvements in the affordability of the levy since the initial PPF proposals. I mentioned the levy cap at 0.5 per cent. of liabilities, which is new. It is also now the case that schemes do not have to pay any risk-based levy at all if their funding level is 125 per cent. on a PPF basis, which corresponds to full buy-out of the scheme’s PPF liabilities. Arrangements that release cash into a scheme on the insolvency of the employer can also reduce levy liabilities. Those arrangements are known as contingent assets.

Companies are responding well to the package of incentives that have come together in the PPF. For example, Sainsbury’s recently said that it would inject £350 million into its pension scheme, HBOS announced £1 billion and ICI said that it would double contributions to its main UK scheme over the next four years. All of those announcements and others like them are welcome. Given the efforts of companies to reduce their deficits and better manage their pension schemes, it is increasingly likely that the PPF may not need to collect the full £575 million that it has estimated for 2006-07. The levy may well come in a little lower than that.

Having considered affordability, we needed to find a balance between two key issues when setting the ceiling. The first was protecting the independence given to the PPF by the Pensions Act to set levies. Allowing the PPF to set the levies at the rate that it considers appropriate is one of the most important lessons that we have learned from the experience of the Pension Benefit Guaranty Corporation in the US, and it will do much to ensure the long-term viability of the fund. We must recognise and allow for the possibility that the PPF may need to charge more in future years than it expects in the coming year.

The PPF’s independence must be balanced with the need to provide reassurance to businesses about the long-term affordability of the pension protection levy. We must consider how low we can set the ceiling without damaging PPF independence. We began by considering the 25 per cent. rule in the Pensions Act, which restricts the annual growth of the levy. It would not be right to set the ceiling in such a way that that provision were ignored, allowing the PPF not even one full year of independence. Parliament took the view that it was right to have in place the 25 per cent. rule. We took the view that the ceiling should be more than 25 per cent. above £575 million. The figure that we have chosen—£720 million—represents an overall headroom of not 25 per cent. but 35 per cent., to deal with unexpectedly large claims or shocks.

That figure gives the PPF a more appropriate level of independence, while maintaining a meaningful level of constraint over the growth of the levies. A higher figure would also mean some danger: the ceiling could be left disproportionately high, because the risk posed to the PPF reduces as a consequence of improvements through scheme funding. That is a particular concern, given that the ceiling will be uprated annually in line
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with earnings, as the 2004 Act sets out. It is also worth remembering that after consultation, it is possible for the PPF board to request that the ceiling be raised, although that would be subject to a new order under the affirmative procedure and a further debate in Parliament.

Publication of the levy ceiling figure gave rise to some negative reaction, particularly from the CBI. Some press coverage reflected a misunderstanding of the position, and there has been some confusion between the levy ceiling and the actual levy. The levy is determined by the PPF, taking into account affordability, and is the cost to business. The levy ceiling is a constraint on how far it might rise in the future. Contrary to some reports, the levy cannot increase to £775 million in the coming year or, indeed, in the year after that. The estimate for the coming year is £575 million, it cannot increase by more than 25 per cent. in the year after that.

The order, which I am content is compatible with the European convention on human rights, ensures that a ceiling is imposed on the PPF levy, in line with the requirements of the Pensions Act 2004. The levy may not rise beyond that ceiling without a return to Parliament and a debate. The figure for the ceiling aims to create a balance that will protect scheme members and reassure levy payers that the potential growth of the levy will be constrained. I commend the order to the Committee.

2.38 pm

Mr. Nigel Waterson (Eastbourne) (Con): It is a great pleasure to serve under your chairmanship, Mr. Jones.

I thank the Minister for his introduction to the regulation. On the face of it, it is quite simple. However, it increases dramatically the possible burden on British business of the PPF levy—the ceiling of £775 million for the year beginning 1 April. It seems remarkable that the Minister tried to present the ceiling as good for and advantageous to business because it would know that its liability would not increase beyond that figure in the short term.

It is worth recapping on the immediate aftermath of the 2004 Act—legislation with which I was so closely involved during Committee and all its other stages. The Minister did not touch on the closure of the final salary schemes, not only to new members but to existing members, of companies such as Rentokil and the Co-op. We are seeing a complete cull of final salary schemes in this country.

The other problem is that we already have a growing deficit in the PPF. In answer to a question that I tabled a while ago, the Minister replied that as at 31 December last year there were 40 schemes in assessment for the PPF. Assets in the schemes totalled £1.027 billion, with liabilities of £1.417 billion. Even with my limited arithmetical skills, that already produces an estimated deficit of nearly £400 million, in the early life of the PPF.

It is also worth referring to the regulatory impact assessment attached to the order. Under the objectives at the beginning of annex A, it says that the point of this level of levy is to allow the PPF

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    “to react to shocks such as sudden economic downturns or large schemes joining the Pension Protection Fund.”

Does the Minister have some knowledge, to which I am not privy, about the likelihood of an economic downturn, as he is obviously in daily contact with his Treasury colleagues, or does he know of some large scheme that is potentially going to join the PPF in the near future?

The assessment goes on to say that another of the objectives is to

    “allow businesses to plan ahead with confidence by providing an overall ceiling”.

Of course, on one level one can claim that that is a way of allowing companies to plan ahead. Why, though, would a company that is already buffeted by the excess of cost and regulation on final salary schemes want to plan ahead in any other way than by considering the closure of its final salary scheme, when faced by the level of extra cost set out in the order?

It is worth repeating something that the Minister touched on. When we debated the Pensions Bill in Committee, the regulatory impact assessment that was produced at that stage showed that the cost of the levy to British industry would be about £300 million a year. The Opposition said at the time that that was a massive underestimate, as did the CBI and a number of other business organisations, but Ministers assured us that it would be the accurate cost to British business of the PPF levy. It then went up to £600 million, and it has now gone up to £775 million.

It is also worth looking at the current regulatory impact assessment, which says:

    “The Government believes that Option 4,”—

which is the option that we are debating—

    “a ceiling at £775m, will protect the employees of small and medium sized businesses by ensuring that the Pension Protection Fund cannot charge an unacceptably high levy, while providing them with a safety net should their employers become insolvent.”

I am not sure that that will produce a lot of confidence among small and medium-sized businesses, who already struggling to deal not only with their day-to-day expenses but with the requirements of the regulator in terms of funding for their pension fund deficits on a 10-year horizon.

One of the advantages of option 4 —the £775 million option—is said to be that it

    “retains the effectiveness of the ceiling as a control over the growth of the levy itself, meaning that business can be reassured that the costs of the levy will remain affordable.”

Presumably the Government thought that the costs were affordable when they were looking at a figure of £300 million. What makes them think that a figure of £775 million is equally affordable? With touching naivety the assessment continues, under the heading “Disadvantages”:

    “£775 million could still be seen as a relatively high figure,”—

yes, it could be—

    “given the original £600 million estimate.”

It fails to mention the original £300 million estimate, but let us gloss over that.

The current regulatory impact assessment is an exercise in Jesuitical casuistry. The document makes clear that the latest figure allows headroom of 34.8 per cent. How many business men base their businesses on
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figures that are wrong by nearly 35 per cent.? Why is that enormous headroom built into the figures? Given what the Minister said about shocks in his opening remarks, do he or the Treasury expect an economic downturn? Does he expect some large British companies to go bust in the near future, with their pension fund deficits falling on the PPF?

The documents make no mention of the power that the Government insisted on inserting in the Act to reduce benefits if times became difficult. What is the Government’s current thinking on when that would be an appropriate response?

The Minister was good enough to touch on the remarks of the CBI, but I remind him, if he needs reminding, what the deputy director general, John Cridland, said about those figures. He said that they are more than double the Government’s original estimate, with an annual cost to business of £300 million. He then said:

    “Business saw that sum as a price worth paying to protect scheme members’ benefits, but the potential for an increase to £775 million in the first year of operation would be wholly unacceptable to UK firms. Many now view the additional cost of the PPF as little more than a tax on their pension scheme, and fear that total annual costs could continue to spiral.”

He concluded:

    “Where is the logic in paying so many millions into a fund that the vast majority of companies will never need, when they could be using some of that money to reduce their pension scheme deficit instead?”

I cannot improve on that question. Perhaps the Minister will tackle it when winding up.

Mr. Timms: The hon. Gentleman correctly quoted what the deputy director general said, but my understanding—the hon. Gentleman can correct me if I am wrong—is that the Conservative party supports the principle of the PPF and its funding mechanism. Taking the view that he quoted would rob the PPF of its source of funding and the protection that it provides. I am not aware of anyone having coming up with alternative ways of funding it. Will the hon. Gentleman clarify his position, which I think is different from that of the CBI?

Mr. Waterson: I am happy to do so. The original estimate of the cost to British and industry was £300 million; it is now £775 million.

Mr. Timms rose—

Mr. Waterson: I shall finish the point before I give way. Life experience tells us that when a public body such as the PPF comes up with a ceiling figure, it is going to bump up against it in the next year or two. Does the Minister think this a reasonable burden to place on British business, and—this is a good moment for him to deal with my earlier question—why should it need 35 per cent. headroom, unless there is some really bad news around the corner to which other members of the Committee are not privy?

Mr. Timms: I shall deal with those points later. The hon. Gentleman has twice confused the levy amount with the ceiling. He is right that the initial levy estimate
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was £300 million; it is now £575 million. The levy ceiling was originally estimated at £600 million, and it has risen to £775 million. Nothing has risen from £300 million to £600 million and then to £775 million, as he implies. They are two different things.

Mr. Waterson: The Minister says that we are talking about two different things, but I do not believe that and nor does the CBI. The CBI is obviously deeply suspicious—a suspicion that I share—that we will arrive at the £775 million figure in fairly short order.

I ask the Minister to comment on one final point. In the document produced in July 2005, the PPF produced some fairly detailed assessments of the liabilities, deficits and so on likely to fall upon it, yet its December document seems to be suspiciously short of the relevant data. Was that because the July estimates were hopelessly wrong, or was it thought to be surplus to requirements to have the relevant data? What seems to have occurred between those two dates is that the likely assets of the PPF deficits fell by £156 million at a time when the market was rising. Will the Minister say how those figures came about, and what is the relationship between what was suggested in December and the figures put forward in July? Will he confirm that the suspicion of many in the industry that the July figures were hopelessly inaccurate is in fact the case?

Having said all that, we do not support the order. We believe that it will end up putting a further burden on British industry.

2.51 pm

Danny Alexander (Inverness, Nairn, Badenoch and Strathspey) (LD): It is a pleasure, Mr. Jones, to serve under your chairmanship for the first time. I congratulate the Minister on the clear way he set out the contents of the regulations. I shall not speak for long, not least because I am likely to break out in a sneezing fit at any moment. I shall keep my remarks brief, which will please the Committee.

I broadly welcome the order. Indeed, Liberal Democrat Members broadly welcome the flexible and pragmatic way the Pension Protection Fund has been set up. It is now going about its business, not least under the recently debated regulations that allow contingent assets to be taken into account; for example, in assessing the risk-based levy, which is a good step forward.

The Minister referred to some broader issues, on which I have some questions. The first is about the CBI attitude to the levy ceiling. As my colleague, Lord Oakeshott of Seagrove Bay, recently said in the other place, the CBI’s attitude seems a little odd. It seems to be asking for a great deal of certainty, yet it is difficult to promise a degree of certainty for the future. It is not clear, in such matters, what the position will be in a few years. What is the CBI’s alternative? Is it to have no PPF, because the situation is inherently unpredictable? Is it saying that we should let pension funds go by the board, left, right and centre, depending on what happens? Within practical limits—I believe that the order offers such limits—the CBI’s attitude is somewhat strange.

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The Minister made a clear distinction between the levy ceiling and the levy itself, which is right in the present context, but I wonder whether he would consider gazing into his crystal ball. Will he offer the CBI some reassurance? All things being equal, does he foresee the current ceiling of £775 million persisting for a number of years, or does he expect us to have to come back next year and in subsequent years to continually raise the ceiling? If that were to come to pass, one could understand a degree of concern. I appreciate that the Minister cannot see into the future—none of us can—but if he could reassure us on that point, it would help the business community.

The protection offered by the PPF is welcome to those who are covered by it. It is important to remember that members of those schemes that may in the future face financial problems will be beneficiaries of the PPF. It is also worth reflecting on those who have missed out—those people whose schemes went bust before the PPF was set up, and in particular those people who were more than three years from retirement age and also miss out on the protection from the financial assistance scheme.

In these debates, I often press the Minister about the financial assistance scheme. It is an important matter, and there are many tens of thousands of people who have missed out on that protection and may look with envy at the PPF, particularly given the levy ceiling and the amount of money that business is being asked to contribute annually so that in future, people who face problems will be protected. I hope that the Minister will continue to consider extending the protection offered under the financial assistance scheme to people who have faced such problems in the past.

2.56 pm

Mr. Philip Dunne (Ludlow) (Con): I shall not detain the Committee for long, and I apologise to the Minister for not being present for all of his opening remarks.

I should like to raise with the Minister one or two questions about the PPF. In reviewing the regulatory impact assessment, it was disappointing to note that there was no attempt to indicate the PPF’s commercial impact on schemes. I am not sure whether the Minister can enlighten the Committee, but in his closing statement, it would be helpful if he could tell us how many final salary schemes have been closed to new entrants since the PPF was established, and how many he expects will close as a direct result of the proposed near doubling of the levy. The ceiling is a matter of relative academic interest; the hard cost to business of increasing the levy is at the heart of the issue, and of concern. Although I am sure that those scheme participants who are faced with the possibility of a collapse will, post-event, be grateful for the PPF’s existence, far more employees of final salary schemes will be concerned that more and more schemes attracting benefits for employees and scheme members are being closed.

What increase in the levy does the Minister assume will take place during the next year? The regulatory impact assessment presents a range of 10 to 25 per cent.
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At the upper end of that range, 25 per cent. is an enormous increase for many companies struggling to make good the deficits in their pension funds. I hope that he can enlighten us about the assumptions on which the Government and the people who manage the PPF are working.

Finally, is there a deliberate Government policy to seek closure of final salary pension schemes? The Government cannot blame the market for this issue. They have put in place several measures that are leading directly to the closure of final salary schemes. If it is a deliberate policy, let us be open about it.

2.58 pm

Mr. Timms: I shall respond first to the points made by the hon. Members for Eastbourne and for Ludlow (Mr. Dunne).

The hon. Member for Eastbourne referred to a cull of defined benefit schemes, and the hon. Member for Ludlow suggested that the Government had contributed to that. It is important to recall that we are seeing the closure of defined benefit schemes in not only this country, but every country where there are defined benefit schemes. In Australia, there are almost no defined benefit schemes, and from what I can see from data in the United States, the rate of closure there has been greater than in the UK. The reasons for that are simple: rapidly rising life expectancy, which is a good thing but significantly increases the liabilities of defined benefit schemes, and stock market volatility during the past six or seven years. Considering the experience of defined benefit schemes in other countries, the closures are a consequence not of the changes being made in this country, but of much larger scale trends affecting the whole developed world.

Mr. Waterson: Given that the ethos behind the Pensions Bill was to protect and encourage final salary schemes, does the Minister regret the enormous acceleration in the closure of such schemes to new members and, in many cases, to existing members?

Mr. Timms: It is certainly true that there has been a continuation of a trend in the closure of defined benefit schemes which goes back a long way. I have not detected an acceleration of late, but there is undoubtedly a continuing trend. For those who are in defined benefit schemes, it is enormously reassuring to have the PPF in place. It means that they will not find themselves in the position that the hon. Member for Inverness, Nairn, Badenoch and Strathspey (Danny Alexander) described. People whose employers became insolvent and whose schemes were underfunded before the PPF was in place face a difficult situation indeed. The principal benefit of the PPF is that members of defined benefit schemes can have much greater confidence than before. It is a great boon to defined benefit scheme members.

I always assumed that that was why the Conservatives supported the principle and the funding mechanism. If the hon. Member for Eastbourne supports the aims—I believe that he does—he must also support the mechanism for funding those aims. I
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am grateful to the hon. Member for Inverness, Nairn, Badenoch and Strathspey for accepting the logic of that position.

The hon. Member for Eastbourne asked me to say what shocks I expected in the economy. Of course, the great benefit of the macro-economic policy framework introduced in 1997 is that there has been a new stability—quite unprecedented in UK experience—in the British economy. I am thankful that there has been an end to boom and bust, and I am grateful to the hon. Gentleman for giving me the opportunity to remind him of those facts.

It is indeed open to the PPF to reduce benefits if it determines that that is necessary. However, there are no plans to do so, and I would not expect it to do so, given things as they are at present.

The hon. Gentleman asked me a question about the data in the PPF consultation document. I believe that he was comparing data in the summer document with data in the document that appeared at the end of last year. I do not have the documents with me, and I am not quite sure to which data he refers. If he wants to drop me a line, I will be happy to arrange for someone from the PPF to clarify that point for him.

The hon. Member for Inverness, Nairn, Badenoch and Strathspey asked what trajectory we might expect the levy and the levy ceiling to take in the future. I hope that the ceiling that we are setting today will, in his words, persist for a number of years. Of course, as I said in opening the debate, the 2004 Act provides for the ceiling to be uprated annually with earnings, so there will be increases. However, given that uprating, I hope that it will not be necessary for a long time to review the ceiling.

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I agree with the hon. Gentleman about the importance of the financial assistance scheme. As he knows, we shall review the funding for that scheme and, therefore, the extent of its coverage, in the work leading to the comprehensive spending review, the outcome of which will be announced in the summer next year.

The hon. Gentleman asked me about the short-term plans for the PPF levy. Modelling work on the 2007-08 levy will begin in July next year, and it is anticipated that the estimate for 2007-08 will be announced in November or December this year. I commend the order to the Committee.

Question put:

The Committee divided: Ayes 11, Noes 2.

[Division No. 1]


Alexander, Danny
Atkins, Charlotte
Goodman, Helen
Heppell, Mr. John
Johnson, Ms Diana R.
Kemp, Mr. Fraser
Marsden, Mr. Gordon
Norris, Dan
Southworth, Helen
Spellar, Mr. John
Timms, Mr. Stephen


Dunne, Mr. Philip
Waterson, Mr. Nigel

Question accordingly agreed to.


    That the Committee has considered the draft Occupational Pension Schemes (Levy Ceiling) Order 2006.

Committee rose at six minutes past Three o’clock.


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