Care schemes – career average revalued earnings
I keep hearing about Care schemes – but what are they?Care stands for career average revalued earnings – there, job done.
That's all very well, but what does it actually mean?
Let's take it in two parts.
Career average: broadly, this means that your pension is calculated as a percentage of the average of all your pensionable earnings for each year that you contributed to the scheme – not just your pensionable earnings near retirement, as in a final-salary scheme.
Revalued earnings: all those earnings will be increased every year from the year they are earned until retirement.
How earnings are increased (that is, revalued) depends on the rules of the scheme and can be some measure of earnings or inflation.
What actually happens?
For each year of service in the Care scheme you will earn a portion of your pension as a percentage of the pensionable pay you earn for that year.
Pensionable pay is basic salary plus contractual benefits – it usually excludes overtime payments for example.
The pension earned in each year of service is added together to form the final pension that you will receive on retirement.
So if you have 10 years in the pension scheme, your pension will be based on the pensionable pay you get for each of the 10 years.
It can be easier to view each year of pension earned as an individual pension 'pot' – each year you add a new pot and when you retire your final pension will be all the pension 'pots' added together.
How much pension will I earn each year?
How much pension you earn each year is determined by the 'accrual rate' and is usually shown as a fraction or percentage of your pensionable salary.
The rate can differ widely from scheme to scheme – at one stage, the government was talking about members only earning a 1/100th or 1% of their salary each year.
On 2 November, the eve of the UNISON ballot result, the government said that it would offer 1/60ths – 1.66% of salary.
This is why the 'accrual' rate matters so much – the lower the bottom number of that fraction, the more of your salary you earn for each year of service.
But won't inflation mean that what I earned in the first year will be worthless by the time I retire?
That is where the 'revalued earnings' bit comes in.
Every year, your individual pension 'pots' earned to date will be 'revalued' – increased in line with an agreed inflation or earnings index.
This is usually some link to one of three main options – the consumer price index (CPI), the retail price index (RPI) or the average earnings index.
CPI would generally be the worst and traditionally, average earnings would have been considered the best.
This is the method used to ensure your notional pension 'pots' maintain their value until you are ready to draw your full pension.
For some people, this can end up being worth more than the actual rate at which their pay increased each year – eg where pay settlements have tended to be fairly low year on year – for those people the pension pots are not just maintaining their value but actually increasing in relative value.
It's worth noting that recent changes to how the average earnings index is calculated has meant that experts are currently unsure how good a link to average earnings will be.
It is very unpredictable, which is why we are seeing an increase in schemes opting for CPI or RPI, plus a set percentage – eg RPI + 0.5% or CPI +1.5% – they represent an improvement on the basic measure of inflation without the unpredicatability of a link purely to earnings.
So what is best for my pension – a better accrual rate (how much pension I earn each year) or a better revaluation rate of what I've earned as pension so far?
It isn't that simple as they work together and generally, when negotiating the detail of how a scheme will work, the balance is between those two factors.
Generally, the better the accrual rate the worse the revaluation rate and vice versa as they both affect how much pension you actually receive on retirement.
A bad Care scheme would have a low 'accrual rate' such as 1/100th and a poor inflation link – CPI.
But even with a good scheme, where both factors are reasonable, deciding what exact balance works best for any given workforce is complicated, as different groups – those with long vs short careers or those with high or low career progression – will be affected differently. This is why we use pensions professionals to advise us about the impact on our membership all the way!
Why are some people better off with a Care scheme – I thought final-salary schemes are always better?
Final-salary schemes are generally seen as good because they are reasonably predictable, usually generous and simple to calculate.
They are usually considered fairly good for everyone and particularly benefit those who have gained promotions later in their career. Final-salary schemes were designed to be a retention tool that benefited those with long service records.
Care schemes can be designed to be just as generous – our negotiations have revolved around this not being a cost-cutting exercise.
The benefits are spread more evenly across the membership and are reasonably predictable but more complicated to calculate. They tend to favour the low-paid and careers that don't rise sharply toward the end of a career, as the revaluation factor can represent more than was actually received in pay rises each year.
Where a Care scheme has a better accrual rate than the final-salary scheme, and the revaluation index is reasonable, it should reflect good value for all members, with possibly an improvement for some and no worse for many.
Care favours those whose grade is largely unchanged during their membership of the scheme and those whose careers have levelled off by the time the Care scheme comes in. It also favours those who have career breaks or shortened careers.
This usually means the low-paid and part-time workers – mainly women, who have breaks in their careers. For this reason, Care is regarded as better equality proofed.
(InFocus, February 2011)
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